FORM 10-QSB--QUARTERLY OR TRANSITIONAL REPORT UNDER SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
QUARTERLY OR TRANSITIONAL REPORT
U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended September 30, 1999
[ ] 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 0-14483
DAVIDSON DIVERSIFIED REAL ESTATE II, L.P.
(Exact name of small business issuer as specified in its charter)
Delaware 62-1207077
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
55 Beattie Place, P.O. Box 1089
Greenville, South Carolina 29602
(Address of principal executive offices)
(864) 239-1000
(Issuer's telephone number)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 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
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
a)
DAVIDSON DIVERSIFIED REAL ESTATE II, L.P.
CONSOLIDATED BALANCE SHEET
(Unaudited)
(in thousands, except unit data)
September 30, 1999
Assets
Cash and cash equivalents $ 1,387
Receivables and deposits, net of $135
for doubtful accounts 739
Restricted escrows 542
Other assets 490
Investment properties:
Land $ 2,878
Buildings and related personal property 42,909
45,787
Less accumulated depreciation (24,601) 21,186
$ 24,344
Liabilities and Partners' Deficit
Liabilities
Accounts payable $ 508
Tenant security deposit liabilities 181
Accrued property taxes 687
Other liabilities 593
Mortgage notes payable 25,744
Partners' Deficit
General partners $ (502)
Limited partners (1224.25 units issued and
outstanding) (2,867) (3,369)
$ 24,344
See Accompanying Notes to Consolidated Financial Statements
b)
DAVIDSON DIVERSIFIED REAL ESTATE II, L.P.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(in thousands, except unit data)
Three Months Ended Nine Months Ended
September 30, September 30,
1999 1998 1999 1998
Revenues:
Rental income $ 2,065 $ 2,032 $ 6,233 $ 5,998
Other income 148 184 522 565
Gain on casualty event -- -- -- 216
Total revenues 2,213 2,216 6,755 6,779
Expenses:
Operating 1,012 1,314 3,090 3,422
General and administrative 85 86 248 254
Depreciation 478 498 1,511 1,495
Interest 555 559 1,661 1,689
Property taxes 184 198 508 595
Impairment loss on property
held for investment 660 -- 660 --
Loss on disposal of property -- 17 -- 198
Total expenses 2,974 2,672 7,678 7,653
Net loss $ (761) $ (456) $ (923) $ (874)
Net loss allocated to general
partners (2%) (15) (9) (18) (17)
Net loss allocated to limited
partners (98%) (746) (447) (905) (857)
$ (761) $ (456) $ (923) $ (874)
Net loss per limited partnership
unit $(609.35) $(365.12) $(739.23) $(700.02)
See Accompanying Notes to Consolidated Financial Statements
c)
DAVIDSON DIVERSIFIED REAL ESTATE II, L.P.
CONSOLIDATED STATEMENT OF CHANGES IN PARTNERS' DEFICIT
(Unaudited)
Limited
Partnership General Limited
Units Partner Partners Total
Original capital contributions 1,224.25 $ 1 $24,485 $24,486
Partners' deficit at
December 31, 1998 1,224.25 $ (484) $(1,962) $(2,446)
Net loss for the nine months
ended September 30, 1999 -- (18) (905) (923)
Partners' deficit at
September 30, 1999 1,224.25 $ (502) $(2,867) $(3,369)
See Accompanying Notes to Consolidated Financial Statements
d)
DAVIDSON DIVERSIFIED REAL ESTATE II, L.P.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(in thousands)
Nine Months Ended
September 30,
1999 1998
Cash flows from operating activities:
Net loss $ (923) $ (874)
Adjustments to reconcile net loss to net cash
provided by operating activities:
Depreciation 1,511 1,495
Amortization of discounts, loan costs
and leasing commissions 180 168
Impairment loss on property held for investment 660 --
Loss on disposal of property -- 198
Gain on casualty event -- (216)
Change in accounts:
Receivables and deposits 75 127
Other assets (76) (54)
Accounts payable 274 140
Tenant security deposit liabilities (7) (2)
Accrued property taxes (10) 35
Other liabilities 95 136
Net cash provided by operating activities 1,779 1,153
Cash flows used in investing activities:
Property improvements and replacements (842) (1,291)
Net withdrawals from restricted escrows 70 228
Net insurance proceeds from casualty event -- 225
Net cash used in investing activities (772) (838)
Cash flows from financing activities:
Payments on mortgage notes payable (591) (555)
Net increase (decrease) in cash and cash equivalents 416 (240)
Cash and cash equivalents at beginning of period 971 885
Cash and cash equivalents at end of period $ 1,387 $ 645
Supplemental disclosure of cash flow information:
Cash paid for interest $ 1,491 $ 1,528
See Accompanying Notes to Consolidated Financial Statements
e)
DAVIDSON DIVERSIFIED REAL ESTATE II, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE A - BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of Davidson
Diversified Real Estate II, L.P. (the "Partnership" or "Registrant") have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-QSB and Item 310(b)
of Regulation S-B. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of Davidson Diversified Properties, Inc.
