SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
Quarterly Report Under Section 13 or 15(d)
Of the Securities Exchange Act of 1934
For Quarter Ended September 30, 2000 Commission File No. 000-16950
Prometheus Income Partners, a California Limited Partnership
(Exact name of registrant as specified in its charter)
California 77-0082138
(State or other jurisdiction of (IRS employee ID Number)
incorporation or organization)
350 Bridge Parkway
Redwood City, California 94065-1517
(Address of principal (Zip code)
executive offices)
Registrant's telephone number, including area code: (650) 596-5300
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 [ ]
PART I: FINANCIAL INFORMATION
Item 1. Condensed Financial Statements
The accompanying unaudited financial statements should be read in
conjunction with the Form 10-K filed by the Partnership for the year ended
December 31, 1999. These statements have been prepared in accordance with the
instructions of the Securities and Exchange Commission Form 10-Q and do not
include all of the information and footnotes required by generally accepted
accounting principles for complete financial statements.
Historically the Registrant's Form 10-Q filings have not made any
adjustments for the capitalization of improvements except in conjunction with
the year-end financial statements. While the financial information is
unaudited, in the opinion of the Partnership, all adjustments (consisting of
normal recurring adjustments) considered necessary for a fair presentation have
been included. The results of operations for the three months and nine months
ended September 30, 2000 are not necessarily indicative of the results that may
be expected for the year ending December 31, 2000.
PROMETHEUS INCOME PARTNERS
a California Limited Partnership
BALANCE SHEETS
SEPTEMBER 30, 2000 AND DECEMBER 31, 1999
(Unaudited and In Thousands, Except for Unit Data)
September 30, December 31,
2000 1999
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ASSETS
Real Estate:
Land, buildings and improvements $ 30,635 $ 30,288
Accumulated depreciation (8,714) (8,183)
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21,921 22,105
Cash and cash equivalents 2,823 1,942
Restricted cash 5,176 4,558
Deferred expenses, net 217 239
Accounts receivable and other assets 39 29
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Total assets $ 30,176 $ 28,873
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LIABILITIES AND PARTNERS' CAPITAL (DEFICIT)
Notes payable $ 25,958 $ 26,188
Payables and accrued liabilities 389 323
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Total liabilities 26,347 26,511
----------- ------------
General partner capital deficit (363) (378)
Limited partners' capital
18,995 limited partnership units
issued and outstanding 4,192 2,740
----------- ------------
Total partners' capital 3,829 2,362
Total liabilities and partners' capital $ 30,176 $ 28,873
----------- ------------
----------- ------------
The accompanying notes are an integral
part of these financial statements.
PROMETHEUS INCOME PARTNERS
a California Limited Partnership
STATEMENTS OF INCOME
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2000 AND 1999
(Unaudited and In Thousands, Except for Unit Data)
2000 1999
-------- --------
REVENUES
Rental $ 1,724 $ 1,422
Other income 20 55
Interest income 117 49
-------- --------
Total revenues 1,861 1,526
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EXPENSES
Interest and amortization 465 470
Operating 368 325
Depreciation 173 142
Administrative 18 14
Payments to general partner and affiliates:
Operating and administrative 143 121
Management fees 92 74
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Total expenses 1,259 1,146
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NET INCOME $ 602 $ 380
-------- --------
-------- --------
Net income per $1,000
limited partnership unit $ 31 $ 20
-------- --------
-------- --------
Number of limited partnership
units used in computation 18,995 18,995
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-------- --------
The accompanying notes are an integral
part of these financial statements.
