NOTES TO UNAUDITED CONSOLIDATED FINANCIAL
STATEMENTS
(Unaudited)
(in thousands, except share and per share
data, percentages and as otherwise indicated)
1. ORGANIZATION AND FORMATION OF THE COMPANY
Jernigan Capital, Inc. (together with its consolidated subsidiaries,
the “Company”) makes debt and equity investments in newly-constructed and existing self-storage facilities. The Company
is a Maryland corporation that was organized on October 1, 2014. The Company closed its initial public offering of its common stock
(the “IPO”) on April 1, 2015, and has used proceeds of the IPO and other capital sources primarily to fund real estate
loans to private developers, owners and operators of self-storage facilities. The Company is structured as an Umbrella Partnership
REIT (“UPREIT”) and conducts its investment activities through its operating company, Jernigan Capital Operating Company,
LLC (the “Operating Company”). The Company is externally managed by JCAP Advisors, LLC (the “Manager”).
The Company has elected to be taxed as a real estate investment
trust (“REIT”) under the Internal Revenue Code of 1986 (the “Code”), as amended. As a REIT, the Company
generally will not be subject to U.S. federal income taxes on REIT taxable income, determined without regard to the deduction for
dividends paid and excluded capital gains, to the extent that it annually distributes all of its REIT taxable income to stockholders
and complies with various other requirements for qualification as a REIT set forth in the Code.
2. SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The Company’s consolidated financial statements are prepared
in accordance with accounting principles generally accepted in the United States of America (“GAAP”). The accompanying
interim consolidated financial statements include all normal recurring adjustments that are, in the opinion of management, necessary
for a fair presentation of the results for the interim periods included therein. Substantially all operations are conducted through
the Operating Company and all significant intercompany transactions and balances have been eliminated in consolidation.
Use of Estimates
The preparation of the consolidated financial statements in conformity
with GAAP requires management to make estimates and assumptions that affect certain reported amounts and disclosures. Actual results
could differ from those estimates.
Variable Interest Entities
The Company invests in entities that may qualify as variable interest
entities (“VIEs”). A VIE is a legal entity that lacks one or more of the characteristics of a voting interest entity.
A VIE is defined as an entity in which equity investors do not have the characteristics of a controlling financial interest or
do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support
from other parties. The determination of whether an entity is a VIE includes both a qualitative and quantitative analysis. Management
bases the qualitative analysis on its review of the design of the entity, its organizational structure including allocation of
decision-making authority and relevant financial agreements and the quantitative analysis on the forecasted cash flow of the entity.
Management reassesses the initial evaluation of an entity as a VIE upon the occurrence of certain reconsideration events.
A VIE must be consolidated only by its primary beneficiary, which
is defined as the party that, along with its affiliates and agents, has both the: (i) power to direct the activities that
most significantly impact the VIE’s economic performance and (ii) obligation to absorb the losses of the VIE or the
right to receive the benefits from the VIE, which could be significant to the VIE. Management determines whether the Company is
the primary beneficiary of a VIE by considering qualitative and quantitative factors, including, but not limited to: which activities
most significantly impact the VIE’s economic performance and which party controls such activities; the amount and characteristics
of its investment; the obligation or likelihood for the Company or other interests to provide financial support; consideration
of the VIE’s purpose and design, including the risks the VIE was designed to create and pass through to its variable interest
holders and the similarity with and significance to the Company’s business activities and the other interests. Management
reassesses the determination of whether the Company is the primary beneficiary of a VIE each reporting period.
Equity Investments
Investments in real estate ventures and entities over which the
Company exercises significant influence but not control are accounted for using the equity method. In accordance with Accounting
Standards Codification (“ASC”) 825,
Financial Instruments
(“ASC 825-10”), issued by the Financial
Accounting Standards Board (“FASB”), the Company has elected the fair value option of accounting for its development
property investments, which would otherwise be required to be accounted for under the equity method. The Company also holds an
investment in a real estate venture that is accounted for under the equity method of accounting.
Loan Investments and Election of Fair Value Option of Accounting
for Certain Loan Investments
The Company has elected the fair value option of accounting for
all of its investment portfolio loan investments, including those that are required under GAAP to be accounted for under the equity
method, in order to provide stockholders and others who rely on the Company’s financial statements with a more complete and
accurate understanding of the Company’s economic performance including its revenues and value inherent in the Company’s
equity participation in development projects. Changes in the fair value of these investments are recorded in change in fair value
of investments within other income. All direct loan costs are charged to expense as incurred.
Each loan investment, including those recorded at cost and presented
on the Consolidated Balance Sheets as other loans, is evaluated for impairment on a periodic basis. For loans carried at fair value,
indicators of impairment are reflected in measurement of the loan. For loans that are carried at cost, the Company estimates an
allowance for loan loss at each reporting date. In evaluating loan impairment, the Company also periodically evaluates the extent
and impact of any credit deterioration associated with the performance and/or value of the underlying collateral property as well
as the financial and operating capability of the borrower on a loan by loan basis. The Company also evaluates the financial wherewithal
of any loan guarantors as well as the borrower’s competency in managing and operating the property. In addition, the Company
considers the overall economic environment, real estate sector and geographic sub-market in which the borrower operates. A loan
will be considered impaired when, based on current information and events, it is probable that the loan will not be collected according
to the contractual terms of the loan agreement. Factors to be considered by management in determining impairment include payment
status, collateral value and the probability of collecting scheduled principal and interest payments when due. Loans that experience
insignificant payment delays and payment shortfalls generally are not classified as impaired. At March 31, 2017 and December 31,
2016, there were no loans that were deemed to be impaired loans. Additionally, for loans recorded at cost, the Company determined
that no allowance for loan loss was necessary at March 31, 2017 and December 31, 2016.