(the "Managing General Partner"), all adjustments (consisting of normal
recurring accruals) considered necessary for a fair presentation have been
included. Operating results for the three and nine month periods ended
September 30, 1999 are not necessarily indicative of the results that may be
expected for the year ending December 31, 1999. For further information, refer
to the consolidated financial statements and footnotes thereto included in the
Partnership's Annual Report on Form 10-KSB for the fiscal year ended December
31, 1998.
Principles of Consolidation:
The Registrant's financial statements include all the accounts of the
Partnership and its three 99.9% owned partnerships. The Managing General
Partner of the consolidated partnerships is Davidson Diversified Properties,
Inc. Davidson Diversified Properties, Inc. may be removed by the Registrant;
therefore, the consolidated partnerships are controlled and consolidated by the
Registrant. All significant inter-partnership balances have been eliminated.
NOTE B - TRANSFER OF CONTROL
Pursuant to a series of transactions which closed on October 1, 1998 and
February 26, 1999, Insignia Financial Group, Inc. and Insignia Properties Trust
merged into Apartment Investment and Management Company ("AIMCO"), a publicly
traded real estate investment trust, with AIMCO being the surviving corporation
(the "Insignia Merger"). As a result, AIMCO acquired 100% ownership interest in
the Managing General Partner. The Managing General Partner does not believe
that this transaction will have a material effect on the affairs and operations
of the Partnership.
NOTE C - TRANSACTIONS WITH AFFILIATED PARTIES
The Partnership has no employees and is dependent on the Managing General
Partner and its affiliates for the management and administration of all
Partnership activities. The Partnership Agreement provides for certain payments
to affiliates for services and as reimbursement of certain expenses incurred by
affiliates on behalf of the Partnership. The following payments were paid or
accrued to the Managing General Partner and affiliates during the nine months
ended September 30, 1999 and 1998:
1999 1998
(in thousands)
Property management fees (included in
operating expenses) $308 $323
Reimbursement for services of affiliates
(included in general and administrative
expenses, other assets and investment
properties) 173 309
Due to affiliates 226 81
During the nine months ended September 30, 1999 and 1998, affiliates of the
Managing General Partner were entitled to receive 5% of gross receipts from all
of the Registrant's residential properties for providing property management
services. The Registrant paid to such affiliates approximately $308,000 and
$292,000 for the nine months ended September 30, 1999 and 1998, respectively.
For the nine months ended September 30, 1998, affiliates of the Managing General
Partner were entitled to varying percentages of gross receipts from the
Registrant's commercial property for providing property management services.
The Registrant paid to such affiliates approximately $31,000 for the nine months
ended September 30, 1998. No such fees were paid for the nine months ended
September 30, 1999 as these services were provided by an unrelated third party
effective October 1, 1998.
An affiliate of the Managing General Partner was entitled to receive
reimbursement of accountable administrative expenses amounting to approximately
$135,000 and $178,000 for the nine months ended September 30, 1999 and 1998,
respectively. A portion of both the current fees and the prior year fees were
not able to be paid due to the Partnership's cash flow. Accordingly, as of
September 30, 1999, a liability of approximately $226,000 exists and is
reflected in other liabilities. Also included in reimbursements for services for
the nine months ended September 30, 1999 and 1998, is approximately $38,000 and
$91,000, respectively, in reimbursements for construction oversight costs.
Additionally, the Partnership paid approximately $40,000, during the nine months
ended September 30, 1998 to an affiliate of the Managing General Partner for
lease commissions at the Partnership's commercial property. These lease
commissions are included in other assets and are amortized over the terms of the
respective leases. No lease commissions were paid to an affiliate during the
nine months ended September 30, 1999.
On September 26, 1997, an affiliate of the Managing General Partner purchased
Lehman Brothers' class "D" Subordinated bonds of SASCO, 1992-M1. These bonds
are secured by 55 multi-family apartment mortgage loan pairs held in trust,
including Big Walnut Apartments and Greensprings Manor Apartments owned by the
Partnership.
During September 1998, an affiliate of the Managing General Partner (the
"Purchaser") commenced a tender offer for limited partnership interests in the
Partnership. The Purchaser offered to purchase up to 400 of the outstanding
units of limited partnership interest in the Partnership at $6,000 per Unit, net
to the seller in cash. During November 1998, the tender offer was completed and
the Purchaser acquired 135.5 units of limited partnership interest at $6,000 per
Unit in the Partnership or approximately 11.07% of the total outstanding units.
As a result, AIMCO and its affiliates currently own 170.0 units of limited
partnership interest in the Partnership representing 13.89% of the total
outstanding units. It is possible that AIMCO or its affiliate will make one or
more additional offers to acquire additional limited partnership interests in
the Partnership for cash or in exchange for units in the operating partnership
of AIMCO.
