QUARTERLY REPORT FOR THE PERIOD ENDED JUNE 30, 1996
FELLOW PARTNERS:
During our recent annual review of the strategic plan for the Fund, we
concluded that the alignment between (1) the fundamental operating environment
and (2) capital flows into real estate is the best it has been for a number of
years. New construction was rather stagnant, occupancy and rental rates
appeared to be stabilizing or improving, and returns on real estate
investments started to improve. Property values also began showing signs of
recovery in a number of areas.
NCREIF Total Return
1993 1994 1995 95Q2-96Q1
_____ _____ _____ __________
All Properties 0.6% 6.9% 8.9% 9.5%
Source: NCREIF-Classic Index, LaSalle Advisors Investment Research.
Money is again flowing into real estate investments, particularly into
Real Estate Investment Trusts (REITS) who, in turn, have become active buyers.
The strong capital infusion provided by REITS in particular has contributed to
a more liquid market for good properties. And, for reasons we will discuss
later, it appears market conditions will continue to improve. As a result, we
believe the time is right to begin liquidating the Fund's six properties shown
on page 2. If the generally favorable environment continues, and barring any
significant change in local market conditions, our plan calls for the last
property to be sold by the end of 1998. While this is our target date, a
variety of factors could cause the timeframe to accelerate or be delayed.
As has been true in the past, the timing of individual sales within the
expected liquidation period will be governed by our assessment of the benefits
to our partners of holding versus selling immediately and by the availability
of interested buyers. Some properties appear to be candidates for near-term
liquidation, while others may take a little longer based on property type and
the local market.
Perhaps some historical perspective will be helpful at this point. In
October 1988, the final partners were admitted to the Fund, while the first
property, Tierrasanta in San Diego, had been purchased in April of that year
in a joint venture with Realty Income Funds II and III. The sixth, and final,
acquisition was made in July 1992 when the Fund purchased Metropolitan. Based
on our outlook for the real estate environment during the acquisition phase,
we anticipated holding the properties for no more than seven to 10 years.
Therefore, assuming we successfully complete our disposition plan, the timing
will be in line with our original expectations. As you may recall, we did take
advantage of a specific opportunity to sell Metropolitan, an industrial
property in Dallas Country, Texas. The net proceeds of this 1994 sale were
distributed to you in November of that year.
Results of Operations
Rental income was flat in the second quarter and down for the first six months
of 1996 relative to the comparable 1995 periods. As was true earlier in the
year, Tierrasanta, which the Fund owns jointly with Realty Income Funds II and
III, was the only property to show increased revenues and greater income from
operations.
Also continuing their first-quarter performance, Goshen Plaza, Westbrook
Commons, and Fairchild were the driving forces behind the decline in net
income for the six-month period. The lower average leased status hurt Goshen's
rental income comparison, while the significant increase in snow removal costs
in the first quarter continued to penalize the income from operations for the
first half.
At Westbrook, revenues were down only slightly, but the first quarter
increase in expenses, while individually insignificant, had a noticeable
effect in the aggregate. We are pleased to report that the leased status
improved modestly at these three properties during the quarter ended June 30,
1996, and LaSalle is optimistic about activity over the remainder of the year.
We are also pleased to report that Kent Sea Park became 100% leased
after quarter-end, and demand for space in this market should remain strong in
the near term.
The outlook at Tierrasanta is not so bright. While we are making every
effort to minimize the effect of the expiration of a lease for 38% of the
property, we want to caution that it may take a while to fill this space
because the market is somewhat soft.
Cash Distributions
Cash from operations again allowed us to make the planned $0.40 per-unit
distribution for the second quarter. As the year progresses, we will
reevaluate this amount and report if any changes are appropriate.
As the statement of cash flows indicates, distributions were down
significantly from the prior-year levels. This was the major reason for the
increase in this year's cash position versus a decrease last year. The August
1996 distribution is the last one which will be reinvested, so the lack of
reinvestment will be a factor in future cash flows. The primary purpose of the
reinvestment plan was to provide cash for the repurchase of Fund shares. Based
on recent repurchase activity, the Fund has sufficient cash from prior
reinvestments to continue to buy back shares for the next two years.
