UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
----------------------------------
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended May 31, 1996
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 (NO FEE REQUIRED)
For the transition period from to .
Commission File Number : 0-25880
ILM II LEASE CORPORATION
(Exact name of registrant as specified in its charter)
Virginia 04-3248639
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
265 Franklin Street, Boston, MA 02110
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (800) 225-1174
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 on common stock outstanding as of May 31, 1996: 5,180,941. The
aggregate sales price of the shares sold was $500,000. This does not reflect
market value. There is no current market for these shares.
<PAGE>
ILM II LEASE CORPORATION
BALANCE SHEET
May 31, 1996 (Unaudited)
(In thousands)
ASSETS
Cash and cash equivalents $ 1,457
Prepaid expenses and other assets 131
-----------
$ 1,588
===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Accounts payable and accrued expenses $ 626
Accounts payable - affiliates 16
Income taxes payable 62
Shareholders' equity 884
------------
$ 1,588
============
STATEMENTS OF INCOME
For the three and nine months ended May 31, 1996 (Unaudited)
(In thousands, except per share data)
Three Months Nine Months
------------ -----------
Revenues:
Rental and other income $ 3,304 $ 9,702
Interest income 10 24
-------- ---------
3,314 9,726
Expenses:
Property operating expenses 1,725 5,172
Master lease rent expense 1,008 2,864
Real estate taxes 143 391
Property management fees 181 534
General and administrative 33 73
Advisory fees 16 48
--------- ---------
3,106 9,082
--------- ---------
Income before taxes 208 644
Income tax expense 81 259
---------- ----------
Net income $ 127 $ 385
========== ==========
Net income per share
(5,180,941 shares outstanding) $0.02 $0.07
===== =====
See accompanying notes.
<PAGE>
ILM II LEASE CORPORATION
STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
For the nine months ended May 31, 1996 (Unaudited)
(In thousands)
Common Stock Additional
$.01 Par Value Paid-in Accumulated
Shares Amount Capital Earnings Total
------ ------ ------- -------- ------
Balance at August 31, 1995 15 $ - $ 1 $ (1) $ -
Issuance of common stock 5,166 52 447 - 499
Net income - - - 385 385
------ ----- ------ ------ -----
Balance at May 31, 1996 5,181 $ 52 $ 448 $ 384 $ 884
===== ===== ====== ====== =====
STATEMENT OF CASH FLOWS
For the nine months ended May 31, 1996 (Unaudited)
Increase (decrease) in Cash and Cash Equivalents
(In thousands)
Cash flows from operating activities:
Net income $ 385
Adjustments to reconcile net income to
net cash provided by operating activities:
Changes in assets and liabilities:
Prepaid expenses and other assets (131)
Accounts payable and accrued expenses 626
Accounts payable - affiliates 16
Income taxes payable 62
----------
Total adjustments 573
----------
Net cash provided by operating activities 958
Cash flows from financing activities:
Proceeds from issuance of common stock 499
----------
Net increase in cash and cash equivalents 1,457
Cash and cash equivalents, beginning of period -
----------
Cash and cash equivalents, end of period $ 1,457
==========
See accompanying notes.
<PAGE>
ILM II LEASE CORPORATION
Notes to Financial Statements
(Unaudited)
1. Organization
ILM II Lease Corporation ("the Company") was organized as a corporation on
September 12, 1994 under the laws of the state of Virginia. Through August
31, 1995, the Company had no significant operations. The Company was formed
by PaineWebber Independent Living Mortgage Inc. II (ILM) to operate six
rental housing projects for independent senior citizens ("the Facilities")
under a master lease agreement. ILM initially made mortgage loans to Angeles
Housing Concepts, Inc. ("AHC") secured by the Facilities between July 1990
and July 1992. In March 1993, AHC defaulted under the terms of such mortgage
loans and in connection with the settlement of such default, title to the
Facilities was transferred, effective April 1, 1994, to certain
majority-owned, indirect subsidiaries of ILM, subject to the mortgage loans.
