<PAGE> 1
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 0-9211
------
NATIONAL INCOME REALTY TRUST
------------------------------------------------------
(Exact name of registrant as specified in its charter)
California 94-2537061
- --------------------------------------------- -------------------
(State or other jurisdiction of incorporation (I.R.S. Employer
or organization) Identification No.)
280 Park Avenue, East Building, 20th Floor, New York, NY 10017
--------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
(212) 949-5000
----------------------------------------------------
(Registrant's telephone number, including area code)
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 requirements for the past 90 days. Yes X No
--- ---
Shares of Beneficial Interest, No par value 3,485,796
- ------------------------------------------- -------------------------------
(Class) (Outstanding at August 4, 1997)
1
<PAGE> 2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
The accompanying Consolidated Financial Statements have not been audited by
independent certified public accountants, but, in the opinion of the management
of National Income Realty Trust (the "Trust"), all adjustments (consisting of
normal recurring accruals) necessary for a fair presentation of consolidated
results of operations, consolidated financial position, and consolidated cash
flows at the dates and for the periods indicated have been included.
NATIONAL INCOME REALTY TRUST
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands)
<TABLE>
<CAPTION>
June 30, December 31,
1997 1996
--------- ---------
(unaudited) (audited)
<S> <C> <C>
Assets
Real estate held for sale (net of accumulated depreciation
of $347 in 1997 and $397 in 1996) ............................................ $ 4,435 $ 12,198
Less - allowance for estimated losses .......................................... (1,195) (1,529)
--------- ---------
3,240 10,669
Real estate held for investment (net of accumulated
depreciation of $44,351 in 1997 and $41,854 in 1996) ......................... 210,093 183,053
Investments in partnerships .................................................... 8,710 4,739
Investments in marketable equity securities .................................... 2,649 --
Cash and cash equivalents ...................................................... 3,089 3,862
Restricted cash ................................................................ 4,287 2,850
Other assets ................................................................... 7,746 6,168
--------- ---------
$ 239,814 $ 211,341
========= =========
Liabilities and Shareholders' Equity
Liabilities
Notes, debentures, and interest payable ........................................ $ 160,822 $ 134,270
Other liabilities .............................................................. 9,167 8,008
--------- ---------
169,989 142,278
Commitments and contingencies ..................................................
Shareholders' equity
Shares of beneficial interest, no par value; authorized shares, unlimited;
shares outstanding, 3,491,636 in 1997 and 3,523,729 in 1996 (after deducting
801,714 in 1997 and 767,294 in 1996 held in treasury) ........................ 10,483 10,579
Paid-in capital ................................................................ 277,401 277,795
Accumulated distributions in excess of
accumulated earnings ......................................................... (218,493) (219,311)
Unrealized gains on marketable equity securities ............................... 434 --
--------- ---------
69,825 69,063
--------- ---------
$ 239,814 $ 211,341
========= =========
</TABLE>
The accompanying notes are an integral part of
these Consolidated Financial Statements.
2
<PAGE> 3
NATIONAL INCOME REALTY TRUST
CONSOLIDATED STATEMENTS OF OPERATIONS
(Dollars in thousands, except per share data)
(Unaudited)
<TABLE>
<CAPTION>
For the Three Months For the Six Months
Ended June 30, Ended June 30,
-------------------------- -------------------------
1997 1996 1997 1996
---------- ----------- ---------- ----------
<S> <C> <C> <C> <C>
Revenue
Rentals ....................................... $ 12,218 $ 12,015 $ 24,173 $ 23,713
Interest ...................................... 90 218 157 360
Equity in income of partnerships .............. 198 1,000 356 1,180
---------- ----------- ---------- ----------
12,506 13,233 24,686 25,253
Expenses
Property operations ........................... 6,778 6,954 13,452 13,813
Interest ...................................... 2,994 3,139 5,741 6,322
Depreciation .................................. 1,593 1,345 3,093 2,643
Advisory fees to affiliate .................... 301 289 677 536
General and administrative .................... 475 605 1,017 1,066
---------- ----------- ---------- ----------
12,141 12,332 23,980 24,380
---------- ----------- ---------- ----------
Income before gain (loss) on sale of
real estate and gain on insurance
settlement ................................... 365 901 706 873
Gain (loss) on sale of real estate ............... 1,576 (213) 1,576 11
Gain on insurance settlement ..................... -- -- -- 451
---------- ----------- ---------- ----------
Net income ....................................... $ 1,941 $ 688 $ 2,282 $ 1,335
========== =========== ========== ==========
Earnings per share
Net income........................................ $ .55 $ .18 $ .65 $ .35
========== =========== ========== ==========
Weighted average shares of
beneficial interest used in
computing earnings per share .................. 3,505,532 3,788,382 3,514,813 3,765,445
========== =========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these
Consolidated Financial Statements.