PROMETHEUS INCOME PARTNERS
a California Limited Partnership
STATEMENTS OF INCOME
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2000 AND 1999
(Unaudited and In Thousands, Except for Unit Data)
2000 1999
-------- --------
REVENUES
Rental $ 4,839 $ 4,219
Other income 71 149
Interest income 335 172
-------- --------
Total revenues 5,245 4,540
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EXPENSES
Interest and amortization 1,397 1,331
Operating 1,176 946
Depreciation 531 433
Administrative 41 46
Payments to general partner and affiliates:
Operating and administrative 358 351
Management fees 274 221
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Total expenses 3,777 3,328
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NET INCOME $ 1,468 $ 1,212
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-------- --------
Net income per $1,000
limited partnership unit $ 77 $ 63
-------- --------
-------- --------
Number of limited partnership
units used in computation 18,995 18,995
-------- --------
-------- --------
The accompanying notes are an integral
part of these financial statements.
PROMETHEUS INCOME PARTNERS
a California Limited Partnership
STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2000 AND 1999
(Unaudited and In Thousands)
2000 1999
-------- --------
CASH FLOW FROM OPERATING ACTIVITIES
Net income $ 1,468 $ 1,212
Adjustments to reconcile net income
to cash provided by operating activities:
Depreciation 531 433
Amortization 22 22
(Increase) decrease in accounts receivable and
other assets (10) 35
Decrease (increase) in payables and accrued
liabilities 65 (145)
Net cash provided by operating activities 2,076 1,557
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CASH FLOWS FROM INVESTING ACTIVITIES
Increase in fixed assets additions (347) (183)
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CASH FLOWS FROM FINANCING ACTIVITIES
Increase in restricted cash (618) (512)
Principal reductions on notes payable (230) (214)
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Net cash used for financing activities (848) (726)
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Net increase in cash and cash equivalents 881 648
Cash and cash equivalents at beginning of year 1,942 1,183
-------- --------
Cash and cash equivalents at end of period $ 2,823 $ 1,831
-------- --------
-------- --------
The accompanying notes are an integral
part of these financial statements.
PROMETHEUS INCOME PARTNERS
a California Limited Partnership
NOTES TO FINANCIAL STATEMENTS
1. THE PARTNERSHIP
Prometheus Income Partners, a California Limited Partnership (the
Partnership"),was formed to construct, invest in, operate and ultimately sell
two multi-family apartment projects ("Properties"), Alderwood Apartments
("Alderwood") and Timberleaf Apartments ("Timberleaf"), located in Santa Clara,
California. The General Partner is Prometheus Development Co., Inc., a
California corporation.
The financial information has been restated to reflect capitalization of
improvements on a basis consistent with the practice followed annually. The
financial information included herein at September 30, 2000 and for the three
and nine months ended September 30, 2000 and 1999 is unaudited and, in the
opinion of the Partnership, reflects all adjustments (which include only
normal recurring accruals) necessary for a fair presentation of the financial
position as of those dates and the results of operations for those periods.
Management fees and payments to the General Partner and Affiliates represent
compensation for services provided and certain expense reimbursements, at cost,
in accordance with the Partnership Agreement. The information in the
Balance Sheets at December 31, 1999 was derived from the Partnership's audited
annual report for 1999.
Partnership profits, losses and distributions are allocated among the
partners based on the provisions of the Partnership Agreement, which generally
provide for allocations to begin when the partners are admitted to the
partnership.
2. INCOME TAXES
No income taxes are levied on the Partnership; rather, such taxes are
levied on the individual partners. Consequently, no provision or liability for
federal or California income taxes has been reflected in the accompanying
financial statements. The net income or loss for financial reporting purposes
differs from the net income or loss for income tax reporting purposes primarily
due to differences in useful lives and depreciation methods for building and
improvements and amortization of construction period interest and taxes.
3. CONSTRUCTION DEFECTS
In June 1996, Prometheus Development Co. learned that the hardboard siding
used at both Alderwood and Timberleaf was beginning to fail. That was the first
indication of potential product failure at these properties, and the general
partner commissioned a survey of the sites.
NOTES TO FINANCIAL STATEMENTS
3. CONSTRUCTION DEFECTS (Continued)
On June 26, 1996, experts conducted the first visual inspection of
Alderwood with respect to the defects on behalf of Prometheus Income Partners.