ILM has elected to be taxed as a Real Estate Investment Trust ("REIT") under
the Internal Revenue Code of 1986, as amended ("the Code") for each taxable
year of operations. In order to maintain its status as a REIT, 75% of ILM's
annual gross income must be Qualified Rental Income as defined by the Code.
The rent paid by the residents of the Facilities likely would not be deemed
to be Qualified Rental Income because of the extent of services provided to
residents. Consequently, the operation of the Facilities by ILM or its
subsidiaries over an extended period of time could adversely affect ILM's
status as a REIT. Therefore, ILM formed the Company to operate the
Facilities, and by means of a distribution, transferred the ownership of the
common stock of the Company to the holders of ILM common stock on September
1, 1995 (see Note 2). Because the Company, which will be taxed as a regular C
corporation, is not a subsidiary of ILM, it can receive service-related
income without endangering the REIT status of ILM.
The Company's sole business is the operations of the Facilities. The
Company has initially leased the Facilities from ILM II Holding, Inc. ("ILM
Holding"), the subsidiary of ILM which currently holds title to the
Facilities, pursuant to a master lease which commenced on September 1, 1995
(see Note 3). Pursuant to the settlement agreement referred to above, the
Company engaged AHC, the former owner of the Facilities, to manage the
day-to-day operations of the Facilities pursuant to a management agreement
(see Note 6).
Management believes that all necessary adjustments to fairly reflect the
results of the interim period are included in the accompanying financial
statements. All accounting adjustments reflected in the accompanying interim
financial statements are of a normal recurring nature.
2. Capital Stock
Prior to September 1, 1995, the Company was a wholly-owned subsidiary of
ILM. Pursuant to a Reorganization and Distribution Agreement, ILM capitalized
the Company with $500,000, an amount estimated to provide the Company with
necessary working capital. On September 1, 1995, Mavricc Management Systems,
Inc., as the distribution agent, caused to be issued on the stock records of
the Company the distributed Common Stock of the Company, in uncertificated
form, to the holders of record of ILM common stock at the close of business
on July 14, 1995. One share of the Company's Common Stock was distributed for
each outstanding share of ILM Common Stock. No certificates or scrip
representing fractional shares of the Company's Common Stock were issued to
holders of ILM common stock as part of the distribution. In lieu of receiving
fractional shares, each holder of ILM common stock who would otherwise have
been entitled to receive a fractional share of the Company's Common Stock
received a cash payment equivalent to $0.14 per share for such fractional
interest.
<PAGE>
3. The Master Lease Agreement
ILM Holding (the "Lessor") has leased the Facilities to the Company (the
"Lessee") pursuant to a master lease which commenced on September 1, 1995.
Such master lease is a "triple net" lease with an original fixed term
expiring December 31, 2000 (December 31, 1999 with respect to the Santa
Barbara Facility). Under the terms of the master lease, the Lessor has the
right to terminate the master lease as to any Facility sold as of the date of
such sale. The master lease is accounted for as an operating lease in the
Company's financial statements.
Descriptions of the properties covered by the master lease between the
Company and ILM Holding are summarized as follows:
The Palms, Fort Myers, Florida
The Company operates a 204-unit Senior Housing Facility known as The
Palms, located in Fort Myers, Florida. Construction of the Senior Housing
Facility, which averaged 99% occupancy for the quarter ended May 31, 1996,
was completed in October 1988.
Crown Villa, Omaha, Nebraska
The Company operates a 73-unit Senior Housing Facility known as Crown
Villa, located in Omaha, Nebraska. Construction of the Senior Housing
Facility, which averaged 96% occupancy for the quarter ended May 31, 1996,
was completed in January 1992.
Overland Park Place, Overland Park, Kansas
The Company operates a 137-unit Senior Housing Facility known as Overland
Park Place, located in Overland Park, Kansas. Construction of the Senior
Housing Facility, which averaged 91% occupancy for the quarter ended May 31,
1996, was completed in June 1984.