For investments carried at fair value, fees and costs are expensed
as incurred.
Loan arrangements under which the Company is entitled
to greater than 50% of the residual profits are accounted for as a real estate investment in accordance with ASC 310,
Receivables
(“ASC 310”), and are included in the Consolidated Balance Sheets as self-storage real estate owned.
Fair Value Measurement
The Company carries certain financial instruments at fair value
because it has elected to apply the fair value option on an instrument by instrument basis under ASC 825-10. The Company’s
financial instruments consist of cash, development property investments (which are typically structured as first mortgages and
a 49.9% profits interest in the development project), operating property loans (loans secured by operating properties), the investment
in real estate venture, other loans, receivables, senior loan participations, and payables.
The following table presents the financial instruments measured
at fair value on a recurring basis at March 31, 2017:
|
|
Fair Value Measurements Using
|
|
|
|
Total
|
|
|
Level 1
|
|
|
Level 2
|
|
|
Level 3
|
|
Development property investments
|
|
$
|
117,936
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
117,936
|
|
Operating property loans
|
|
|
9,965
|
|
|
|
-
|
|
|
|
-
|
|
|
|
9,965
|
|
Total investments
|
|
$
|
127,901
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
127,901
|
|
The following table presents the financial instruments measured
at fair value on a recurring basis at December 31, 2016:
|
|
Fair Value Measurements Using
|
|
|
|
Total
|
|
|
Level 1
|
|
|
Level 2
|
|
|
Level 3
|
|
Development property investments
|
|
$
|
95,102
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
95,102
|
|
Operating property loans
|
|
|
9,905
|
|
|
|
-
|
|
|
|
-
|
|
|
|
9,905
|
|
Total investments
|
|
$
|
105,007
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
105,007
|
|
Estimating fair value requires the use of judgment. The types of
judgments involved depend upon the availability of observable market information. Management’s judgments include determining
the appropriate valuation model to use, estimating unobservable inputs and applying valuation adjustments. See Note 4,
Fair Value of Financial Instruments
, for additional disclosure on the valuation methodology and significant assumptions, as
well as the election of the fair value option for certain financial instruments.
Self-Storage Real Estate Owned
Land is carried at historical cost. Building and improvements are
carried at historical cost less accumulated depreciation and impairment losses. The cost reflects the purchase price or development
cost of the assets. Ordinary repairs and maintenance are expensed as incurred; major replacements and betterments, which improve
or extend the life of the asset, are capitalized and depreciated over their estimated useful lives. The costs of building
and improvements are depreciated using the straight-line method based on a useful life of 40 years.
We evaluate long-lived assets for impairment when events and circumstances
such as declines in occupancy and operating results indicate that there may be an impairment. The carrying value of
these long-lived assets is compared to the undiscounted future net operating cash flows, plus a terminal value, attributable to
the assets to determine if the facility’s basis is recoverable. If an asset’s basis is not considered recoverable,
an impairment loss is recorded to the extent the net carrying value of the asset exceeds the fair value. The impairment
loss recognized equals the excess of net carrying value over the related fair value of the asset.
Cash and Cash Equivalents
Cash, investments in money market accounts, and certificates of
deposit with original maturities of three months or less are considered to be cash equivalents. The Company places its cash and
cash equivalents primarily with two financial institutions, and the balance at each financial institution exceeds the Federal Deposit
Insurance Corporation insurance limit of $250,000 per institution.
Other Loans
The Company’s other loans balance primarily includes principal
balances for certain revolving loan agreements and short-term mortgage loans made by the Company in situations where it was determined
that making such loans would benefit the Company’s primary business. These loans are accounted for under the cost method.
Fixed Assets
Fixed assets are recorded at cost and consist of furniture, office
and computer equipment, and software. Depreciation is computed on a straight-line basis over the estimated useful lives of the
related assets, which range from three to seven years. Fixed assets are generally purchased by the Manager and the cost reimbursed
by the Company. Maintenance and repair costs are charged to expense as incurred. Upon sale or retirement, the asset cost and related
accumulated depreciation are eliminated from the respective accounts and any resulting gain or loss is included in income.
Revenue Recognition
Interest income is recognized as earned on a simple interest basis
and is reported in interest income from investments in the Consolidated Statements of Operations. Accrual of interest will be discontinued
on a loan when management believes, after considering economic and business conditions and collection efforts, that the borrower’s
financial condition is such that collection of interest is doubtful. The Company will recognize income on impaired loans when they
are placed into non-accrual status on a cash basis when the loans are both current and the collateral on the loan is sufficient
to cover the outstanding obligation to the Company. If these factors do not exist, the Company will not recognize income on such
loans. Accrued interest generally is reversed when a loan is placed on non-accrual status.
The Company’s loan origination fees are accreted into interest
income over the term of the investment using the effective yield method.
The operations of the self-storage real estate owned are managed
by a third-party self-storage management company. All rental leases are operating leases, and rental income is recognized in accordance
with the terms of the leases, which generally are month to month.