During August 1999, AIMCO Properties, L.P., an affiliate of the General Partner
commenced a tender offer to purchase up to 479.03 (approximately 39.12% of the
total outstanding units) units of limited partnership interest in the
Partnership for a purchase price of $2,899 per unit. The offer expired on
September 16, 1999. Pursuant to the offer, AIMCO Properties, L.P. acquired 34.5
units. As a result AIMCO and its affiliates currently own 197.5 units of
limited partnership interest in the Partnership representing approximately
16.13% of the total outstanding units. It is possible that AIMCO or its
affiliates will make one or more additional offers to acquire additional limited
partnership interests in the Partnership for cash or in exchange for units in
the operating partnership of AIMCO. (See "Note G - Legal Proceedings).
NOTE D - SEGMENT REPORTING
Description of the types of products and services from which the reportable
segment derives its revenue:
The Partnership has two reportable segments: residential properties and
commercial properties. The Partnership's residential property segment consists
of four apartment complexes in Ohio, Kentucky, Tennessee, and Indiana. The
Partnership rents apartment units to tenants for terms that are typically twelve
months or less.
The commercial property segment consists of a retail shopping center located in
Murfreesboro, Tennessee. This property leases space mainly to name brand outlet
clothing stores at terms ranging from nine months to four years.
Measurement of segment profit or loss:
The Partnership evaluates performance based on net income. The accounting
policies of the reportable segment are the same as those of the Partnership as
described in the Partnership's Annual Report on Form 10-KSB for the year ended
December 31, 1998.
Factors management used to identify the enterprise's reportable segment:
The Partnership's two reportable segments are investment properties that offer
different products and services. The reportable segments are each managed
separately because they provide distinct services with different types of
products and customers.
Segment information for the nine months ended September 30, 1999 and 1998 is
shown in the tables below. The "Other" column includes partnership
administration related items and income and expense not allocated to the
reportable segment.
1999 RESIDENTIAL COMMERCIAL OTHER TOTALS
(in thousands)
Rental income $ 5,711 $ 522 $ -- $ 6,233
Other income 392 118 12 522
Interest expense 1,538 123 -- 1,661
Depreciation 1,257 254 -- 1,511
General and administrative expense -- -- 248 248
Impairment loss on property held
for investment -- 660 -- 660
Segment profit (loss) 96 (783) (236) (923)
Total assets 21,113 2,632 599 24,344
Capital expenditures for investment
properties 831 11 -- 842
1998 RESIDENTIAL COMMERCIAL OTHER TOTALS
(in thousands)
Rental income $ 5,287 $ 711 $ -- $ 5,998
Other income 401 147 17 565
Interest expense 1,561 128 -- 1,689
Depreciation 1,215 280 -- 1,495
General and administrative expense -- -- 254 254
Gain on casualty event 216 -- -- 216
Loss on disposal of property 198 -- -- 198
Segment loss (519) (118) (237) (874)
Total assets 21,410 3,677 428 25,515
Capital expenditures for investment
properties 1,291 -- -- 1,291
NOTE E - CASUALTY EVENT
In December 1997, a fire destroyed one building at The Trails Apartments. As a
result, the asset and related accumulated depreciation were written off in 1997.
At December 31, 1997, the proceeds received on the casualty approximated the
loss on write-off of the fire-damaged asset, with the difference of
approximately $9,000 being recorded as an insurance receivable. Therefore, no
gain or loss relating to this fire was recognized in 1997. At June 30, 1998,
reconstruction of the destroyed building was ongoing, with the costs reflected
in investment properties as construction in process. The Partnership recognized
a casualty gain of approximately $216,000 in 1998, with insurance proceeds
received totaling $225,000.
NOTE F - IMPAIRMENT LOSS ON PROPERTY HELD FOR INVESTMENT
In accordance with Statement of Financial Accounting Standards ("SFAS") No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
Be Disposed Of," the Partnership records impairment losses on long-lived assets
used in operations when events and circumstances indicate that the assets might
be impaired and the undiscounted cash flows estimated to be generated by those
assets are less than the carrying amounts of those assets. During the three
months ended September 30, 1999, the Partnership determined that the Shoppes at
River Rock located in Murfreesboro, Tennessee with a carrying value of
approximately $2,988,000, was impaired and its value was written down by
approximately $660,000 to reflect its fair value at September 30, 1999 of
approximately $2,328,000. The fair value was based upon current economic
conditions and projected future operational cash flows.
NOTE G - LEGAL PROCEEDINGS
In March 1998, several putative unit holders of limited partnership units of the
Partnership commenced an action entitled Rosalie Nuanes, et al. v. Insignia
Financial Group, Inc., et al. in the Superior Court of the State of California
for the County of San Mateo. The plaintiffs named as defendants, among others,
the Partnership, the Managing General Partner and several of their affiliated
partnerships and corporate entities. The complaint purports to assert claims on
behalf of a class of limited partners and derivatively on behalf of a number of
limited partnerships (including the Partnership) which are named as nominal
defendants, challenging the acquisition by Insignia Financial Group, Inc.