Rio Las Palmas, Stockton, California
The Company operates a 162-unit Senior Housing Facility known as Rio Las
Palmas, located in Stockton, California. Construction of the Senior Housing
Facility, which averaged 85% occupancy for the quarter ended May 31, 1996,
was completed in June 1988.
The Villa at Riverwood, St. Louis County, Missouri
The Company operates a 119-unit Senior Housing Facility known as The Villa
at Riverwood, located in St. Louis County, Missouri. Construction of the
Senior Housing Facility, which averaged 93% occupancy for the quarter ended
May 31, 1996, was completed in June 1985.
Villa Santa Barbara, Santa Barbara, California
The Company operates a 123-unit Senior Housing Facility known as Villa
Santa Barbara, located in Santa Barbara, California, under a co-tenancy
arrangement with an affiliated company, ILM I Lease Corporation. The Company
has entered into an agreement with ILM I Lease Corporation regarding such
joint tenancy. ILM I Lease Corporation was formed for similar purposes as the
Company by an affiliated REIT, PaineWebber Independent Living Mortgage Fund,
Inc., whose indirect subsidiary owns a portion of the Villa Santa Barbara
property. The portion of the Facility leased by the Company represents 75% of
the total project. The Senior Housing Facility, which averaged 69% occupancy
for the quarter ended May 31, 1996, was opened in June of 1979.
During the term of the master lease, the Company is obligated to pay
annual base rent ("Base Rent") for the Facilities. For calendar year 1995,
the annual Base Rent was $3,548,700 (prorated according to the date of
commencement of the master lease), allocated as follows: $849,836 for the
Florida Facility, $541,010 for the Nebraska Facility, $720,252 for the Kansas
Facility, $591,429 for the Stockton, California Facility, $423,933 for the
Missouri Facility and $422,240 for the Santa Barbara, California Facility.
For calendar year 1996 and subsequent years, the annual Base Rent will be
$4,035,600, allocated as follows: $966,439 for the Florida Facility, $615,240
for the Nebraska Facility, $819,074 for the Kansas Facility, $672,576 for the
Stockton, California Facility, $482,098 for the Missouri Facility and
$480,173 for the Santa Barbara, California Facility. Beginning in fiscal
1997, and for each fiscal year thereafter, the Company also must pay variable
rent ("Variable Rent") to ILM Properties for each Facility. Such Variable
Rent will be equal to 40% of the excess, if any, of the aggregate total
revenues for the Facilities for fiscal 1997 or such subsequent fiscal year
over $13,021,000. In addition, the Company is obligated to pay as additional
rent ("Additional Rent") governmental taxes and assessments, utility charges,
and insurance premiums. Base Rent, Variable Rent and Additional Rent are
collectively referred to in the master lease as "Rent". The Company believes
that the rent it will pay under the master lease represents the fair rental
value for the Facilities. With regard to repairs, the master lease
specifically requires the Company, at its expense, to inspect, maintain and
perform non-structural repairs to the Facilities. ILM Holding, as the owner
of the Facilities and Lessor, is responsible for all capital improvements and
structural repairs to the Facilities.
Under the master lease, the Company's use of the Facilities is limited to
use as a senior housing facility unless the Lessor's consent to some other
use is obtained. The Company has responsibility to obtain and maintain all
licenses, certificates and consents needed to use and operate each Facility,
and to use and maintain each Facility in compliance with all local board of
health and other applicable governmental and insurance regulations. The
Facilities located in California, Florida and Kansas are licensed by such
states to provide assisted living services. Also, various health and safety
regulations and standards which are enforced by state and local authorities
apply to the operation of all of the Facilities. Violations of such health
and safety standards could result in fines, penalties, closure of a Facility
or other sanctions.
4. Federal Income Taxes
The Company is taxable as a regular C corporation and, therefore, its
income is subject to tax at the federal and state levels. Income taxes at the
appropriate statutory rates have been provided for in the accompanying
financial statements.