3
<PAGE> 4
NATIONAL INCOME REALTY TRUST
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
(Dollars in thousands)
<TABLE>
<CAPTION>
Accumulated Unrealized
Shares of Distributions Gains on
Beneficial Interest in Excess of Marketable
----------------------- Paid-in Accumulated Equity Shareholders'
Shares Amount Capital Earnings Securities Equity
--------- -------- --------- ----------- ---------- -------------
<S> <C> <C> <C> <C> <C> <C>
Balance, December 31,
1996 (audited) ............. 3,523,729 $ 10,579 $ 277,795 $(219,311) $ -- $ 69,063
Repurchase of shares
of beneficial interest ..... (34,420) (103) (425) -- -- (528)
Cash distributions
($0.40 per share) .......... -- -- -- (1,426) -- (1,426)
Share distributions .......... 2,327 7 31 (38) -- --
Unrealized gains on marketable
equity securities .......... -- -- -- -- 434 434
Net income ................... -- -- -- 2,282 -- 2,282
--------- -------- --------- --------- ---- --------
Balance, June 30, 1997
(unaudited) ................ 3,491,636 $ 10,483 $ 277,401 $(218,493) $434 $ 69,825
========= ======== ========= ========= ==== ========
</TABLE>
The accompanying notes are an integral part of these
Consolidated Financial Statements.
4
<PAGE> 5
NATIONAL INCOME REALTY TRUST
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
(Unaudited)
<TABLE>
<CAPTION>
For the Six Months
Ended June 30,
----------------------
1997 1996
-------- --------
<S> <C> <C>
Cash Flows from Operating Activities
Rentals collected ...................................... $ 23,808 $ 24,149
Interest collected ..................................... 163 307
Interest paid .......................................... (5,190) (6,258)
Payments for property operations ....................... (15,093) (14,614)
General and administrative expenses paid ............... (1,104) (1,124)
Advisory fees paid to affiliate ........................ (786) (627)
Deferred borrowing costs paid .......................... (1,385) (1,550)
-------- --------
Net cash provided by operating activities ........... 413 283
Cash Flows from Investing Activities
Acquisition of real estate ............................. (9,630) (3,099)
Proceeds from the sale of real estate .................. 2,854 --
Real estate improvements ............................... (10,620) (4,108)
Note receivable collections ............................ 166 461
Additional note receivable collateral .................. -- 101
Earnest money deposits paid ............................ (150) --
Investments in marketable equity securities ............ (2,214) --
Loan and advances to partnership ....................... (3,429) --
Distribution from a partnership's investing activities . -- 6,810
Distribution of partnership's insurance proceeds ....... -- 759
Net (contributions to) distributions from partnerships.. (186) 608
-------- --------
Net cash provided by (used in) investing activities.. (23,209) 1,532
Cash Flows from Financing Activities
Borrowings from financial institutions ................. 32,750 24,688
Payments of mortgage notes payable ..................... (9,653) (22,640)
Margin account borrowings (deposits), net .............. 933 (1,202)
Repayment of advances from affiliates, net ............. -- (514)
Replacement escrow (deposits), net ..................... (92) (657)
Repurchase of shares of beneficial interest ............ (528) (494)
Distributions to shareholders .......................... (1,387) (1,355)
-------- --------
Net cash provided by (used in) financing activities.. 22,023 (2,174)
-------- --------
Net (decrease) in cash and cash equivalents .............. (773) (359)
Cash and cash equivalents, beginning of period ........... 3,862 1,674
-------- --------
Cash and cash equivalents, end of period ................. $ 3,089 $ 1,315
======== ========
</TABLE>
The accompanying notes are an integral part of these
Consolidated Financial Statements.
5
<PAGE> 6
NATIONAL INCOME REALTY TRUST
CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)
(Dollars in thousands)
(Unaudited)
<TABLE>
<CAPTION>
For the Six Months
Ended June 30,
----------------------
1997 1996
-------- --------
<S> <C> <C>
Reconciliation of net income to net cash
provided by operating activities
Net income ................................... $ 2,282 $ 1,335
Gain on insurance settlement ................. -- (451)
Gain on sale of real estate .................. (1,576) (11)
Depreciation and amortization ................ 3,459 3,192
Equity in income of partnerships ............. (356) (1,180)
Changes in other assets and liabilities,
net of effects of noncash investing and
financing activities
(Increase) decrease in interest receivable.. 5 (46)
(Increase) in other assets ................. (3,626) (2,242)
(Decrease) in other liabilities ............ (51) (1)
Increase (decrease) in interest payable .... 276 (313)
-------- --------
Net cash provided by operating activities ......... $ 413 $ 283
======== ========
SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING AND
FINANCING ACTIVITIES:
Changes in assets and liabilities in connection with
The acquisition or foreclosure of real estate
Real estate .................................. $ 16,633 $ 14,954
Notes and interest receivable ................ -- (8,568)
Allowance for estimated losses ............... -- 3,000
Other assets ................................. 121 (56)
Notes and interest payable ................... (6,699) (6,157)
Other liabilities ............................ (425) (74)
-------- --------
Cash paid ................................. $ 9,630 $ 3,099
======== ========
Assets disposed of and liabilities released in
connection with the sale of real estate
Real estate .................................. $ 3,028 $ --
Other assets ................................. 89 --
Notes and interest payable ................... (1,758) --
Other liabilities ............................ (81) --
Gain on sale ................................. 1,576 --
-------- --------
Cash received ............................. $ 2,854 $ --
======== ========
</TABLE>
The accompanying notes are an integral part of these
Consolidated Financial Statements.