Throughout 1997 and 1998, the partnership inspected and investigated Alderwood
with respect to the construction defects, and in March and November 1998,
various defendants inspected and investigated Adlerwood as well. Similarly, on
July 11, 1996 experts conducted the first visual inspection of Timberleaf.
Additional investigations took place in 1997, 1998 and 2000.
As of the dates of these inspections, moisture had accumulated in the
walls of these projects through a combination of construction defects and
endemic problems with the hardboard siding. Sufficient moisture over time
causes rot and decay in the wood, framing and siding which necessitates repairs
which, in some cases, are structural in nature. Rot and decay, which form
inside the wall, are not visible, and until rot and decay have caused changes
in the physical appearance of the exterior of the buildings, it is difficult to
ascertain all the locations where rot and decay exist. On September 23, 1996,
Prometheus Income Partners filed two lawsuits against the siding manufacturer,
the general contractor, the subcontractors and the architects, one for each of
its properties, regarding problems at the properties stemming from the
hardboard siding. Each of these persons has denied responsibility for the
defects. In October 1997, a cross-claim was filed by one of the defendants in
each of these lawsuits against the partnership seeking relief against other
parties to the litigation if either filing party is found liable in the
litigation. This cross claim was tendered to the partnership's insurance
carrier, counsel for whom has denied all allegations. The general partner does
not believe there is a substantial risk of recovery against the partnership on
this claim, but there is no assurance a judgment will not be rendered against
the partnership based on this claim.
As part of the inspections discussed above, certain structural issues
caused by the defects in the hardboard siding were uncovered at Alderwood and
Timberleaf and were rebuilt as part of an immediate repair process. Prometheus
Development Co. subsequently determined that additional immediate repairs were
necessary, which, with the exception of roof repairs noted below, have been
completed. Prometheus Development Co. continues to monitor the condition of
the property to look for any other signs of rot and decay that would
necessitate immediate attention and repair.
In addition to the hardboard siding problems, in September 1999 routine
roofing inspection uncovered failing roof substrate at dormer roof assemblies
for Alderwood and Timberleaf. Prometheus Development Co. traced the cause of
this roofing problem to inadequate venting of the roof space. Inadequate
venting leads to condensation in roof areas. This has been sufficient to
cause deflection and decay of the roof and its structural support, requiring
replacement. Prometheus Development Co. is in the process of getting roof
repair design and repair bids, some of which have been received, and is
evaluating these bids and defining the scope of necessary repairs (a small
fraction of which have been made to date).
NOTES TO FINANCIAL STATEMENTS
3. CONSTRUCTION DEFECTS (Continued)
Based on information currently available to the general partner, damages
and economic loss appear to be in the range of $19-$20 million.
Since 1997, both cases have been under the supervision of a Special
Master who is appointed and empowered by the court to assist in resolving the
cases. Investigations and other subsequent discoveries have been ordered by
the Special Master on behalf of both plaintiffs and defendants in an effort to
come to a settlement. Destructive investigation, completed under the order of
the Special Master in March 1998 for Alderwood and May 1998 for Timberleaf, has
produced a preliminary issues list which the Special Master will use in
attempting to prompt a settlement from the defendants. This information is
protected by the Special Master and is not for general distribution. Additional
testing and investigations have been conducted periodically on the properties
and continue to be performed from time to time.
The first settlement conference supervised by the Special Master was
held on March 11, 1997 among the various defendants and Prometheus Income
Partners. Since then, there have been conferences with respect to Timberleaf in
May, June, September and December 1997, April, June, August, October and
December 1998, and February, June and October 1999. There have also been
conferences with respect to Alderwood in January, March, April, September,
October and November of 1999. None of these conferences produced a settlement,
and so on May 5, 2000, the judge ordered another mandatory settlement
conference to be held on August 16, 2000. No settlement was reached at this
conference. It is possible that a settlement of pending litigation can occur
anytime, but based on the lack of any agreement on the terms or parameters of a
settlement arising out of prior settlement conferences and discussions, and
that the sides are far apart in terms of the framework for any potential
settlement, Prometheus Development Co. believes settlement in the near term to
be unlikely. A trial date is expected to be set by the superior court for the
second quarter of 2001.