Debt Issuance Costs
Costs related to the sale of senior participations
are deferred and are amortized as interest expense over the estimated life of the related senior participation using the straight-line
method, which approximates the effective interest method. If a debt instrument is repurchased prior to its original maturity date,
the unamortized balance of debt issuance costs are written off to interest expense or, if significant, included in “early
extinguishment of debt.” Debt issuance costs are presented in Consolidated Balance Sheets as a deduction from the carrying
amount of the principal balance.
Transaction and other expenses
Transaction and other expenses consist of non-capitalizable advisory
fees and other unreimbursed expenses incurred in connection with various financing and investment transactions and are expensed
as incurred. The Company did not incur any transaction and other expenses during the three months ended March 31, 2017. During
the same period in 2016, the Company incurred $2.0 million of transaction and other expenses.
Offering and Registration Costs
Offering and registration costs represent underwriting discounts
and commissions, professional fees, fees paid to various regulatory agencies, and other costs incurred in connection with the registration
and sale of the Company’s securities. Offering and registration costs incurred in connection with the Company’s common
stock offerings are reflected as a reduction of additional paid-in capital.
On July 27, 2016, the Company entered into a Stock Purchase Agreement
(see Note 10,
Stockholders’ Equity
) which requires the Company to issue and sell a minimum of $50.0 million of Series
A Preferred Stock by July 27, 2018. The Company incurred $2.8 million of preferred stock offering costs in connection with the
execution of the Stock Purchase Agreement. Such costs are presented as deferred costs on the Consolidated Balance Sheets until
such time as Series A Preferred Stock is issued. A pro rata portion of such deferred costs, based upon the ratio of the amount
issued to the $50.0 million minimum issuance of Series A Preferred Stock, is reclassified to cumulative preferred stock upon issuance
of the Series A Preferred Stock. Of the $2.8 million of offering costs incurred, $2.2 million is in deferred costs on the Consolidated
Balance Sheet at March 31, 2017, and $0.6 million has reduced the cumulative preferred stock balance on the Consolidated Balance
Sheet at March 31, 2017.
Income Taxes
The Company has elected to be taxed as a REIT and to comply with
the related provisions of the Code. Accordingly, the Company will generally not be subject to U.S. federal income tax to the extent
of its distributions to stockholders and as long as certain asset, income and share ownership tests are met. To qualify as a REIT,
the Company must annually distribute at least 90% of its REIT taxable income to its stockholders and meet certain other requirements.
Earnings per Share (“EPS”)
Basic EPS includes only the weighted average number of common shares
outstanding during the period. Diluted EPS includes the weighted average number of common shares and the dilutive effect of restricted
stock, accrued stock dividends, and redeemable Operating Company units when such instruments are dilutive.
All outstanding unvested share-based payment awards that contain
rights to nonforfeitable dividends are treated as participating in undistributed earnings with common shareholders. Awards of this
nature are considered participating securities and the two-class method of computing basic and diluted EPS must be applied.
Comprehensive Income
For the three months ended March 31, 2017 and 2016, comprehensive
income equaled net income; therefore, separate Consolidated Statements of Comprehensive Income are not included in the accompanying
consolidated financial statements.
Segment Reporting
The Company does not evaluate performance on a relationship specific
or transactional basis and does not distinguish its principal business or group its operations on a geographical basis for purposes
of measuring performance. Accordingly, the Company believes it has a single operating segment for reporting purposes in accordance
with GAAP.
Recent Accounting Pronouncements
In August 2016, the FASB issued Accounting Standards Update
(“ASU”) 2016-15
, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments
. This
ASU provides guidance on the classification of certain cash receipts and payments in the statement of cash flows, including
distributions received from equity method investees. This guidance is effective for public business entities for fiscal years
and for interim periods within those fiscal years, beginning after December 15, 2017, with early adoption being allowed. The Company
is currently assessing the impact this new accounting guidance will have on its consolidated financial statements; however, the
Company does not expect the new accounting guidance to have a material impact on its consolidated financial statements as the
Company is currently presenting distributions received from equity method investees consistent with the presentation required
under ASU 2016-05.
In June 2016, the FASB issued ASU 2016-13,
Financial Instruments
- Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments
. This ASU significantly changes
how entities will measure credit losses for most financial assets and certain other instruments that are not measured at fair value
through net income. This guidance is effective for public business entities for fiscal years and for interim periods within those
fiscal years, beginning after December 15, 2019, with early adoption being allowed as of the fiscal years beginning after December
15, 2018. The Company is currently assessing the impact this new accounting guidance will have on its consolidated financial statements;
however, the Company does not expect the new accounting guidance to have a material impact on its consolidated financial statements.
In March 2016, the FASB issued
ASU 2016-09,
Compensation - Stock Compensation (Topic 718): Improvement to Employee Share-based
Payment Accounting.
This ASU simplifies several aspects of the accounting for share-based payment
transactions, including the income tax consequences, classification of awards as either equity or liabilities and
classification on the statement of cash flows. This guidance is effective for public business entities for fiscal years and
for interim periods within those fiscal years, beginning after December 15, 2016, with early adoption being allowed. The
adoption of this A
SU
did not have a material impact on the Company’s
consolidated financial statements.