6
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NATIONAL INCOME REALTY TRUST
CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)
(Dollars in thousands)
(Unaudited)
<TABLE>
<CAPTION>
For the Six Months
Ended June 30,
-----------------
1997 1996
------ ------
<S> <C> <C>
SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING AND FINANCING ACTIVITIES
(Continued):
Real estate written off pursuant to condemnation .......... $2,209 $ --
Note and accrued interest receivable written off .......... $ 977 $ --
Note payable written off pursuant to the condemnation of
the collateral property ................................. $1,725 $ --
Allowances for estimated losses charged off in connection
with the write-off of real estate and note receivable ... $1,462 $ --
Conversion of convertible subordinated debenture .......... $ -- $1,000
</TABLE>
The accompanying notes are an integral part of these
Consolidated Financial Statements.
7
<PAGE> 8
NATIONAL INCOME REALTY TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
NOTE 1. BASIS OF PRESENTATION
The accompanying Consolidated Financial Statements have been prepared in
accordance with generally accepted accounting principles for interim financial
information and with the instructions to Form 10-Q and Article 10 of Regulation
S-X. Accordingly, they do not include all of the information and footnotes
required by generally accepted accounting principles for complete financial
statements. Operating results for the six month period ended June 30, 1997, are
not necessarily indicative of the results that may be expected for the year
ending December 31, 1997. For further information, refer to the Consolidated
Financial Statements and Notes thereto included in the Trust's Annual Report on
Form 10-K for the year ended December 31, 1996. Dollar amounts in tables are in
thousands. Certain 1996 balances have been reclassified to conform to the 1997
presentation. Earnings per share have been computed based on the weighted
average number of shares of beneficial interest outstanding for the three and
six month periods ended June 30, 1997 and 1996. 1996 share and per share data
have been restated to give effect to the 10% share distribution paid to
shareholders in September 1996.
Effective January 1, 1997, the Trust implemented prospectively a change in
accounting estimate whereby capital expenditures for carpet; appliance; and
heating, ventilation, and air conditioning (HVAC) replacements are capitalized
rather than expensed. The Trust believes that capitalizing these expenditures
and depreciating them over lives ranging from three to five years more
appropriately reflects the timing of the economic benefits to be received from
these expenditures. Additionally, the Trust believes this treatment is
consistent with policies currently being used by other real estate investment
trusts. For the three and six month periods ended June 30, 1997, the effect of
this change in accounting estimate was to decrease property operating expenses
and increase net income by $255,000 and $478,000, respectively. Had the Trust
implemented this change on January 1, 1996, property operating expenses for the
three and six months periods ended June 30, 1996, would have been reduced by
$222,000 and $410,000, respectively. This change has no effect on the advisory
fee as management believes Tarragon Realty Advisors, Inc. ("Tarragon") , the
Trust's advisor since April 1, 1994, should not benefit from increased funds
from operations resulting from a change in accounting estimate rather than from
improved Trust operations.
NOTE 2. NOTES AND INTEREST RECEIVABLE
In March 1997, the Trust wrote off a note receivable with a balance of
$977,000, including accrued interest, secured by an apartment complex in Paris,
Texas, which had matured in 1988. The Trust had fully-reserved the loan in
previous years. Consequently, no loss was recognized in connection with the
write-off.
NOTE 3. REAL ESTATE AND DEPRECIATION
In January 1997, after an evaluation of its real estate portfolio, the Trust
reclassified Jackson Square Shopping Center from real estate held for sale to
real estate held for investment. As the estimated fair value of the property
exceeded its carrying value, no loss was recognized upon the reclassification.
In November 1995, the City of Indianapolis (the "City") initiated condemnation
proceedings against the Trust's K-Mart Shopping Center, acquired through a deed
in lieu of foreclosure in December 1994. The shopping center was vacant at the
time the Trust acquired it, although leased to K-Mart under a net lease
expiring in 1999. The lease was assigned by K-Mart to the City in September
1995. In March 1996, the Trust ceased payments
8
<PAGE> 9
NATIONAL INCOME REALTY TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Continued)
NOTE 3. REAL ESTATE AND DEPRECIATION (Continued)
on the $1.7 million non-recourse mortgage note secured by the shopping center.
In January 1997, the Trust wrote off the property and related debt, as the
mortgage is now secured by the condemnation award. No loss was recognized in
excess of amounts previously provided.
During the six months ended June 30, 1997, the Trust purchased three
multifamily properties, as presented below, and, in connection with these
acquisitions, paid Tarragon real estate acquisition fees totaling $162,800.
These properties are located in the same geographical areas where the Trust
currently operates and were acquired in separate transactions.
<TABLE>
<CAPTION>
Cost of Acquisition
Date ----------------------------
Property Location Acquired Units Cash Debt
------------ ---------------- -------- ----- ------------ ----------
<S> <C> <C> <C> <C> <C>
Morningside Jacksonville, FL Feb-97 112 $ 414 $ 1,641
Fountainhead Kissimmee, FL Jun-97 184 7,690 --
Newport Jacksonville, FL Jun-97 152 1,526 5,058
--- ------------- ----------
448 $ 9,630 $ 6,699
=== ============= ==========
</TABLE>
NOTE 4. INVESTMENTS IN PARTNERSHIPS
Investments in partnerships, accounted for under the equity method, consisted
of the following at June 30, 1997:
<TABLE>
<S> <C>
Income Special Associates............ $ 1,468
801 Pennsylvania Avenue.............. 2,932
RI Windsor, Ltd...................... 2,401
RI Panama City, Ltd.................. 1,403
Sacramento Nine...................... 506
English Village...................... --
---------
$ 8,710
=========
</TABLE>
In January 1997, in exchange for a capital contribution of $200,000, which was
matched by the other partners, the Trust received a 1% general partner interest
and a 49% limited partner interest in RI Windsor, Ltd., a limited partnership
formed to construct a 324-unit luxury apartment complex to be known as The
Mayfaire at Windsor Parke in Jacksonville, Florida, at an estimated cost of $19
million. The property is expected to be completed in the fourth quarter of
1997. The partnership has obtained an $18 million construction loan to finance
the construction. The Trust also loaned the partnership $2.2 million which is
to be repaid following completion and lease-up of the property. Until lease-up
of the property, the construction loan is guaranteed by the other general
partner. As the Trust holds a non-controlling interest, it accounts for its
investment in the partnership using the equity method.