Under applicable law and court rules, a trial date must be set prior to
September 9, 2001, five years after Prometheus Development Co. filed the
initial complaints. The discovery of additional construction defect problems,
as discussed above, may result in additional delays.
The terms of the mortgages on the properties require that a security
account be maintained for each property to cover contingent liabilities with
respect to defects in the properties' hardboard siding. These security accounts
are additional collateral for the lender, and total, as of September 30, 2000,
approximately $5,176,000. Because there is no current prospect for settling the
hardboard siding litigation or of refinancing the properties to remove these
covenants, there are no current prospects for the liquidation and distribution
of these accounts to limited partners.
In addition to the security accounts mandated under the partnerships'
financing arrangements, Prometheus Development Co. has determined that it is
in the best interest of the partnership
NOTES TO FINANCIAL STATEMENTS
3. CONSTRUCTION DEFECTS (Continued)
to continue building reserves for the potential cost of dealing with known
and unknown construction defects. Prometheus Development Co. currently
maintains an additional account totaling as of September 30, 2000
approximately $2,154,000, which is primarily intended to cover additional
contingent liabilities related to the hardboard siding defects and other
matters.
The extent and magnitude of the construction defects continues to
worsen with time. Prometheus Development Co. believes that Prometheus Income
Partners can no longer wait for the cases to be resolved and has authorized the
start of repairs using the cash reserve funds currently held. As of September
30, 2000, Prometheus Income Partners has spent approximately $1,550,000 on
emergency repairs and litigation expenditures. Assuming that the litigation is
not successfully resolved, over the next twelve months the partnership
anticipates spending approximately $1,900,000 to $2,400,000 on additional
urgent repairs. It is anticipated that funds held in reserve are not adequate
to repair the entire project, so completion of the most critical projects will
be prioritized. The cost of pursuing litigation also is significant.
Prometheus Development Co. cannot predict or estimate what amounts, if any,
will be recovered through litigation.
4. REAL ESTATE
Statement of Financial Accounting Standards 121 ("FASB 121"),
Accounting for the Impairment of Long-lived Assets and for Long-lived Assets
to be Disposed of, requires that long-lived assets and certain identifiable
intangibles to be held and used by an entity be reviewed for impairment
whenever events or changes in circumstances indicate that the carrying amount
of an asset may not be recoverable. In connection with the construction
defects (see Note 3), the General Partner reviewed the cash flows of both
properties to ensure an adjustment of the book value was not required in
accordance with FASB 121. Further, although the full extent of the damage to
the construction defects for these two properties is unknown, management
believes that the fair market value of each property still remains greater
than their respective book values.
ITEM 2: Management's Discussion and Analysis of Financial Condition and Results
of Operations
Introduction
Alderwood and Timberleaf, which are located in Santa Clara, California,
are apartment complexes with 234 units and 124 units, respectively. The
properties commenced operations at completion of construction in December 1986.
Liquidity and Capital Resources
Cash generated by operations during the first nine months of 2000 was
used to pay current operating expenses and debt service, including payments to
the hardboard siding security account.
Quarterly distributions have been suspended in order to accumulate
working capital reserves until the degree of damage to the construction defects
and determination of liability are known. See Note 3 to Financial Statements,
Construction Defects, for a more comprehensive discussion of this matter.
Each property has a non-recourse note payable, secured by a first deed
of trust. These notes bear fixed interest of 6.99% for Alderwood and 7.09% for
Timberleaf.