In February 2016, the FASB issued ASU 2016-02,
Leases (Topic
842)
, which is the final standard on accounting for leases. The most significant change for lessees is the requirement under
the new guidance to recognize right-of-use assets and lease liabilities for all leases not considered short-term leases. The new
standard requires lessors to account for leases using an approach that is substantially equivalent to existing guidance for sales-type
leases, direct financing leases and operating leases. The amendments in ASU 2016-02 are effective for fiscal years, and interim
periods within those years, beginning after December 15, 2018. Early adoption is permitted. The Company is currently assessing
the impact this new accounting guidance will have on its consolidated financial statements.
In August 2014, the FASB issued ASU 2014-15,
Presentation
of Financial Statements-Going Concern (Subtopic 205-40): Disclosure of Uncertainties about an Entity’s Ability to Continue
as a Going Concern
. This ASU requires management to evaluate whether there are conditions and events that raise substantial
doubt about the entity’s ability to continue as a going concern within one year after the financial statements are issued
(or available to be issued when applicable) and, if so, disclose that fact. This ASU is effective for annual periods ending after
December 15, 2016 and interim periods within annual periods beginning after December 15, 2016. The adoption of this guidance did
not have a material effect on the Company’s consolidated financial statements and disclosures.
In May 2014, the FASB issued ASU 2014-09,
Revenue from Contracts
with Customers
(“ASU 2014-09”), which is effective for fiscal years, and interim periods within those years, beginning
on or after December 15, 2017. This ASU outlines a new, single comprehensive model for entities to use in accounting for revenue
arising from contracts with customers and supersedes most current revenue recognition guidance, including industry specific guidance.
Several ASUs expanding and clarifying the initial guidance issued in ASU 2014-09 have been released since May 2014. The Company
will adopt the ASU effective January 1, 2018 and does not expect the adoption to have a material effect on its consolidated financial
statements as the new guidance does not apply to revenue associated with loans or derived from lease contracts; however, the Company
is still in the process of evaluating the impact these standards will have on its consolidated financial statements.
Consolidated Statements of Cash Flows - Supplemental Disclosures
The following table provides supplemental disclosures related to
the Consolidated Statements of Cash Flows:
|
|
Three months ended March 31,
|
|
|
|
2017
|
|
|
2016
|
|
Supplemental disclosure of cash flow information:
|
|
|
|
|
|
|
|
|
Interest paid
|
|
$
|
153
|
|
|
$
|
-
|
|
|
|
|
|
|
|
|
|
|
Supplemental disclosure of non-cash investing and financing activities:
|
|
|
|
|
|
|
|
|
Stock dividend paid on preferred stock
|
|
$
|
823
|
|
|
$
|
-
|
|
Dividends declared on preferred stock
|
|
|
546
|
|
|
|
-
|
|
Dividends declared on common stock
|
|
|
3,149
|
|
|
|
2,157
|
|
Contribution of assets to real estate venture
|
|
|
-
|
|
|
|
7,693
|
|
Reclassification of self-storage real estate owned
|
|
|
6,041
|
|
|
|
-
|
|
3. INVESTMENTS
The Company’s self-storage investments at March 31, 2017 consisted
of the following:
|
·
|
Development Property Investments
- The Company had 22 investments totaling an aggregate committed principal amount of
approximately $207.4 million to finance the ground-up construction of or conversion of existing buildings into self-storage facilities.
Each development property investment is funded as the developer constructs the project, is secured by a first mortgage on the development
project and generally includes a 49.9% interest in the positive cash flows (including the sale and refinancing proceeds after debt
repayment) of the project. Loans comprising development property investments are non-recourse with customary carve-outs and subject
to completion guaranties, are interest-only with a fixed interest rate of 6.9% per annum and have a term of 72 months.
|
The Company also had two construction loan investments
totaling an aggregate committed principal amount of approximately $22.5 million, each of which had an initial term of 18 months
that can be extended on a case-by-case basis. Each construction loan is interest-only at a fixed interest rate of 6.9% per annum,
has no equity participation and is secured by a first priority mortgage or deed of trust on the project. Each of these construction
loans is subject to a purchase and sale agreement between the developer and a third-party purchaser or has a bona fide written
offer on the property, containing certain conditions, pursuant to which the financed project is anticipated to be sold and our
loan repaid on or about the time a certificate of occupancy is issued for the financed self-storage facility.
|
·
|
Operating property loans
- The Company had four term loans totaling $10.0 million of aggregate committed principal amount,
the proceeds of which were used by borrowers to finance the acquisition of, refinance existing indebtedness on, or recapitalize
operating self-storage facilities. These loans are secured by first mortgages on the projects financed, are interest-only with
fixed interest rates ranging from 5.85% to 6.9% per annum, and generally have a term of 72 months.
|
The Company’s development property investments and operating
property loans are collectively referred to herein as the Company’s investment portfolio.