<TABLE>
Real Estate Investments (Dollars in thousands)
__________________________________________________________________________________________________
Leased Status Average Leased Status Contribution to Net Income
____________ _________________________ __________________________
Gross
Property Leasable June 30, Six Months Ended June 30, Six Months Ended June 30,
Name Area (Sq. Ft.) 1996 1995 1996 1995 1996
_____________ ____________ _________ _________ _________ _________ _________
<S> <C> <C> <C> <C> <C> <C>
Tierrasanta 104,236 100% 76% 100% $ 38 $ 92
Goshen Plaza 45,546 76 88 75 122 28
Westbrook
Commons 121,558 96 98 94 224 166
Burnham
Building 71,168 100 100 100 98 91
Kent Sea Park 138,157 93 99 99 160 159
_________ _________ _________ _________ _________ _________
480,665 95 93 96 642 536
Held for Sale
Fairchild 104,823 79 80 73 31 (14)
_________ _________ _________ _________ _________ _________
585,488 92 91 92 673 522
Fund Expenses
Less Interest
Income - - - - (115) (122)
_________ _________ _________ _________ _________ _________
Total 585,488 92% 91% 92% $558 $400
</TABLE>
Disposition Update
We had received an unsolicited offer for Fairchild Corporate Center when we
last communicated with you. A purchase and sale agreement has now been signed,
and the sale is expected to close by the end of August. The net proceeds from
the sale are estimated at $9.8 million, and 20% will be distributed to you in
November if the deal closes as anticipated. Realty Income Funds II and III
account for the remaining interest in this property.
Now that we are in the portfolio liquidation phase, some properties may
be managed differently than if we were planning to hold them for a longer
period. For instance, if a property would require a significant infusion of
capital in order to stabilize its occupancy around the 90% to 95% level,
LaSalle might make concessions on the sale price and give the new owners the
flexibility to make their own changes. We measure our capital expenditures
against the potential for an immediate return on our investment. Obviously,
the more we put into a property, the more we expect to get out of it.
One practice which does not change, however, is our close watch on
day-to-day expenses. LaSalle will continue to re-bid service contracts, appeal
real estate tax increases or seek reassessments, and take whatever other steps
it can to pare the costs of operating the properties in order to make them
more attractive to potential buyers.
Another change we have noted in the overall commercial real estate
market is that buyers appear to have shortened their investment horizon.
Rather than the seven to 10-year holding period we envisioned when building
the Fund's portfolio, buyers are now looking at a five-year timeframe. As a
result, in negotiating new and renewal leases, LaSalle will try to manage
lease terms and expirations to achieve the five-year average cash flows and
cap rates currently demanded by the market.
Outlook
A number of factors point to continued improvement for real estate in the near
future. Within the market itself, speculative construction remains sparse in
most areas, and foreclosure rates are falling. In addition, low unemployment,
subdued inflation, favorable interest rates, and increasing returns from real
estate relative to stocks and bonds contribute to a more optimistic outlook.
The return of large institutional investors, especially the REITs, means
there is more capital available for real estate investment and, therefore, a
market more accommodating to property sales. Of equal importance, the rate of
return (or "cap" rate) required by potential buyers tends to decline as
investment dollars flow into real estate. The relationship between cap rates
and real estate values is like that between interest rates and bond prices -
lower rates mean rising values.
Future reports will update you on our progress toward liquidating the
portfolio. The purpose of this discussion is to inform you of the improving
conditions we see in the real estate market and to outline our liquidation
strategy. We are optimistic that our plan is reasonable and will continue
working hard to bring it to fruition. Our focus in selling your holdings is
the same as that we employed in acquiring and managing each property - to
serve the interests of our partners.