("Insignia") and entities which were, at one time, affiliates of Insignia
("Insignia Affiliates") of interests in certain general partner entities, past
tender offers by Insignia Affiliates to acquire limited partnership units, the
management of partnerships by Insignia Affiliates and the Insignia Merger (see
"Note B - Transfer of Control"). The complaint seeks monetary damages and
equitable relief, including judicial dissolution of the Partnership. On June
25, 1998, the Managing General Partner filed a motion seeking dismissal of the
action. In lieu of responding to the motion, the plaintiffs have filed an
amended complaint. The Managing General Partner filed demurrers to the amended
complaint which were heard February 1999. Pending the ruling on such demurrers,
settlement negotiations commenced. On November 2, 1999, the parties executed
and filed a Stipulation of Settlement ("Stipulation"), settling claims, subject
to final court approval, on behalf of the Partnership and all limited partners
who own units as of November 3, 1999. The Court has preliminarily approved the
Settlement and scheduled a final approval hearing for December 10, 1999. In
exchange for a release of all claims, the Stipulation provides that, among other
things, an affiliate of the Managing General Partner will make tender offers for
all outstanding limited partnership interests in 49 partnerships, including the
Registrant, subject to the terms and conditions set forth in the Stipulation,
and has agreed to establish a reserve to pay an additional amount in settlement
to qualifying class members (the "Settlement Fund"). At the final approval
hearing, Plaintiffs' counsel will make an application for attorneys' fees and
reimbursement of expenses, to be paid in part by the partnerships and in part
from the Settlement Fund. The Managing General Partner does not anticipate that
costs associated with this case will be material to the Partnership's overall
operations.
The Partnership is unaware of any other pending or outstanding litigation that
is not of a routine nature arising in the ordinary course of business.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF PLAN OF OPERATION
The matters discussed in this Form 10-QSB contain certain forward-looking
statements and involve risks and uncertainties (including changing market
conditions, competitive and regulatory matters, etc.) detailed in the
disclosures contained in this Form 10-QSB and other filings with the Securities
and Exchange Commission made by the Registrant from time to time. The
discussions of the Registrant's business and results of operations, including
forward-looking statements pertaining to such matters, does not take into
account the effects of any changes to the Registrant's business and results of
operation. Accordingly, actual results could differ materially from those
projected in the forward-looking statements as a result of a number of factors,
including those identified herein.
The Partnership's investment properties consist of four apartment complexes and
one commercial property. The following table sets forth the average occupancy
of the properties for the nine months ended September 30, 1999 and 1998:
Average Occupancy
1999 1998
Big Walnut Apartments
Columbus, Ohio 92% 94%
LaFontenay I & II Apartments
Louisville, Kentucky 92% 92%
The Trails Apartments
Nashville, Tennessee 95% 92%
Greensprings Manor Apartments
Indianapolis, Indiana 91% 85%
Shoppes At River Rock
(Formerly Outlet's Ltd. Mall)
Murfreesboro, Tennessee 71% 68%
The Managing General Partner attributes the increase in occupancy at The Trails
Apartments and Greensprings Manor Apartments to an aggressive and effective
marketing campaign during the last part of 1998 and into the first three
quarters of 1999. The increase in occupancy at Shoppes at River Rock is
attributed to new tenants moving in during the nine months ended September 30,
1999. The Partnership entered into a contract to sell Shoppes at River Rock to
an unaffiliated third party. The sale, which is conditioned upon the purchaser
completing its due diligence review of the property and other customary
conditions, is expected to close, if at all, prior to year end. There can be no
assurances, however, that the sale will be consummated, or if consummated, on
what terms or in what time frame.
Results of Operations
The Registrant's net loss for the three and nine months ended September 30, 1999
was approximately $761,000 and $923,000, respectively, as compared to
approximately $456,000 and $874,000 for the three and nine months ended
September 30, 1998. The increase in net loss for the three and nine months
ended September 30, 1999 was due to an increase in total expenses, and a
decrease in total revenues. Total revenues decreased primarily due to the fact
that no gain on casualty event was recognized during the nine months ended
September 30, 1999 as was recognized during the nine months ended September 30,
1998. During 1998 a gain on casualty event was recognized as a result of fire
damage at The Trails Apartments. The decrease in casualty gain was offset by an
increase in rental income. Rental income increased primarily due to an increase
in average rental rates at all five of the Registrant's investment properties
and to the increase in occupancy at The Trails Apartments, Greensprings Manor
Apartments and Shoppes At River Rock as discussed above, which more than offset
the slight decrease in occupancy at Big Walnut Apartments.
Total expenses increased for both the three and nine month periods ended
September 30, 1999 primarily due to the recognition of an impairment loss on
property held for investment. This loss was recognized due to the impairment of
the Shoppes at River Rock; therefore, its value was written down by
approximately $660,000 to reflect its fair value at September 30, 1999. The
fair value was based upon current economic conditions and projected future
operational cash flows. The increase in loss on property held for investment
was partially offset by decreases in operating and property tax expense and a
reduction in loss on disposal of property during 1999. In addition such
increase was offset during the three months ended September 30, 1999 by a
decrease in depreciation expenses.