The terms of the notes require that each property maintain a hardboard
siding security account. These security accounts are additional collateral for
the lender. Cash held in these security accounts was $2,993,000 and $2,183,000
for Alderwood and Timberleaf, respectively, as of September 2000. Until the
Completion Date, as defined, an additional 10% of the initial contributions, as
defined, or monthly cash flow, whichever is less, shall be deposited into each
security account. Should the hardboard siding repairs not be completed by
December 2002, or every two years thereafter, and insufficient cash has been
accumulated to cure the defects based upon the lender's determination of the
cost, then all cash flow shall be deposited into each applicable security
account, as necessary, to fully fund the cost of construction. If the projected
cash flow is insufficient to satisfy this deficiency contribution, then the
Partnership has 60 days to fund the shortage over the projected cash flow. No
withdrawals are permitted from the account except to cure the siding defects.
The lender shall have the right to hire its own consultants to review, approve
and inspect the construction. All such reasonable fees and expenses incurred by
the lender shall be paid by the Partnership.
Should the litigation not be settled by December 2002, and the
Partnership has met all its obligations under the notes, then the Completion
Date shall be extended 18 months from the earlier of the pending settlement
date or the last day for filing an appeal. Should construction not be completed
by the Completion Date due to an act of force majeure, the Completion Date can
be further extended to complete the construction work.
Results of Operations
During the past year, Santa Clara County has continued to experience
growth in the creation of new jobs; the unemployment rate fell to a low of
3.1%. This continued job growth has helped offset the impact of new housing
developed. The increased demand allowed for increases in market rates during
the third quarter on both unit types at both properties. In the third quarter
of 2000, the properties marketed available units at rents that averaged $1,832
for one-bedroom units and $2,238 for two bedroom units. Average occupied rent
per unit for the quarter was $1,620 and average occupancy during the quarter
was 98% for both Alderwood and Timberleaf. As of September 30, 2000, Alderwood
and Timberleaf were 99% and 100% occupied, respectively.
In the third quarter of 1999, the properties marketed available units at
rents that averaged $1,334 for one-bedroom units and $1,569 for two bedroom
units. Average occupied rent per unit for the quarter was $1,378, and average
occupancy during the quarter was 98% for both Alderwood and Timberleaf. As of
September 30, 1999, Alderwood and Timberleaf were both 98% occupied.
Excluding expenditures, relating to quantification of the extent of
damage to the hardboard siding and associated litigation costs, and other
construction defects, operating expenses increased 13%. The following third
quarter operating expenses increased between years: Payroll, Benefits
and Taxes primarily due to rental agent commissions and employee benefits; On-
Site Administration due to employee training and help wanted ads; Management
Fees due to increased revenue and timing of construction management;
Professional Services due to increased unlawful detainers filed; and Major
Repairs & Maintenance primarily due to fountain repairs and landscaping. These
increases were offset by decreases in expenses between years for: Repairs &
Maintenance due to window cleaning and fire prevention, and a decease in
supplies purchased for lighting, glass and screens, and doors, locks and keys;
and Miscellaneous Partnership primarily due to the timing of the audit and tax
services. Operating expenses, inclusive of hardboard siding related costs,
increased 16%.
Overall, net operating income increased 19% during the three months
ended September 30, 2000 when compared to 1999.
PART II: OTHER INFORMATION
Item 1. Legal Proceedings.
None.
Item 2. Changes in Securities.
None.
Item 3. Defaults Upon Senior Securities.
None.
Item 4. Submission of Matters to a Vote of Security Holders.
None.
Item 5. Other Information.
None.
Item 6. Exhibits and Reports on Form 8-K.
None.
SIGNATURES
Pursuant to the requirements of the Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.
PROMETHEUS INCOME PARTNERS,
a California Limited Partnership
By: PROMETHEUS DEVELOPMENT CO., INC.,
a California corporation,
it's General Partner
Date: November 10, 2000 By: /s/ Vicki R. Mullins
Vice President
Date: November 10, 2000 By: /s/ John J. Murphy
Vice President