Sincerely,
James S. Riepe
Chairman
August 9, 1996
CONDENSED CONSOLIDATED BALANCE SHEETS
Unaudited
(In thousands)
June 30, December 31,
1996 1995
___________ ____________
Assets
Real Estate Property Investments
Land . . . . . . . . . . . . . . . . . . . . . $ 7,918 $ 8,502
Buildings and Improvements . . . . . . . . . . 17,514 18,295
________ ________
25,432 26,797
Less: Accumulated Depreciation and
Amortization. . . . . . . . . . . . . . . . (3,993) (3,848)
________ ________
21,439 22,949
Held for Sale. . . . . . . . . . . . . . . . . 1,351 -
________ ________
22,790 22,949
Cash and Cash Equivalents. . . . . . . . . . . . 1,839 1,733
Accounts Receivable
(less allowances of $257 and $367) . . . . . . 490 623
Other Assets . . . . . . . . . . . . . . . . . . 249 280
________ ________
$ 25,368 $ 25,585
________ ________
________ ________
Liabilities and Partners' Capital
Security Deposits and Prepaid Rents. . . . . . . $ 187 $ 200
Accrued Real Estate Taxes. . . . . . . . . . . . 384 353
Accounts Payable and Other Accrued Expenses. . . 224 234
Minority Interest. . . . . . . . . . . . . . . . 688 688
________ ________
Total Liabilities. . . . . . . . . . . . . . . . 1,483 1,475
Partners' Capital. . . . . . . . . . . . . . . . 23,885 24,110
________ ________
$ 25,368 $ 25,585
________ ________
________ ________
See the accompanying notes to condensed consolidated financial statements.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
Unaudited
(In thousands except per-unit amounts)
Three Months Ended Six Months Ended
June 30, June 30,
1996 1995 1996 1995
________ ________ ________ ________
Revenues
Rental Income. . . . . . . . . . $ 854 $ 856 $ 1,716 $ 1,763
Interest Income. . . . . . . . . 16 30 41 47
________ ________ ________ ________
870 886 1,757 1,810
________ ________ ________ ________
Expenses
Property Operating Expenses. . . 199 220 413 383
Real Estate Taxes. . . . . . . . 144 143 291 283
Depreciation and Amortization. . 202 187 391 362
Management Fee to
General Partner. . . . . . . . 31 36 103 72
Partnership Management Expenses. 95 84 159 152
________ ________ ________ ________
671 670 1,357 1,252
________ ________ ________ ________
Net Income . . . . . . . . . . . $ 199 $ 216 $ 400 $ 558
________ ________ ________ ________
________ ________ ________ ________
Activity per Limited Partnership Unit
Net Income . . . . . . . . . . . $ 0.25 $ 0.28 $ 0.51 $ 0.73
________ ________ ________ ________
________ ________ ________ ________
Cash Distributions Declared. . . $ 0.40 $ 0.47 $ 0.80 $ 0.94
________ ________ ________ ________
________ ________ ________ ________
Weighted Average Number of
Units Outstanding. . . . . . . 772,629 767,088 772,478 762,739
________ ________ ________ ________
________ ________ ________ ________
CONDENSED CONSOLIDATED STATEMENT OF PARTNERS' CAPITAL
Unaudited
(In thousands)
General Limited
Partner Partners Total
________ ________ ________
Balance, December 31, 1995 . . . $ (72) $ 24,182 $ 24,110
Net Income . . . . . . . . . . . 4 396 400
Reinvestments in Units . . . . . - 285 285
Redemptions of Units . . . . . . - (237) (237)
Cash Distributions . . . . . . . (1) (672) (673)
_______ _______ _______
Balance, June 30, 1996 . . . . . $ (69) $ 23,954 $ 23,885
_______ _______ _______
_______ _______ _______
See the accompanying notes to condensed consolidated financial statements.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Unaudited
(In thousands)
Six Months Ended
June 30,
1996 1995
_________ _________
Cash Flows from Operating Activities
Net Income . . . . . . . . . . . . . . . . . . . $ 400 $ 558
Adjustments to Reconcile Net Income to Net Cash
Provided by Operating Activities
Depreciation and Amortization. . . . . . . . . 391 362
Other Changes in Assets and Liabilities. . . . 172 120
________ ________
Net Cash Provided by Operating Activities. . . . 963 1,040
________ ________
Cash Flows Used in Investing Activities
Investments in Real Estate . . . . . . . . . . . (232) (242)