As of March 31, 2017, the aggregate committed principal amount of
the Company’s investment portfolio was approximately $239.9 million and outstanding principal was $115.3 million, as described
in more detail in the table below:
Closing Date
|
|
Metropolitan
Statistical Area
("MSA")
|
|
Total Investment
Commitment
|
|
|
Funded
Investment
(1)
|
|
|
Remaining
Unfunded
Commitment
|
|
|
Fair Value
|
|
Development property investments:
|
|
|
|
|
|
|
|
|
|
|
|
|
Loan investments with a profits interest:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4/21/2015
|
|
Orlando 1
(2) (4)
|
|
$
|
5,372
|
|
|
$
|
5,336
|
|
|
$
|
36
|
|
|
$
|
1,325
|
|
6/10/2015
|
|
Atlanta 1
(2)
|
|
|
8,132
|
|
|
|
7,763
|
|
|
|
369
|
|
|
|
10,265
|
|
6/19/2015
|
|
Tampa
(2)
|
|
|
5,369
|
|
|
|
5,285
|
|
|
|
84
|
|
|
|
6,306
|
|
6/26/2015
|
|
Atlanta 2
(2)
|
|
|
6,050
|
|
|
|
5,655
|
|
|
|
395
|
|
|
|
8,895
|
|
6/29/2015
|
|
Charlotte 1
(2)
|
|
|
7,624
|
|
|
|
6,978
|
|
|
|
646
|
|
|
|
10,213
|
|
7/2/2015
|
|
Milwaukee
(2)
|
|
|
7,650
|
|
|
|
6,695
|
|
|
|
955
|
|
|
|
8,412
|
|
7/31/2015
|
|
New Haven
(2)
|
|
|
6,930
|
|
|
|
5,818
|
|
|
|
1,112
|
|
|
|
7,531
|
|
8/10/2015
|
|
Pittsburgh
(3)
|
|
|
5,266
|
|
|
|
3,961
|
|
|
|
1,305
|
|
|
|
5,006
|
|
8/14/2015
|
|
Raleigh
|
|
|
8,792
|
|
|
|
2,055
|
|
|
|
6,737
|
|
|
|
1,955
|
|
9/30/2015
|
|
Jacksonville 1
(2)
|
|
|
6,445
|
|
|
|
5,954
|
|
|
|
491
|
|
|
|
8,219
|
|
10/27/2015
|
|
Austin
(2)
|
|
|
8,658
|
|
|
|
5,616
|
|
|
|
3,042
|
|
|
|
6,748
|
|
9/20/2016
|
|
Charlotte 2
|
|
|
12,888
|
|
|
|
1,875
|
|
|
|
11,013
|
|
|
|
1,662
|
|
11/17/2016
|
|
Orlando 2
(3)
|
|
|
5,134
|
|
|
|
2,089
|
|
|
|
3,045
|
|
|
|
2,074
|
|
11/17/2016
|
|
Jacksonville 2
|
|
|
7,530
|
|
|
|
1,553
|
|
|
|
5,977
|
|
|
|
1,491
|
|
1/4/2017
|
|
New York City
|
|
|
16,117
|
|
|
|
8,765
|
|
|
|
7,352
|
|
|
|
8,746
|
|
1/18/2017
|
|
Atlanta 3
|
|
|
14,115
|
|
|
|
3,051
|
|
|
|
11,064
|
|
|
|
2,944
|
|
1/31/2017
|
|
Atlanta 4
|
|
|
13,678
|
|
|
|
5,305
|
|
|
|
8,373
|
|
|
|
5,234
|
|
2/24/2017
|
|
Orlando 3
|
|
|
8,056
|
|
|
|
604
|
|
|
|
7,452
|
|
|
|
526
|
|
2/24/2017
|
|
New Orleans
|
|
|
12,549
|
|
|
|
-
|
|
|
|
12,549
|
|
|
|
-
|
|
2/27/2017
|
|
Atlanta 5
|
|
|
17,492
|
|
|
|
4,469
|
|
|
|
13,023
|
|
|
|
4,332
|
|
3/1/2017
|
|
Fort Lauderdale
|
|
|
9,952
|
|
|
|
1,710
|
|
|
|
8,242
|
|
|
|
1,622
|
|
3/1/2017
|
|
Houston
|
|
|
13,630
|
|
|
|
3,211
|
|
|
|
10,419
|
|
|
|
3,102
|
|
|
|
|
|
$
|
207,429
|
|
|
$
|
93,748
|
|
|
$
|
113,681
|
|
|
$
|
106,608
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Construction loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
8/5/2015
|
|
Sarasota
|
|
|
4,792
|
|
|
|
4,098
|
|
|
|
694
|
|
|
|
4,134
|
|
12/23/2015
|
|
Miami
|
|
|
17,733
|
|
|
|
7,473
|
|
|
|
10,260
|
|
|
|
7,194
|
|
|
|
|
|
$
|
22,525
|
|
|
$
|
11,571
|
|
|
$
|
10,954
|
|
|
$
|
11,328
|
|
|
|
Subtotal
|
|
$
|
229,954
|
|
|
$
|
105,319
|
|
|
$
|
124,635
|
|
|
$
|
117,936
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating property loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
6/19/2015
|
|
New Orleans
|
|
|
2,800
|
|
|
|
2,800
|
|
|
|
-
|
|
|
|
2,783
|
|
7/7/2015
|
|
Newark
|
|
|
3,480
|
|
|
|
3,480
|
|
|
|
-
|
|
|
|
3,464
|
|
10/30/2015
|
|
Nashville
(5)
|
|
|
1,210
|
|
|
|
1,210
|
|
|
|
-
|
|
|
|
1,211
|
|
12/22/2015
|
|
Chicago
|
|
|
2,502
|
|
|
|
2,500
|
|
|
|
2
|
|
|
|
2,507
|
|
|
|
Subtotal
|
|
$
|
9,992
|
|
|
$
|
9,990
|
|
|
$
|
2
|
|
|
$
|
9,965
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total investments
|
|
$
|
239,946
|
|
|
$
|
115,309
|
|
|
$
|
124,637
|
|
|
$
|
127,901
|
|
|
(1)
|
Represents principal balance of loan gross of origination
fees.