The proceeds for the Trust's loan to the partnership were obtained from a $2.2
million loan secured by 352,000 of the Trust's shares of beneficial interest.
The lender has no voting rights with and does not receive cash distributions on
these shares. Therefore, these shares are not included with outstanding shares
in the accompanying June 30, 1997, Consolidated Balance Sheet and the
Consolidated Statement of Shareholders'
9
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NATIONAL INCOME REALTY TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Continued)
NOTE 4. INVESTMENTS IN PARTNERSHIPS (Continued)
Equity for the six months ended June 30, 1997. The loan matures in January
2000; however, the Trust intends to repay the loan prior to December 1997 with
proceeds received from the partnership's construction loan.
In a similar transaction, in June 1997, in exchange for a capital contribution
of $200,000, the Trust received a 1% general partner interest and a 49% limited
partner interest in RI Panama City, Ltd. This partnership was formed to
construct a 200-unit luxury apartment complex to be known as Panama City
Apartments in Panama City, Florida, at an estimated cost of $10.4 million. The
property is expected to be completed during 1998. The partnership has obtained
an $8.8 million construction loan to finance construction. The Trust also
loaned the partnership $1.2 million which is to be repaid from construction
loan proceeds following completion and lease-up of the property. Until lease-up
of the property, the construction loan is guaranteed by the other general
partner. The Trust also accounts for its investment in this partnership using
the equity method.
The following information summarizes the results of operations of these
partnerships for the six months ended June 30, 1997:
<TABLE>
<S> <C>
Rentals.................... $ 2,177
Property operations........ (904)
Interest................... (426)
Depreciation............... (289)
-----------
Net income................. $ 558
===========
</TABLE>
NOTE 5. INVESTMENTS IN MARKETABLE EQUITY SECURITIES
In accordance with Statement of Financial Accounting Standards No. 115,
"Accounting for Certain Investments in Debt and Equity Securities," investments
in marketable equity securities are carried at fair value. Unrealized holding
gains are included as a separate component of shareholders' equity.
NOTE 6. NOTES, DEBENTURES, AND INTEREST PAYABLE
Pursuant to a Master Repurchase Agreement (the "Agreement") with an investment
bank entered into in April 1996, the Trust purchased the $3.1 million Fannie
Mae mortgage backed security ("Fannie Mae Certificate") issued by the lender in
connection with the financing of Forest Oaks Apartments at a 1/2% discount in
June 1996 and the $16.8 million Government National Mortgage Association
mortgage backed security ("GNMA Certificate") issued by the lender in
connection with the financing of Heather Hills Apartments at a 2.7% discount in
July 1996. The investment bank purchased the Fannie Mae Certificate and the
GNMA Certificate from the Trust for 92% of the aggregate value, or $17.9
million, and the Trust agreed to repurchase the Certificates from the
investment bank one month later at the same price plus interest at the London
Interbank Offered Rate ("LIBOR") plus 1/2% per annum. As provided for in the
Agreement, the Trust and the investment bank extended the repurchase date
monthly. The December 1996 purchase price and, consequently, the January 1997
repurchase price were increased to 95% of the aggregate value of the
Certificates, or $19.3 million, and the interest rate associated with the
repurchase agreement was reduced to LIBOR plus 1/4% per annum. In January 1997,
the Trust entered into a similar repurchase transaction with a government
sponsored enterprise which purchased the Certificates for 97% of their
aggregate value, or $19.3 million, and the Trust agreed to repurchase
10
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NATIONAL INCOME REALTY TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Continued)
NOTE 6. NOTES, DEBENTURES, AND INTEREST PAYABLE (Continued)
them in February 1997 for the same price plus interest at 5.4% per annum. The
repurchase date has been extended to August 1997, and the current repurchase
price is $19.5 million. The repurchase transaction has resulted in effective
interest rates as of June 30, 1997, on the Forest Oaks and Heather Hills
financings of 6.9% and 6.5%, respectively.
The Trust is exposed to a demand for additional collateral or, in the
alternative, credit loss in the event the interest rate associated with the
repurchase transaction fluctuates in a manner that is unfavorable to the
Trust's interest in the Certificates. However, the Trust intends to either pay
off the mortgages or modify the mortgages to increase the interest rate prior
to any significant credit loss.
In February 1997, the Trust closed separate mortgage loans, secured by
Pinecrest Apartments and Rancho Sorrento Office Building, totaling $17.2
million. After the payoff of the $8.2 million existing mortgage secured by
Pinecrest, establishing escrows for taxes, insurance, and repairs, and closing
costs, the Trust received net cash proceeds of $7.7 million. In connection with
these financings, the Trust paid Tarragon mortgage brokerage commissions
totaling $172,000.