ILM recognized a gain of $225,000 on the distribution of the Company's
Common Stock to the shareholders of ILM to the extent that the estimated fair
market value of the Company's Common Stock (of $0.14 per share) exceeded
ILM's basis in such Common Stock. ILM's basis in the Company's Common Stock
equaled the $500,000 contributed to the Company upon the original issuance of
the Company's Common Stock to ILM.
5. The Advisory Agreement and Related Party Transactions
The Company has entered into an Advisory Agreement with PaineWebber Lease
Advisor, L.P. ("the Advisor"), a Virginia limited partnership comprised of
ILM Lease Advisor, Inc. as the general partner and Properties Associates,
L.P. as the limited partner. ILM Lease Advisor Inc. is a wholly-owned
subsidiary of PaineWebber Properties Incorporated ("PWPI"). The sole general
partner of Properties Associates, L.P. is PAM, Inc., which is a wholly-owned
subsidiary of PWPI. PWPI is a wholly-owned subsidiary of PaineWebber
Incorporated ("PWI"), which is a subsidiary of Paine Webber Group Inc.
("PaineWebber"). Subject to the supervision of the Company's Board of
Directors, the business of the Company is managed by the Advisor. Under the
Advisory Agreement, the Company will engage the Advisor and the Advisor
agrees to use its best efforts to manage the day-to-day affairs and
operations of the Company and to provide administrative services and
facilities appropriate for such management. The specific duties of the
Advisor under the Advisory Agreement include recommending selections of
providers of professional and specialized services and handling other
managerial functions with respect to the Facilities. The Advisor is also
obligated to provide office and clerical facilities adequate for the
Company's operations and to provide, or obtain others to provide, accounting,
custodial, funds collection and payment, stockholder communications, legal
and other services necessary in connection with the Company's operations. The
Advisory Agreement also obligates the Advisor to handle or arrange for the
handling of the Company's financial and other records.
Either party may terminate the Advisory Agreement at any time on or after
January 1, 1996 on 90 days' notice, and the Company may terminate the
Advisory Agreement for cause at any time. The Advisor receives a base fee in
an amount equal to 0.5% of the Gross Operating Revenues of the Facilities
operated by the Company as compensation for its services. This fee amounted
to $48,000 for the nine months ended May 31, 1996. In addition, an affiliate
of the Advisor is entitled to reimbursement for expenses incurred in
providing certain financial, accounting and investor communication services
to the Company. Included in general and administrative expenses for the nine
months ended May 31, 1996 is $23,000, representing reimbursements to this
affiliate of the Advisor for providing such services to the Company. In
performing its services under the Advisory Agreement, the Advisor is required
to pay certain employment expenses of its personnel, certain expenses of
employees and agents of the Advisor and of directors, officers and employees
of the Company who are also employees of the Advisor or its affiliates, and
certain of its overhead and miscellaneous administrative expenses relating to
performance of its functions under the Advisory Agreement. The Company is
responsible for reimbursing out-of-pocket expenses of directors, officers and
employees of the Company incurred by them exclusively in such capacity and
for all other costs of its operations.
6. The Management Agreement
The Company has engaged AHC to manage the Facilities pursuant to a
Management Agreement. Under the Management Agreement, AHC generally is
required to perform all operational functions necessary to operate the
Facilities other than certain administrative functions. The functions
performed by AHC include periodic reporting to, and coordinating generally
with, the Company, leasing the individual units in the Facilities,
maintaining bank accounts, maintaining books and records, advertising and
marketing the Facilities, hiring and supervising on-site personnel, and
performing maintenance. The contract is automatically renewable for
successive one-year periods through December 31, 2000, subject to certain
limitations described further below. The terms of the management contract
provide that AHC will receive a base management fee equal to 5.5% of Gross
Operating Revenues of the Senior Housing Facilities, as defined. Such fees
totalled $534,000 for the nine months ended May 31, 1996. The management
agreement may be terminated without cause upon 30 days' written notice
subsequent to September 15, 1996. The contract may be terminated immediately
for cause, which includes failure to meet certain minimum occupancy and
rental rate thresholds. If the agreement is terminated without cause prior to
December 31, 2000, AHC would be due a termination fee of $750,000. Effective
September 1, 1995, the obligations to pay AHC under the terms of the
management agreement were transferred to the Company. However, ILM has
guaranteed the payment of the termination fee described above.