During 1998 a loss on disposal of property at LaFontenay I & II Apartments was
recognized due to the write-off of the undepreciated value of roofs that were
replaced and a loss on disposal of property at The Trails Apartments was
recognized due to the write-off of the undepreciated value of the building
destroyed by fire. Also, contributing to the decrease in expenses, was insurance
proceeds received during 1999 from water damage incurred due to structural
deficiencies at Big Walnut Apartments and insurance proceeds received from storm
damage at LaFontenay I & II Apartments. Additional expenses are expected to be
incurred in the next few months as repairs are made at Big Walnut Apartments and
LaFontenay I & II Apartments.
Operating expenses decreased as a result of a decrease in insurance expense and
repairs and maintenance expenses. The decrease in insurance expense is the
result of lower premiums due to a change in the policy carrier for the
residential properties. The decrease in repairs and maintenance is due to the
completion in 1998 of roof repairs at Big Walnut.
Property taxes decreased due primarily to a decrease in the assessment value of
Shoppes at River Rock and The Trails. General and administrative expense
remained stable due primarily to a decrease in general partners reimbursement
fees, which was offset by an increase in legal fees. Legal fees increased as a
result of the settlement of an outstanding litigation case in the first quarter
of 1999. Also included in general and administrative expenses were costs
associated with the quarterly and annual communications with investors and
regulatory agencies and the annual audit required by the Partnership Agreement.
As part of the ongoing business plan of the Partnership, the Managing General
Partner monitors the rental market environment of the investment properties to
assess the feasibility of increasing rents, maintaining or increasing occupancy
levels and protecting the Partnership from increases in expense. As part of
this plan, the Managing General Partner attempts to protect the Partnership from
the burden of inflation-related increases in expenses by increasing rents and
maintaining a high overall occupancy level. However, due to changing market
conditions, which can result in the use of rental concessions and rental
reductions to offset softening market conditions, there is no guarantee that the
Managing General Partner will be able to sustain such a plan.
Liquidity and Capital Resources
At September 30, 1999, the Partnership had cash and cash equivalents of
approximately $1,387,000 as compared to approximately $645,000 at September 30,
1998. Cash and cash equivalents increased approximately $416,000 for the nine
months ended September 30, 1999 from the Partnership's year end, primarily due
to approximately $1,779,000 of cash provided by operating activities which was
partially offset by approximately $772,000 of cash used in investing activities
and approximately $591,000 of cash used in financing activities. Cash used in
financing activities consisted of payments of principal made on the mortgages
encumbering the Partnership's properties. Cash used in investing activities
consisted of property improvements and replacements, partially offset by net
withdrawals from escrow accounts maintained by the mortgage lender. The
Partnership invests its working capital reserves in money market accounts.
The sufficiency of existing liquid assets to meet future liquidity and capital
expenditure requirements is directly related to the level of capital
expenditures required at the various properties to adequately maintain the
physical assets and other operating needs of the Partnership and to comply with
Federal, state, and local legal and regulatory requirements. Capital
improvements planned for each of the Registrant's properties are detailed below.
Big Walnut Apartments
Based on a report received from an independent third party consultant analyzing
necessary exterior improvements and estimates made by the Managing General
Partner on interior improvements, it is estimated that the property requires
approximately $634,000 of capital improvements over the next few years. The
property has budgeted, but is not limited to, capital improvements of
approximately $633,000 for 1999 which include certain of the required
improvements and consist of HVAC, roofing, pool improvements, floor covering
replacements and electrical improvements. As of September 30, 1999,
approximately $76,000 has been incurred consisting primarily of appliance and
floor covering replacement, pool improvements, and roof replacement. These
improvements were funded from Partnership reserves and operations.
LaFontenay I & II Apartments
Based on a report received from an independent third party consultant analyzing
necessary exterior improvements and estimates made by the Managing General
Partner on interior improvements, it is estimated that the property requires
approximately $295,000 of capital improvements over the next few years. The
property has budgeted, but is not limited to, capital improvements of
approximately $400,000 for 1999 which include certain of the required
improvements and consist of parking lot upgrades, landscaping, exterior building
improvements, roofing, and floor covering replacements. As of September 30,
1999, approximately $384,000 has been incurred consisting primarily of roof
replacements, appliance and floor covering replacements and exterior and
interior building improvements, and landscaping. These improvements were funded
from Partnership reserves and operations.
The Trails
Based on a report received from an independent third party consultant analyzing
necessary exterior improvements and estimates made by the Managing General
Partner on interior improvements, it is estimated that the property requires
approximately $267,000 of capital improvements over the next few years. The
property has budgeted, but is not limited to, capital improvements of
approximately $304,000 for 1999 which include certain of the required
improvements and consist of landscaping, electrical, clubhouse renovations,
appliance and floor covering replacements and HVAC improvements. As of
September 30, 1999, approximately $94,000 has been incurred consisting primarily
of interior building improvements, appliance and floor covering replacements.