In May 1997, the Trust accepted a commitment from GMAC Commercial Mortgage
Corporation for a $50 million revolving credit facility. Advances under the
facility are available to finance properties currently owned by the Trust as
well as new acquisitions. The outstanding balance is limited to the lesser of
75% of the value of the collateral properties or an amount supported by 1.25%
debt service coverage. The borrowing base may be increased by adding new or
existing properties to the collateral pool. Advances are limited to the lesser
of 75% of the appraised value of the property as stabilized or 80% of total
acquisition costs which include the purchase price of a newly acquired property
and the cost of improvements incurred between the date of acquisition and the
date that any mortgage secured by that property is recorded. A newly acquired
property is defined as a property owned by the Trust for less than one year.
The outstanding balance under the facility bears interest at the 30 day LIBOR
plus a variable spread of between 2% and 2.5% which is determined based on the
loan-to-value and debt service coverage maintained. Payment terms include
interest only monthly with the outstanding balance due at maturity, which is 36
months from the date of the first advance. The Trust may extend the maturity by
two six-month terms, but no new fundings may occur under the facility during
any extension period. The first funding under this commitment took place in
June 1997 in the amount of $13.2 million and is secured by a first mortgage
against a previously unencumbered Trust property, Dunhill/Devonshire/Sandstone.
In connection with this first funding, the Trust paid Tarragon a fee of
$132,000.
NOTE 7. INCOME TAXES
No provision has been made for federal income taxes because the Trust's
management believes the Trust has qualified as a Real Estate Investment Trust,
as defined under Sections 856 through 860 of the Internal Revenue Code of 1986,
as amended, and expects that it will continue to do so.
11
<PAGE> 12
NATIONAL INCOME REALTY TRUST
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Continued)
NOTE 8. COMMITMENTS AND CONTINGENCIES
The Trust is a party to various claims and routine litigation arising in the
ordinary course of business. Management of the Trust does not believe that the
results of these claims and litigation, individually or in the aggregate, will
have a material adverse effect on its business or financial position.
NOTE 9. SUBSEQUENT EVENTS
In July 1997, the Trust purchased Park Grove Apartments, a 127-unit property in
North Miami, Florida. The purchase price was $3.8 million, $3 million of which
was financed through the assumption of an existing first mortgage loan secured
by the property. The Trust paid Tarragon an acquisition fee of $37,750 in
connection with this transaction.
Also in July 1997, the Trust obtained another advance under the $50 million
revolving credit facility. The $5.7 million advance is secured by Fountainhead
Apartments, which the Trust acquired in June 1997. In connection with this
funding, the Trust paid Tarragon a fee of $56,500.
Also in July 1997, the Trust paid $1 million to increase its interest in
English Village Partners, L.P., from 50% to 90%. As it now holds a controlling
interest, the operations of English Village Apartments, the partnership's only
property, will be consolidated.
In August 1997, the Trust sold Pheasant Pointe Apartments for $9.7 million. The
Trust received net cash proceeds of $3.5 million at closing and recognized a
gain of $2.8 million.
[This space intentionally left blank.]
12
<PAGE> 13
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Introduction
National Income Realty Trust (the "Trust") invests in real estate through
acquisitions, leases, and partnerships and, to a lesser extent, in mortgages
secured by real estate. The Trust was organized on October 31, 1978, and
commenced operations on March 27, 1979. At June 30, 1997, the Trust's real
estate portfolio included 58 properties, seven of which were held for sale,
located throughout the United States, with concentrations in the Southeast and
Southwest. These properties consisted of 38 apartment complexes, 13 shopping
centers, three office buildings, three parcels of land, and one single-family
residence. All of the Trust's real estate, except for 16 properties, is
encumbered by mortgages. The Trust's current policy is to make mortgage loans
only in connection with, and to facilitate, the sale or acquisition of real
estate. Accordingly, as existing mortgage loans are paid off, the Trust's
portfolio of mortgage notes receivable is expected to decline.
The Trust's objective is to maximize the long term value of its real estate
portfolio with an emphasis on increasing operating income and future cash
distributions to shareholders. Management focuses on both the appreciation of
the existing real estate portfolio through intensive management and capital
improvements and enlarging the portfolio with highly selective and
opportunistic acquisitions concentrated on older, undermanaged, and
underperforming multifamily projects in geographic locations where the Trust
presently owns properties. In addition to raising capital through operating
income, the Trust intends to generate capital through mortgage refinancings and
selective disposition of certain assets.
Liquidity and Capital Resources
Cash and cash equivalents aggregated $3.1 million at June 30, 1997, compared
with $3.9 million at December 31, 1996. The Trust's principal sources of cash
have been property operations and external sources, such as property sales and
refinancings, as more fully discussed in the paragraphs below. The Trust
expects these sources will continue to be sufficient to meet projected cash
requirements, including debt service obligations, property maintenance and
improvements, and continuation of regular cash distributions.
The Trust purchased three properties during the six months ended June 30, 1997,
for an aggregate purchase price of $16.6 million, a portion of which was
financed through the assumption of first mortgage loans totaling $6.7 million.
The Trust paid cash totaling $9.6 million at closing of these purchases.
The Trust sold two properties during the six months ended June 30, 1997,
recognizing gains totaling $1.6 million and receiving net cash proceeds of $2.9
million.