|
|
(2)
|
Facility had received certificate of occupancy as of March
31, 2017. See Note 4,
Fair Value of Financial Instruments
, for information regarding recognition of entrepreneurial profit.
|
|
(3)
|
Facility had achieved at least 40% construction completion
but had not received certificate of occupancy as of March 31, 2017. See Note 4,
Fair Value of Financial Instruments
, for
information regarding recognition of entrepreneurial profit.
|
|
(4)
|
In February 2017, the Company purchased, for $1.3 million,
50% of the economic rights of the Class A membership units of the limited liability company which owns this development property
investment, thus increasing the Company’s profits interest in this investment from 49.9% to 74.9%. As such, the Company’s
investment was reclassified as self-storage real estate owned in the March 31, 2017 Consolidated Balance Sheet. See Note 7,
Self-storage
Real Estate Owned
, for additional discussion. The committed and funded investment amounts in this table pertain to the full
terms of the development investment, while, the fair value represents only the portion (25.1%) of the principal balance constituting
a loan to the Class A member.
|
|
(5)
|
This investment was repaid in April 2017.
|
The following table provides a reconciliation of the funded principal
to the fair market value of investments at March 31, 2017:
Funded principal
|
|
$
|
115,309
|
|
Adjustments:
|
|
|
|
|
Unamortized origination fees
|
|
|
(1,918
|
)
|
Change in fair value of investments
|
|
|
20,635
|
|
Reclassification of self-storage real estate owned
|
|
|
(6,041
|
)
|
Other
|
|
|
(84
|
)
|
Fair value of investments
|
|
$
|
127,901
|
|
As of December 31, 2016, the aggregate committed principal amount
of the Company’s investment portfolio was approximately $141.9 million and outstanding principal was $86.9 million, as described
in more detail in the table below:
Closing Date
|
|
Metropolitan
Statistical Area
("MSA")
|
|
Total Investment
Commitment
|
|
|
Funded
Investment
(1)
|
|
|
Remaining
Unfunded
Commitment
|
|
|
Fair Value
|
|
Development property investments:
|
|
|
|
|
|
|
|
|
|
|
|
|
Loan investments with a profits interest:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4/21/2015
|
|
Orlando 1
(2)
|
|
$
|
5,372
|
|
|
$
|
5,308
|
|
|
$
|
64
|
|
|
$
|
7,302
|
|
6/10/2015
|
|
Atlanta 1
(2)
|
|
|
8,132
|
|
|
|
7,694
|
|
|
|
438
|
|
|
|
10,404
|
|
6/19/2015
|
|
Tampa
(2)
|
|
|
5,369
|
|
|
|
5,285
|
|
|
|
84
|
|
|
|
6,279
|
|
6/26/2015
|
|
Atlanta 2
(2)
|
|
|
6,050
|
|
|
|
5,620
|
|
|
|
430
|
|
|
|
8,900
|
|
6/29/2015
|
|
Charlotte 1
(2)
|
|
|
7,624
|
|
|
|
6,842
|
|
|
|
782
|
|
|
|
9,853
|
|
7/2/2015
|
|
Milwaukee
(2)
|
|
|
7,650
|
|
|
|
5,608
|
|
|
|
2,042
|
|
|
|
7,008
|
|
7/31/2015
|
|
New Haven
(2)
|
|
|
6,930
|
|
|
|
5,257
|
|
|
|
1,673
|
|
|
|
6,730
|
|
8/10/2015
|
|
Pittsburgh
(3)
|
|
|
5,266
|
|
|
|
3,497
|
|
|
|
1,769
|
|
|
|
4,551
|
|
8/14/2015
|
|
Raleigh
|
|
|
8,792
|
|
|
|
1,460
|
|
|
|
7,332
|
|
|
|
1,396
|
|
9/30/2015
|
|
Jacksonville 1
(2)
|
|
|
6,445
|
|
|
|
5,852
|
|
|
|
593
|
|
|
|
7,962
|
|
10/27/2015
|
|
Austin
(3)
|
|
|
8,658
|
|
|
|
4,366
|
|
|
|
4,292
|
|
|
|
5,192
|
|
9/20/2016
|
|
Charlotte 2
|
|
|
12,888
|
|
|
|
1,446
|
|
|
|
11,442
|
|
|
|
1,298
|
|
11/17/2016
|
|
Orlando 2
|
|
|
5,134
|
|
|
|
1,342
|
|
|
|
3,792
|
|
|
|
1,237
|
|
11/17/2016
|
|
Jacksonville 2
|
|
|
7,530
|
|
|
|
624
|
|
|
|
6,906
|
|
|
|
551
|
|
|
|
|
|
$
|
101,840
|
|
|
$
|
60,201
|
|
|
$
|
41,639
|
|
|
$
|
78,663
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Construction loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
8/5/2015
|
|
West Palm Beach
(4)
|
|
|
7,500
|
|
|
|
6,712
|
|
|
|
788
|
|
|
|
6,702
|
|
8/5/2015
|
|
Sarasota
|
|
|
4,792
|
|
|
|
3,485
|
|
|
|
1,307
|
|
|
|
3,473
|
|
12/23/2015
|
|
Miami
|
|
|
17,733
|
|
|
|
6,517
|
|
|
|
11,216
|
|
|
|
6,264
|
|
|
|
|
|
$
|
30,025
|
|
|
$
|
16,714
|
|
|
$
|
13,311
|
|
|
$
|
16,439
|
|
|
|
Subtotal
|
|
$
|
131,865
|
|
|
$
|
76,915
|
|
|
$
|
54,950
|
|
|
$
|
95,102
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating property loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
6/19/2015
|
|
New Orleans
|
|
|
2,800
|
|
|
|
2,800
|
|
|
|
-
|
|
|
|
2,768
|
|
7/7/2015
|
|
Newark
|
|
|
3,480
|
|
|
|
3,480
|
|
|
|
-
|
|
|
|
3,441
|
|
10/30/2015
|
|
Nashville
|
|
|
1,210
|
|
|
|
1,210
|
|
|
|
-
|
|
|
|
1,204