These improvements were funded from Partnership operations.
Greensprings Manor
Based on a report received from an independent third party consultant analyzing
necessary exterior improvements and estimates made by the Managing General
Partner on interior improvements, it is estimated that the property requires
approximately $693,000 of capital improvements over the next few years. The
property has budgeted, but is not limited to, capital improvements of
approximately $693,000 for 1999 which include certain of the required
improvements and consist of roof replacements, gutters and down spouts,
appliance and floor covering replacements and parking lot improvements, and
exterior building enhancements. As of September 30, 1999, approximately
$277,000 has been incurred consisting primarily of appliance and floor covering
replacements, interior and exterior building improvements, and land and parking
lot improvements. These improvements were funded from Partnership operations.
Shoppes at River Rock
Based on a report received from an independent third party consultant analyzing
necessary exterior improvements and estimates made by the Managing General
Partner on interior improvements, it is estimated that the property requires
approximately $977,000 of capital improvements over the next few years. The
property has budgeted, but is not limited to, capital improvements of
approximately $249,000 for 1999 which include certain of the required
improvements and consist of roof replacements, curb and gutter repairs. As of
September 30, 1999, approximately $11,000 has been incurred consisting primarily
of interior building improvements and gutter replacements. These improvements
were funded from Partnership operations. The Partnership recently entered into a
contract to sell Shoppes at River Rock to an unaffiliated third party. The
sale, which is conditioned upon the purchaser completing its due diligence
review of the property and other customary conditions, is expected to close, if
at all, prior to year end. There can be no assurances, however, that the sale
will be consummated, or it consummated, on what terms or in what time frame.
The additional capital expenditures will be incurred only if cash is available
from operations or from Partnership reserves. To the extent that such budgeted
capital improvements are completed, the Registrant's distributable cash flow, if
any, may be adversely affected at least in the short term.
The Registrant's current assets are thought to be sufficient for any near-term
needs (exclusive of capital improvements) of the Registrant. The mortgage
indebtedness of approximately $25,744, net of discount, is amortized over
periods with required balloon payments ranging from January 15, 2000 to December
1, 2009. The Managing General Partner will attempt to refinance such
indebtedness and/or sell the properties prior to such maturity date. If the
property cannot be refinanced or sold for a sufficient amount, the Registrant
will risk losing such property through foreclosure.
No cash distributions were made during the nine months ended September 30, 1999
or 1998. The Registrant's distribution policy is reviewed on a semi-annual
basis. Future cash distributions will depend on the levels of net cash
generated from operations, the availability of cash reserves, and the timing of
debt maturities, refinancing and/or property sales. There can be no assurance,
however, that the Registrant will generate sufficient funds from operations
after planned capital expenditures to permit distributions to its partners in
1999 or subsequent periods.
Tender Offer
During August 1999, AIMCO Properties, L.P., an affiliate of the General Partner
commenced a tender offer to purchase up to 479.03 (approximately 39.12% of the
total outstanding units) units of limited partnership interest in the
Partnership for a purchase price of $2,899 per unit. The offer expired on
September 16, 1999. Pursuant to the offer, AIMCO Properties, L.P. acquired 34.5
units. As a result AIMCO and its affiliates currently own 197.5 units of
limited partnership interest in the Partnership representing approximately
16.13% of the total outstanding units. It is possible that AIMCO or its
affiliates will make one or more additional offers to acquire additional limited
partnership interests in the Partnership for cash or in exchange for units in
the operating partnership of AIMCO. (See "Item 1. Financial Statements, Note G -
Legal Proceedings").
Year 2000 Compliance
General Description of the Year 2000 Issue and the Nature and Effects of the
Year 2000 on Information Technology (IT) and Non-IT Systems
The Year 2000 issue is the result of computer programs being written using two
digits rather than four digits to define the applicable year. The Partnership
is dependent upon the Managing General Partner and its affiliates for management
and administrative services ("Managing Agent"). Any of the computer programs or
hardware that have date-sensitive software or embedded chips may recognize a
date using "00" as the year 1900 rather than the year 2000. This could result
in a system failure or miscalculations causing disruptions of operations,
including, among other things, a temporary inability to process transactions,
send invoices, or engage in similar normal business activities.
Over the past two years, the Managing Agent has determined that it will be
required to modify or replace significant portions of its software and certain
hardware so that those systems will properly utilize dates beyond December 31,
1999. The Managing Agent presently believes that with modifications or
replacements of existing software and certain hardware, the Year 2000 issue can
be mitigated. However, if such modifications and replacements are not made, or
not completed in time, the Year 2000 issue could have a material impact on the
operations of the Partnership.