The Trust made real estate improvements totaling $10.6 million to its
properties during the first half of 1997, including $3.5 million on the
construction of The Vistas at Lake Worth, which is in redevelopment and should
be completed in the fourth quarter of 1997. Projected construction costs for
The Vistas are $5.5 million for the remainder of 1997. The Trust anticipates
expenditures for capital improvement on its other properties during the
remainder of 1997 to total approximately $2.2 million.
During the six months ended June 30, 1997, the Trust acquired 50% interests in
two partnerships in exchange for capital contributions totaling $400,000. The
partnerships, RI Windsor, Ltd., and RI Panama City, Ltd., are each constructing
an apartment property. The Trust also made advances to the partnerships
totaling $3.4 million, $2.2 million of which was obtained through a loan which
matures in January 2000.
13
<PAGE> 14
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Liquidity and Capital Resources (Continued)
During the six months ended June 30, 1997, the Trust made investments in
marketable equity securities of $2.2 million. As of June 30, 1997, there were
unrealized holding gains on these investments of $434,000.
During the first half of 1997, the Trust obtained first mortgage financing
totaling $30.6 million and received net cash proceeds of $20.7 million after
the payoff of existing debt of $8.2 million, funding escrows, and paying
associated closing costs. The Trust made other principal payments totaling $1.5
million during the six months ended June 30, 1997. Principal payments of $10.1
million, including balloon payments of $9.2 million, are due during the
remainder of 1997. The Trust intends to either pay off the maturing mortgages
or extend the due dates while attempting to obtain long term refinancing.
However, while management is confident of its ability to acquire refinancing as
needed, there is no assurance that the Trust will continue to be successful in
its efforts in this regard.
During the six months ended June 30, 1997, the Trust repurchased 34,420 of its
shares of beneficial interest at a total cost of $528,000. During 1996, the
Trust's Board of Trustees (the "Board") authorized the Trust to repurchase up
to an additional 281,592 shares of beneficial interest, of which 202,311 had
been purchased as of June 30, 1997.
Cash distributions to shareholders totaling $1.4 million, or $0.40 per share,
have been declared by the Board during the six month period ended June 30,
1997. The Trust has paid regular quarterly cash distributions since September
1993.
Results of Operations
The Trust reported net income of $1.9 million and $2.3 million, respectively,
for the three and six month periods ended June 30, 1997, as compared to net
income of $688,000 and $1.3 million, respectively, for the three and six month
periods ended June 30, 1996. The major components of the change in results of
operations are discussed in the following paragraphs.
Net rental income (rental revenue less property operating expenses) increased
from $5.1 million and $9.9 million for the three and six month periods ended
June 30, 1996, to $5.4 million and $10.7 million for the corresponding periods
in 1997.
Multifamily Properties
The Trust's multifamily portfolio, which represented 78% of the Trust's real
estate and included 7,380 operating units at June 30, 1997, reported increases
in net rental income of $605,000, or 16%, and $1.4 million, or 19%,
respectively, for the three and six month periods ended June 30, 1997, as
compared to the corresponding periods in 1996. Of these increases, $146,000
and $350,000 are related to properties acquired in 1996 and 1997. The
remainder of the increase comes from higher rents for properties held in both
years. Overall, both physical and economic occupancy levels have remained
relatively stable for properties held in both years.
14
<PAGE> 15
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Results of Operations (Continued)
Commercial Properties
The Trust's commercial portfolio included 1.6 million square feet at June 30,
1997. The sale of Century Centre II Office Building in September 1996 resulted
in decreases in net rental income of $452,000 and $871,000, respectively, for
the three and six month periods ended June 30, 1997, as compared to the
corresponding periods in 1996. Commercial properties held in both years
reported overall increases in net rental income of $294,000 and $447,000,
respectively, principally due to lower economic vacancies resulting from
improved overall physical occupancy levels.
Interest revenue decreased for the three and six month periods ended June 30,
1997, compared to the corresponding periods in 1996. These decreases resulted
primarily from the payoff of the Sherwood Trust mortgage note receivable in
November 1996. The Trust does not anticipate making new mortgage loans in the
future except in connection with the sale of real estate. Therefore, as
existing loans are paid off, interest revenue is expected to continue to
decline.
Equity in income of partnerships decreased approximately $800,000 for both the
three and six month periods ended June 30, 1997, compared to the corresponding
periods in 1996. These decreases were primarily due to income recorded in 1996
related to distributions received from Sacramento Nine, a tenancy-in-common in
which the Trust holds a 70% undivided interest in earnings, losses, and
distributions, and English Village, a partnership in which, until July 1997,
the Trust held 1% general partner and 49% limited partner interests, in excess
of the Trust's investments in the partnerships. The funds distributed to the
Trust by the partnerships represented refinancing proceeds, and equity in
income of partnerships for the current year is not expected to match that
recognized in 1996.
Interest expense decreased from $3.1 million and $6.3 million, respectively,
for the three and six month periods ended June 30, 1996, to $3 million and $5.7
million, respectively, for the corresponding periods 1997 due to the sale of
Century Centre II and the lower rates produced by the repurchase transaction
discussed in NOTE 6. "NOTES, DEBENTURES, AND INTEREST PAYABLE" in the Notes to
Consolidated Financial Statements.