|
|
12/22/2015
|
|
Chicago
|
|
|
2,502
|
|
|
|
2,500
|
|
|
|
2
|
|
|
|
2,492
|
|
|
|
Subtotal
|
|
$
|
9,992
|
|
|
$
|
9,990
|
|
|
$
|
2
|
|
|
$
|
9,905
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total investments
|
|
$
|
141,857
|
|
|
$
|
86,905
|
|
|
$
|
54,952
|
|
|
$
|
105,007
|
|
|
(1)
|
Represents principal balance of loan gross of origination
fees.
|
|
(2)
|
Facility had received certificate of occupancy as of December
31, 2016. See Note 4,
Fair Value of Financial Instruments
, for information regarding recognition of entrepreneurial profit.
|
|
(3)
|
Facility had achieved at least 40% construction completion
but had not received certificate of occupancy as of December 31, 2016. See Note 4,
Fair Value of Financial Instruments
,
for information regarding recognition of entrepreneurial profit.
|
|
(4)
|
This investment was repaid in January 2017.
|
The following table provides a reconciliation of the funded principal
to the fair market value of investments at December 31, 2016:
Funded principal
|
|
$
|
86,905
|
|
Adjustments:
|
|
|
|
|
Unamortized origination fees
|
|
|
(1,056
|
)
|
Change in fair value of investments
|
|
|
19,242
|
|
Other
|
|
|
(84
|
)
|
Fair value of investments
|
|
$
|
105,007
|
|
The Company has elected the fair value option of accounting for
all of its investment portfolio investments in order to provide stockholders and others who rely on the Company’s financial
statements with a more complete and accurate understanding of the Company’s economic performance, including its revenues
and value inherent in its equity participation in development projects. See Note 4,
Fair Value of Financial Instruments
,
for additional disclosure on the valuation methodology and significant assumptions.
On January 26, 2017, the Company received $6.7 million for the payoff
of a construction loan in the West Palm Beach, Florida MSA.
No loans were in non-accrual status as of March 31, 2017 and December
31, 2016.
All of the Company’s development property investments
with a profits interest except for the Orlando 1 investment would have been accounted for under the equity method had the Company
not elected the fair value option. For the development property investments with a profits interest, the assets and liabilities
of the equity method investees approximated $103.3 million and $88.4 million, respectively, at March 31, 2017 and approximated
$71.0 million and $60.2 million, respectively, at December 31, 2016. These investees had revenues of approximately $0.4 million
and a net operating loss of approximately $0.4 million for the three months ended March 31, 2017. These investees had no significant
revenues or expenses for the three months ended March 31, 2016 since the development properties were under construction during
this period. For the three months ended March 31, 2017, the total income (interest income and change in fair value) from each of
two development property investments with a profits interest exceeded 20% of the Company’s net income. The Company recorded
total income for the three months ended March 31, 2017 of $0.4 million from the Milwaukee MSA development property investment with
a profits interest and $0.4 million from the Austin MSA development property investment with a profits interest.
For five of the Company’s development property investments
with a profits interest, an investor has an option to put its interest to the Company upon the event of default of the underlying
property loans. The put, if exercised, requires the Company to purchase the member’s interest at the original purchase price
plus a yield of 4.5% on such purchase price. The Company concluded that the likelihood of loss is remote and assigned no value
to these put provisions at March 31, 2017.
4. FAIR VALUE OF FINANCIAL INSTRUMENTS
The fair value option under ASC 825-10 allows companies to elect
to report selected financial assets and liabilities at fair value. The Company has elected the fair value option of accounting
for its development property investments and operating property loan investments in order to provide stockholders and others who
rely on the Company’s financial statements with a more complete and accurate understanding of the Company’s economic
performance, including its revenues and value inherent in its equity participation in self-storage development projects.