The Managing Agent's plan to resolve Year 2000 issues involves four phases:
assessment, remediation, testing, and implementation. To date, the Managing
Agent has fully completed its assessment of all the information systems that
could be significantly affected by the Year 2000, and has begun the remediation,
testing and implementation phases on both hardware and software systems.
Assessments are continuing in regards to embedded systems. The status of each
is detailed below.
Status of Progress in Becoming Year 2000 Compliant, Including Timetable for
Completion of Each Remaining Phase
Computer Hardware:
During 1997 and 1998, the Managing Agent identified all of the computer systems
at risk and formulated a plan to repair or replace each of the affected systems.
In August 1998, the main computer system used by the Managing Agent became fully
functional. In addition to the main computer system, PC-based network servers,
routers and desktop PCs were analyzed for compliance. The Managing Agent has
begun to replace each of the non-compliant network connections and desktop PCs
and, as of September 30, 1999, had virtually completed this effort.
The total cost to the Managing Agent to replace the PC-based network servers,
routers and desktop PCs is expected to be approximately $1.5 million of which
$1.3 million has been incurred to date.
Computer Software:
The Managing Agent utilizes a combination of off-the-shelf, commercially
available software programs as well as custom-written programs that are designed
to fit specific needs. Both of these types of programs were studied, and
implementation plans written and executed with the intent of repairing or
replacing any non-compliant software programs.
In April 1999 the Managing Agent embarked on a data center consolidation project
that unifies its core financial systems under its Year 2000 compliant system.
The estimated completion date for this project is October 1999.
During 1998, the Managing agent began converting the existing property
management and rent collection systems to its management properties Year 2000
compliant systems. The estimated additional costs to convert such systems at
all properties, is $200,000, and the implementation and testing process was
completed in June 1999.
The final software area is the office software and server operating systems.
The Managing Agent has upgraded all non-compliant office software systems on
each PC and has upgraded virtually all of the server operating systems.
Operating Equipment:
The Managing Agent has operating equipment, primarily at the property sites,
which needed to be evaluated for Year 2000 compliance. In September 1997, the
Managing Agent began taking a census and inventory of embedded systems
(including those devices that use time to control systems and machines at
specific properties, for example elevators, heating, ventilating, and air
conditioning systems, security and alarm systems, etc.).
The Managing Agent has chosen to focus its attention mainly upon security
systems, elevators, heating, ventilating and air conditioning systems, telephone
systems and switches, and sprinkler systems. While this area is the most
difficult to fully research adequately, management has not yet found any major
non-compliance issues that put the Managing Agent at risk financially or
operationally.
A pre-assessment of the properties by the Managing Agent has indicated virtually
no Year 2000 issues. A complete, formal assessment of all the properties by the
Managing Agent was virtually completed by September 30, 1999. Any operating
equipment that is found non-compliant will be repaired or replaced.
The total cost incurred for all properties managed by the Managing Agent as of
September 30, 1999 to replace or repair the operating equipment was
approximately $75,000. The Managing Agent estimates the cost to replace or
repair any remaining operating equipment is approximately $125,000.
The Managing Agent continues to have "awareness campaigns" throughout the
organization designed to raise awareness and report any possible compliance
issues regarding operating equipment within its enterprise.
Nature and Level of Importance of Third Parties and Their Exposure to the Year
2000
The Managing Agent has banking relationships with three major financial
institutions, all of which have designated their compliance. The Managing Agent
has updated data transmission standards with all of the financial institutions.
All financial institutions have communicated that they are Year 2000 compliant
and accordingly no accounts were required to be moved from the existing
financial institutions.
The Partnership does not rely heavily on any single vendor for goods and
services, and does not have significant suppliers and subcontractors who share
information systems (external agent). To date, the Partnership is not aware of
any external agent with a Year 2000 compliance issue that would materially
impact the Partnership's results of operations, liquidity, or capital resources.
However, the Partnership has no means of ensuring that external agents will be
Year 2000 compliant.
The Managing Agent does not believe that the inability of external agents to
complete their Year 2000 remediation process in a timely manner will have a
material impact on the financial position or results of operations of the
Partnership. However, the effect of non-compliance by external agents is not
readily determinable.
Costs to Address Year 2000
The total cost of the Year 2000 project to the Managing Agent is estimated at
$3.5 million and is being funded from operating cash flows. To date, the
Managing Agent has incurred approximately $2.9 million ($0.7 million expenses
and $2.2 million capitalized for new systems and equipment) related to all
phases of the Year 2000 project. Of the total remaining project costs,
approximately $0.5 million is attributable to the purchase of new software and
operating equipment, which will be capitalized. The remaining $0.2 million
relates to repair of hardware and software and will be expensed as incurred.
The Partnership's portion of these costs are not material.