<PAGE>
ILM II LEASE CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Liquidity and Capital Resources
The Company was formed by PaineWebber Independent Living Mortgage Inc. II
("ILM II"), a publicly-held, non-traded Real Estate Investment Trust ("REIT"),
for the purpose of operating six Senior Housing Facilities under the terms of a
master lease agreement. ILM had originally made mortgage loans secured by the
Facilities to Angeles Housing Concepts, Inc. ("AHC") between June 1989 and July
1992. In March 1993, AHC defaulted under the terms of such loans which led to
the foreclosure of the Facilities in April 1994 under the terms of a settlement
agreement between ILM II and AHC. As of August 31, 1995, the Company which is
taxable as a regular C corporation and not as a REIT, was a wholly-owned
subsidiary of ILM which had contributed $500,000 in return for all of the
Company's capital stock. On September 1, 1995, after ILM received the required
regulatory approval, it distributed all of the outstanding shares of capital
stock of the Company to the holders of record of ILM's common stock. One share
of common stock of the Company was issued for each full share of ILM's common
stock held. No fractional shares were issued. Holders of ILM's common stock were
not required to pay any cash or other consideration or to exchange their common
stock of ILM for the common stock of the Company. Prior to the distribution of
the Company's stock, ILM shareholders received an information statement fully
describing the Company and the distribution of its capital stock.
The master lease agreement is initially between ILM's consolidated
affiliate, ILM II Holding, Inc. ("ILM Holding") as owner of the properties and
Lessor, and the Company as Lessee. The master lease is a "triple-net" lease with
an original fixed term expiring December 31, 2000 (December 31, 1999 with
respect to the Santa Barbara property). The Lessor has the right to terminate
the master lease as to any property sold by the Lessor as of the date of such
sale. During the initial term of the master lease, the Company is obligated to
pay annual base rent for the use of all of the Facilities in the aggregate
amount of $3,548,700 for calendar year 1995 (prorated based on the commencement
date of the lease) and $4,035,600 for calendar year 1996 and each subsequent
year. Beginning in fiscal 1997, and for each fiscal year thereafter, the Company
will also be obligated to pay variable rent to the Lessor for each Facility.
Such variable rent will be equal to 40% of the excess, if any, of the aggregate
total revenues for the Facilities for fiscal 1997 or such subsequent fiscal year
over $13,021,000. In addition, as the Lessee, the Company is responsible for
paying all governmental taxes and assessments, utility charges, and insurance
premiums, as well as the costs of all required maintenance and non-structural
repairs to the Facilities. The Lessor, as the owner of the Facilities, is
responsible for all capital improvements and structural repairs to the
Facilities.
The six properties which the Company has leased averaged 90% occupancy for
the quarter ended May 31, 1996. The Facilities generated sufficient net cash
flow to cover the master lease rental obligation to ILM Holding during the
initial nine-month period of the Company's operations. Furthermore, annualized
current operating income levels are sufficient to cover the calendar 1996 master
lease payments, which are $122,000 per quarter higher than the rate paid during
calendar 1995. Further improvement in operating income levels is expected upon
the successful lease-up of the Villa Santa Barbara property. A property
renovation and assisted-living conversion program has been in progress at Villa
Santa Barbara for the past 21 months. Phase one of the renovations at the Santa
Barbara Facility, which was completed during fiscal 1995, included renovation of
the lobby, dining room, library, activities room, television and game room and
the laundry rooms. Phase two of the renovation program, which was substantially
completed during the current quarter, involved interior unit improvements,
hallway upgrades and the conversion of existing studio units to assisted living
units. Leasing gains at Santa Barbara have been slowed by delays in completing
the capital improvements and in obtaining the required regulatory licensing to
begin leasing the new assisted living units. During the current quarter, the
Company received the required local regulatory approval of its assisted living
operating license. Leasing of the 38 new assisted living units is now underway.