________ ________
Cash Flows from Financing Activities
Cash Distributions . . . . . . . . . . . . . . . (673) (1,578)
Reinvestments in Shares. . . . . . . . . . . . . 285 680
Repurchases of Shares. . . . . . . . . . . . . . (237) (120)
________ ________
Net Cash Used in Financing Activities. . . . . . (625) (1,018)
________ ________
Cash and Cash Equivalents
Net Increase (Decrease) during Period. . . . . . 106 (220)
At Beginning of Year . . . . . . . . . . . . . . 1,733 2,327
________ ________
At End of Period . . . . . . . . . . . . . . . . $ 1,839 $ 2,107
________ ________
________ ________
See the accompanying notes to condensed consolidated financial statements.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Unaudited
The unaudited interim condensed consolidated financial statements reflect all
adjustments which are, in the opinion of management, necessary for a fair
statement of the results for the interim periods presented. All such
adjustments are of a normal, recurring nature.
The unaudited interim financial information contained in the
accompanying condensed consolidated financial statements should be read in
conjunction with the financial statements contained in the 1995 Annual Report
to Partners.
NOTE 1 - TRANSACTIONS WITH RELATED PARTIES AND OTHER
As compensation for services rendered in managing the affairs of the
Partnership, the General Partner earns a partnership management fee equal to
9% of net operating proceeds. The General Partner earned a partnership
management fee of $103,000 during the first six months of 1996. In addition,
the General Partner's share of cash available for distribution from operations
totaled $6,000 for the first six months of 1996.
In accordance with the partnership agreement, certain operating expenses
are reimbursable to the General Partner. The General Partner's reimbursement
of such expenses totaled $31,000 for communications and administrative
services performed on behalf of the Partnership during the first six months of
1996.
An affiliate of the General Partner earned a normal and customary fee of
$2,000 from the money market mutual funds in which the Partnership made its
interim cash investments during the first six months of 1996.
LaSalle Advisors Limited Partnership ("LaSalle") is the Partnership's
advisor and is compensated for its advisory services directly by the General
Partner. LaSalle is reimbursed by the Partnership for certain operating
expenses pursuant to its contract with the Partnership to provide real estate
advisory, accounting and other related services to the Partnership. LaSalle's
reimbursement for such expenses during the first six months of 1996 totaled
$40,000.
An affiliate of LaSalle earned $47,000 in the first six months of 1996
as property manager for several of the Partnership's properties.
NOTE 2 - PROPERTY HELD FOR SALE
Fairchild 234, a general partnership in which the Partnership holds a 20%
interest, holds a note secured by a deed of trust on Fairchild Corporate
Center. The other general partners are affiliates of the Partnership.
Fairchild 234 has entered into an agreement to sell its interest in Fairchild
Corporate Center, and the transaction is anticipated to close in the third
quarter, with estimated net proceeds to the Partnership of $1,952,000. The net
book value of the Partnership's interest in Fairchild Corporate Center is
classified as held for sale in the accompanying balance sheets and was
$1,352,000 at June 30, 1996. Results of operations at the property resulted in
a net loss of $14,000 for the six months ended June 30, 1996, and net income
of $31,000 for the six months ended June 30, 1995.
NOTE 3 - SUBSEQUENT EVENT
The Partnership declared a quarterly cash distribution of $0.40 per unit to
Limited Partners of the Partnership as of the close of business on June 30,
1996. The Limited Partners will receive $309,000, and the General Partner will
receive $3,000.