Advisory fees to Tarragon Realty Advisors, Inc. ("Tarragon"), were $301,000 and
$677,000 for the three and six month periods ended June 30, 1997, as compared
to $289,000 and $536,000 for the corresponding periods in 1996. The advisory
agreement calls for a monthly incentive fee equal to 16% per annum of adjusted
funds from operations, as defined in the advisory agreement approved by the
Board. The Trust's funds from operations increased 40% and 44%, respectively,
for these periods. See "Funds from Operations" below.
During the first half of 1997, the Trust recognized gains totaling $1.6 million
on the sale of Plaza Hills Apartments and Huntington Green Apartments. During
the first half of 1996, the Trust reported a gain of $11,000 on the sale of
real estate related to the sale of the Indcon warehouses and a $451,000 gain
due to Indcon's insurance settlement received as a result of the warehouse fire
in September 1995.
15
<PAGE> 16
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Funds from Operations
The following information should be read in conjunction with all of the
financial statements and notes thereto and with the discussion set forth in
"Liquidity and Capital Resources" and "Results of Operations" included
elsewhere in this report.
Funds from operations ("FFO") for the three and six months periods ended June
30, 1997 and 1996, are as follows (unaudited) (dollars in thousands):
<TABLE>
<CAPTION>
For the Three Months For the Six Months
Ended June 30, Ended June 30,
-------------------- --------------------
1997 1996 1997 1996
------- ------- ------- -------
<S> <C> <C> <C> <C>
Net income ........................... $ 1,941 $ 688 $ 2,282 $ 1,335
(Gain) on insurance settlement ....... -- -- -- (451)
(Gain) loss on sale of real estate ... (1,576) 213 (1,576) (11)
Depreciation and amortization of
real estate assets ................. 1,634 1,345 3,178 2,643
Depreciation and amortization of
real estate assets of partnerships.. 100 69 191 139
Distributions from partnerships in
excess of the Trust's investments
in the partnerships ................ (35) (843) (39) (843)
------- ------- ------- -------
Funds from operations ................ $ 2,064 $ 1,472 $ 4,036 $ 2,812
======= ======= ======= =======
</TABLE>
The Trust generally considers FFO to be an appropriate measure of the
performance of an equity real estate investment trust ("REIT"). FFO, as defined
by the National Association of Real Estate Investment Trusts ("NAREIT"), equals
net income (loss), computed in accordance with generally accepted accounting
principles ("GAAP"), excluding gains (or losses) from debt restructuring and
sales of property, plus depreciation and amortization, and after adjustments
for unconsolidated partnerships and joint ventures. Adjustments for
unconsolidated partnerships and joint ventures are calculated to reflect FFO on
the same basis. The amortization of deferred financing costs is not added back
to net income (loss) in the Trust's calculation. This treatment is consistent
with the Trust's historical calculation of FFO. The Trust believes that FFO is
useful to investors as a measure of the performance of an equity REIT because,
along with cash flows from operating activities, investing activities, and
financing activities, it provides investors an understanding of the ability of
the Trust to incur and service debt and to make capital expenditures. The Trust
believes that in order to facilitate a clear understanding of its operating
results, FFO should be examined in conjunction with net income (loss) as
presented in the financial statements included elsewhere in this report. FFO
does not represent cash generated from operating activities in accordance with
GAAP and therefore should not be considered an alternative to net income as an
indication of the Trust's operating performance or to cash flow as a measure of
liquidity and is not necessarily indicative of cash available to fund cash
needs and cash distributions. The Trust's calculation of FFO may differ from
the methodology for calculating FFO utilized by other REITs and, accordingly,
may not be comparable to such other REITs.
16
<PAGE> 17
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Funds from Operations (Continued)
Effective January 1, 1997, the Trust modified its calculation of FFO to include
the add back of amortization of leasing commissions associated with its
commercial properties. The Trust believes that this calculation of FFO is
consistent with other REITs. If the Trust had calculated FFO in the same manner
for the three and six month periods ended June 30, 1996, FFO would have been
higher by $77,000 and $156,000, respectively.
Implementation of Change in Accounting Estimate
Effective January 1, 1997, the Trust implemented prospectively a change in
accounting estimate whereby capital expenditures for carpet; appliance; and
heating, ventilation, and air conditioning (HVAC) replacements are capitalized
rather than expensed. The Trust believes that capitalizing these expenditures
and depreciating them over lives ranging from three to five years more
appropriately reflects the timing of the economic benefits to be received from
these expenditures. Additionally, the Trust believes this treatment is
consistent with policies currently being used by other REITs. For the three and
six month periods ended June 30, 1997, the effect of this change in accounting
estimate was to decrease property operating expenses and increase net income by
$255,000 and $478,000, respectively. Had the Trust implemented this change on
January 1, 1996, property operating expenses for the three and six month
periods ended June 30, 1996, would have been reduced by $222,000 and $410,000,
respectively.
Allowances for Estimated Losses and Provisions for Losses
The Trust's management, on a quarterly basis, reviews the carrying values of
the Trust's mortgage loans and properties held for sale. Generally accepted
accounting principles require that the carrying value of a mortgage loan or a
property held for sale cannot exceed the lower of its cost or its estimated
fair value. In those instances in which estimates of fair value of the
collateral securing the Trust's mortgage loans or properties held for sale are
less than the carrying values thereof at the time of evaluation, an allowance
for loss is provided by a charge against operations. The evaluation of the
carrying values of the mortgage loans is based on management's review and
evaluation of the collateral properties securing the mortgage loans. The review
of collateral properties and properties held for sale generally includes
selective site inspections, a review of the property's current rents compared
to market rents, a review of the property's expenses, a review of maintenance
requirements, discussions with the property manager, and a review of the
surrounding area. Future quarterly reviews could cause the Trust's management
to adjust current estimates of fair value.