The overall occupancy at the Santa Barbara Facility had increased to 79% as of
May 31, 1996.
Management of the Facilities has been provided by AHC from, and in certain
cases prior to, the date that the original mortgage loans were made by ILM. In
connection with the settlement agreement referred to above, AHC was retained in
a property management capacity under a contract with an original expiration date
of December 31, 1995. The contract is automatically renewable for successive
one-year periods through December 31, 2000, subject to certain limitations. The
terms of the management contract provide that AHC will receive a base management
fee equal to 5.5% of Gross Operating Revenues of the Senior Housing Facilities,
as defined. The management agreement may be terminated without cause upon 30
days' written notice subsequent to September 15, 1996. The contract may be
terminated immediately for cause, which includes failure to meet certain minimum
occupancy and rental rate thresholds. If the agreement is terminated without
cause prior to December 31, 2000, AHC would be due a termination fee of
$750,000. Effective September 1, 1995, the obligations to pay AHC under the
terms of the management agreement were transferred to the Company. However, ILM
has guaranteed the payment of the termination fee described above.
At May 31, 1996, ILM had cash and cash equivalents of $1,457,000. Such
amounts will be used for the Company's working capital requirements. The Company
has no current plans to pay regular dividends to its shareholders. The Company's
dividend policy will be re-evaluated periodically by the Board of Directors in
light of historical operating results and expected future capital needs. The
source of future liquidity is expected to be from the operating cash flow from
the Senior Housing Facilities, net of the master lease payments to ILM Holding,
and interest income earned on invested cash reserves. Such sources of liquidity
are expected to be adequate to meet the Company's operating requirements on both
a short-term and long-term basis.
Results of Operations
Three Months Ended May 31, 1996
The Company's operations began on September 1, 1995 with the commencement
of the master lease agreement. As a result, this is the Company's first year of
operations, and, therefore, a comparison to the same period in the prior year is
not applicable. The Company had net income of $127,000 for the three months
ended May 31, 1996. The Company's primary revenue source is rental income from
the individual tenant leases at the Senior Housing Facilities. Rental income
amounted to $3,304,000 for the three months ended May 31, 1996. Rental income
and interest income on cash and cash equivalents exceeded the Company's total
operating expenses of $3,106,000 for the current three-month period. Expenses
included property operating expenses of $1,725,000, master lease rent expense of
$1,008,000, real estate taxes of $143,000 and property management fees of
$181,000. In addition, the Company incurred income taxes of $81,000 on pre-tax
income of $208,000. Such expense includes federal and state taxes at the
applicable statutory rates.
Nine Months Ended May 31, 1996
The Company's operations began on September 1, 1995 with the commencement
of the master lease agreement. As a result, this is the Company's first year of
operations, and, therefore, a comparison to the same period in the prior year is
not applicable. The Company had net income of $385,000 for the nine months ended
May 31, 1996. The Company's primary revenue source is rental income from the
individual tenant leases at the Senior Housing Facilities. Rental income
amounted to $9,702,000 for the nine months ended May 31, 1996. Rental income and
interest income on cash and cash equivalents exceeded the Company's total
operating expenses of $9,082,000 for the current nine-month period. Expenses
included property operating expenses of $5,172,000, master lease rent expense of
$2,864,000, real estate taxes of $391,000 and property management fees of
$534,000. In addition, the Company incurred income taxes of $259,000 on pre-tax
income of $644,000. Such expense includes federal and state taxes at the
applicable statutory rates.
<PAGE>
ILM II LEASE CORPORATION
SIGNATURES
Pursuant to the requirements of 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.
By: ILM II LEASE CORPORATION
By: /s/ Timothy J. Medlock
Timothy J. Medlock
Treasurer
Dated: July 12, 1996
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
Partnership's audited financial statements for the quarter ended May 31, 1996
and is qualified in its entirety by reference to such financial statements.
</LEGEND>
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<PERIOD-END> MAY-31-1996
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