Risks Associated with the Year 2000
The Managing Agent believes it has an effective program in place to resolve the
Year 2000 issue in a timely manner. As noted above, the Managing Agent has not
yet completed all necessary phases of the Year 2000 program. In the event that
the Managing Agent does not complete any additional phases, certain worst case
scenarios could occur. The worst case scenarios could include elevators,
security and heating, ventilating and air conditioning systems that read
incorrect dates and operate with incorrect schedules (e.g., elevators will
operate on Monday as if it were Sunday). Although such a change would be
annoying to residents, it is not business critical.
In addition, disruptions in the economy generally resulting from Year 2000
issues could also adversely affect the Partnership. The Partnership could be
subject to litigation for, among other things, computer system failures,
equipment shutdowns or failure to properly date business records. The amount of
potential liability and lost revenue cannot be reasonably estimated at this
time.
Contingency Plans Associated with the Year 2000
The Managing Agent has contingency plans for certain critical applications and
is working on such plans for others. These contingency plans involve, among
other actions, manual workarounds and selecting new relationships for such
activities as banking relationships and elevator operating systems.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In March 1998, several putative unit holders of limited partnership units of the
Partnership commenced an action entitled Rosalie Nuanes, et al. v. Insignia
Financial Group, Inc., et al. in the Superior Court of the State of California
for the County of San Mateo. The plaintiffs named as defendants, among others,
the Partnership, the Managing General Partner and several of their affiliated
partnerships and corporate entities. The complaint purports to assert claims on
behalf of a class of limited partners and derivatively on behalf of a number of
limited partnerships (including the Partnership) which are named as nominal
defendants, challenging the acquisition by Insignia Financial Group, Inc.
("Insignia") and entities which were, at one time, affiliates of Insignia
("Insignia Affiliates") of interests in certain general partner entities, past
tender offers by Insignia Affiliates to acquire limited partnership units, the
management of partnerships by Insignia Affiliates and the Insignia Merger (see
"Part I _ Financial Information, Item 1. Financial Statements, Note B _ Transfer
of Control"). The complaint seeks monetary damages and equitable relief,
including judicial dissolution of the Partnership. On June 25, 1998, the
Managing General Partner filed a motion seeking dismissal of the action. In
lieu of responding to the motion, the plaintiffs have filed an amended
complaint. The Managing General Partner filed demurrers to the amended complaint
which were heard February 1999. Pending the ruling on such demurrers,
settlement negotiations commenced. On November 2, 1999, the parties executed
and filed a Stipulation of Settlement ("Stipulation"), settling claims, subject
to final court approval, on behalf of the Partnership and all limited partners
who own units as of November 3, 1999. The Court has preliminarily approved the
Settlement and scheduled a final approval hearing for December 10, 1999. In
exchange for a release of all claims, the Stipulation provides that, among other
things, an affiliate of the Managing General Partner will make tender offers for
all outstanding limited partnership interests in 49 partnerships, including the
Registrant, subject to the terms and conditions set forth in the Stipulation,
and has agreed to establish a reserve to pay an additional amount in settlement
to qualifying class members (the "Settlement Fund"). At the final approval
hearing, Plaintiffs' counsel will make an application for attorneys' fees and
reimbursement of expenses, to be paid in part by the partnerships and in part
from the Settlement Fund. The Managing General Partner does not anticipate that
costs associated with this case will be material to the Partnership's overall
operations. The Managing General Partner does not anticipate that
costs associated with this case will be material to the Partnership's overall
operations.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a) Exhibits
Exhibit 27, Financial Data Schedule, is filed as an exhibit to this report.
b) Reports on Form 8-K:
None filed during the quarter ended September 30, 1999.
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused
this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
DAVIDSON DIVERSIFIED REAL ESTATE II, L.P.
By: Davidson Diversified Properties, Inc.
Its Managing General Partner
By: /s/Patrick J. Foye
Patrick J. Foye
Executive Vice President
By: /s/Martha L. Long
Martha L. Long
Senior Vice President and
Controller
Date: November 10, 1999
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from Davidson
Diversified Real Estate II, L.P. Third Quarter 10-QSB and is qualified in its
entirety by reference to such 10-QSB filing.
</LEGEND>
<CIK> 0000750258
<NAME> DAVIDSON DIVERSIFIED REAL ESTATE II, L.P.
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> SEP-30-1999
<CASH> 1,387
<SECURITIES> 0
<RECEIVABLES> 739
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 0<F1>
<PP&E> 45,787
<DEPRECIATION> 24,601
<TOTAL-ASSETS> 24,344
<CURRENT-LIABILITIES> 0<F1>
<BONDS> 25,744
0
0
<COMMON> 0
<OTHER-SE> (3,369)
<TOTAL-LIABILITY-AND-EQUITY> 24,344
<SALES> 0
<TOTAL-REVENUES> 6,755
<CGS> 0
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 7,678
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 1,661
<INCOME-PRETAX> 0
<INCOME-TAX> 0
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (923)
<EPS-BASIC> (739.23)<F2>
<EPS-DILUTED> 0
<FN>
<F1>Registrant has an unclassified balance sheet.
<F2>Multiplier is 1.
</FN>
</TABLE>