The Trust's management also evaluates the Trust's properties held for
investment for impairment whenever events or changes in circumstances indicate
that the carrying value of an asset may not be recoverable. This evaluation
generally consists of a review of the property's cash flow and current and
projected market conditions, as well as any changes in general and local
economic conditions. If an impairment loss exists based on the results of this
review, a loss is recognized by a charge against current earnings and a
corresponding reduction in the respective asset's carrying value. The amount of
this impairment loss is equal to the amount by which the carrying value of the
property exceeds its estimated fair value.
17
<PAGE> 18
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
Environmental Matters
Under various federal, state, and local environmental laws, ordinances, and
regulations, the Trust may be potentially liable for removal or remediation
costs, as well as certain other potential costs (including governmental fines
and injuries to persons and property) relating to hazardous or toxic substances
where property-level managers have arranged for the removal, disposal, or
treatment of hazardous or toxic substances. In addition, certain environmental
laws impose liability for release of asbestos-containing materials into the
air, and third parties may seek recovery from the Trust for personal injury
associated with such materials.
The Trust's management is not aware of any environmental liability relating to
the above matters that would have a material adverse effect on the Trust's
business, assets, or results of operations.
Income Tax Aspects
As more fully discussed in the Trust's Annual Report on Form 10-K for the year
ended December 31, 1996, the Trust has elected and, in the opinion of the
Trust's management, qualified to be taxed as a REIT, as defined under Sections
856 through 860 of the Internal Revenue Code of 1986, as amended, and, as such,
will not be taxed for federal income tax purposes on that portion of its
taxable income which is distributed to shareholders, provided that at least 95%
of its REIT taxable income is distributed.
Risks Associated with Forward-Looking Statements Included in this Form 10-Q
This form 10-Q contains certain forward-looking statements within the meaning
of Section 27A of the Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934, which are intended to be covered by the safe harbors
created thereby. These statements include the plans and objectives of
management for future operations, including plans and objectives relating to
capital expenditures on Trust properties. The forward-looking statements
included herein are based on current expectations that involve numerous risks
and uncertainties. Assumptions relating to the foregoing involve judgments with
respect to, among other things, future economic, competitive, and market
conditions and future business decisions, all of which are difficult or
impossible to predict accurately and many of which are beyond the control of
the Trust. Although the Trust believes that the assumptions underlying the
forward-looking statements are reasonable, any of the assumptions could be
inaccurate, and, therefore, there can be no assurance that the forward-looking
statements included in this Form 10-Q will prove to be accurate. In light of
the significant uncertainties inherent in the forward-looking statements
included herein, the inclusion of such information should not be regarded as a
representation by the Trust or any other person that the objectives and plans
of the Trust will be achieved.
[This space intentionally left blank.]
18
<PAGE> 19
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
Exhibit 27.0 - Financial Data Schedule
(b) Reports on Form 8-K as follows:
The following current report on Form 8-K was filed during the
period covered by this report or with respect to events which
occurred during the period covered by this report:
<TABLE>
<CAPTION>
Date of Event Date Filed Item Reported
------------- ---------- -------------
<S> <C> <C>
May 15, 1997 June 18, 1997 5. Other Events
</TABLE>
[This space intentionally left blank.]
19
<PAGE> 20
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.
NATIONAL INCOME REALTY TRUST
Date: August 14, 1997 By:/s/ William S. Friedman
--------------------- -----------------------------------
William S. Friedman
President, Chief Executive
Officer, and Trustee
Date: August 14, 1997 By:/s/ Robert C. Irvine
--------------------- -----------------------------------
Robert C. Irvine
Executive Vice President and
Chief Financial Officer
Date: August 14, 1997 By:/s/ Erin D. Davis
--------------------- -----------------------------------
Erin D. Davis
Vice President and
Chief Accounting Officer
20
<PAGE> 21
NATIONAL INCOME REALTY TRUST
INDEX TO EXHIBITS
EXHIBIT 27.0 Financial Data Schedule Page 22
21
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-END> JUN-30-1997
<CASH> 3,089
<SECURITIES> 2,649
<RECEIVABLES> 0
<ALLOWANCES> (1,195)
<INVENTORY> 0
<CURRENT-ASSETS> 0
<PP&E> 259,226
<DEPRECIATION> (44,698)
<TOTAL-ASSETS> 239,814
<CURRENT-LIABILITIES> 0
<BONDS> 160,822
0
0
<COMMON> 0
<OTHER-SE> 69,825
<TOTAL-LIABILITY-AND-EQUITY> 239,814
<SALES> 0
<TOTAL-REVENUES> 24,686
<CGS> 0
<TOTAL-COSTS> 13,452
<OTHER-EXPENSES> 3,770
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 5,741
<INCOME-PRETAX> 2,282
<INCOME-TAX> 0
<INCOME-CONTINUING> 2,282
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,282
<EPS-PRIMARY> .65
<EPS-DILUTED> .65
</TABLE>