The Company applies ASC 820,
Fair Value Measurements and Disclosures
(“ASC 820”), which defines fair value, establishes a framework for measuring fair value in accordance with GAAP and
expands disclosure of fair value measurements. ASC 820 defines fair value as the price that would be received for an investment
in a current sale, which assumes an orderly transaction between market participants on the measurement date. ASC 820 requires the
Company to assume that the investment is sold in its principal market to market participants or, in the absence of a principal
market, the most advantageous market, which may be a hypothetical market. Market participants are defined as buyers and sellers
in the principal or most advantageous market that are independent, knowledgeable, and willing and able to transact. In accordance
with ASC 820, the Company considers its principal market as the market for the purchase and sale of self-storage properties,
which the Company believes would be the most likely market for the Company’s loan investments given the nature of the collateral
securing such loans and the types of borrowers. ASC 820 specifies a hierarchy of valuation techniques based on whether the inputs
to those valuation techniques are observable or unobservable. In accordance with ASC 820, these inputs are summarized in the three
broad levels listed below:
|
Level 1 -
|
Quoted prices for identical assets or liabilities in an
active market.
|
|
|
|
|
Level 2 -
|
Financial assets and liabilities whose values are based
on the following: (i) Quoted prices for similar assets or liabilities in active markets; (ii) Quoted prices for identical or similar
assets or liabilities in non-active markets; (iii) Pricing models whose inputs are derived principally from or corroborated by
observable market data for substantially the full term of the asset or liability.
|
|
|
|
|
Level 3 -
|
Prices or valuation techniques based on inputs that are
both unobservable and significant to the overall fair value measurement.
|
The carrying values of cash, other loans, receivables, senior loan
participations and payables approximate their fair values due to their short-term nature or due to a variable interest rate. Cash,
receivables, and payables are categorized as Level 1 instruments in the measurement of fair value. Other loans and senior loan
participations are categorized as Level 2 instruments in the measurement of fair value as the fair values of these investments
are determined using a discounted cash flow model with inputs from third-party pricing sources and similar instruments. The table
below summarizes the valuation techniques and inputs used to measure the fair value of items categorized in Level 3 of the fair
value hierarchy.
Instrument
|
|
Valuation technique and assumptions
|
|
Hierarchy classification
|
|
|
|
|
|
Development property investments
|
|
Valuations are determined using an Income Approach analysis, using the discounted cash flow method model, capturing the prepayment penalty / call price schedule as applicable. The valuation models are calibrated to the total investment net drawn amount as of the issuance date.
|
|
Level 3
|
|
|
|
|
|
Development property investments with a profits interest
(a)
|
|
Valuations are determined using an Income Approach analysis, using the discounted cash flow method model, capturing the prepayment penalty / call price schedule as applicable. The valuation models are calibrated to the total investment net drawn amount as of the issuance date factoring in the value of the profits interests.
|
|
Level 3
|
|
|
|
|
|
|
|
An option-pricing method (OPM) framework is utilized to calculate the value of the profits interests.
|
|
|
|
|
|
|
|
Operating property loans
|
|
Valuations are determined using an Income Approach analysis, using the discounted cash flow method model, capturing the prepayment penalty / call price schedule as applicable.
|
|
Level 3
|
(a)
Certain of
the Company's development property investments include profits interests.
The Company’s development property investments and operating
property loan investments are valued using two different valuation techniques. The first valuation technique is an income approach
analysis of the debt instrument components of the Company’s investments. The second valuation technique is an option pricing
model that is used to determine the fair value of any profits interests associated with an investment. The valuation models are
calibrated to the total investment net drawn amount as of the issuance date factoring in the value of the profits interests. At
the issuance date of each development property investment, generally the value of the property underlying such investment approximates
the sum of the net investment drawn amount plus the developer’s equity investment.
For development property investments with a profits interest, at
a certain stage of construction, the option pricing method incorporates an adjustment to measure entrepreneurial profit. Entrepreneurial
profit is a monetary return above total construction costs that provides compensation for the risk of a development project. Under
this method, the value of each property is estimated based on the cost incurred to date, plus an estimated earned entrepreneurial
profit. Total entrepreneurial profit is estimated as the difference between the projected value of a property at stabilization
and the total development costs, including land, building improvements, and lease-up costs. Utilizing information obtained
from the market coupled with the Company’s own experience, the Company has estimated that in most cases, approximately one-third
of the entrepreneurial profit is earned during the construction period beginning when construction is approximately 40% complete
and ending when construction is 100% complete, and approximately two-thirds of the entrepreneurial profit is earned from construction
completion through stabilization. For the two properties between 40% and 100% complete at March 31, 2017, the Company has
estimated the entrepreneurial profit adjustment to the enterprise value input used in the option pricing model to be equal to one-third
of the estimated entrepreneurial profit, allocated on a straight-line basis. Nine properties have reached construction completion
at March 31, 2017. For the Company’s development property investments at or around completion of construction, a discounted
cash flow model, based on periodically updated estimates of rental rates, occupancy and operating expenses, is the primary method
for projecting value of a project. The Company also will consider inputs such as appraisals that differ from the developer’s
equity investment, bona fide third-party offers to purchase development projects, sales of development projects, or sales of comparable
properties in its markets.
Level 3 Fair Value Measurements
The following tables summarize the significant unobservable inputs
the Company used to value its investments categorized within Level 3 as of March 31, 2017 and December 31, 2016. These tables
are not intended to be all-inclusive, but instead to capture the significant unobservable inputs relevant to the Company’s
determination of fair values.
As of March 31, 2017
|
|
|
|
|
Unobservable Inputs
|
Asset Category
|
|
Primary Valuation
Techniques
|
|
Input
|
|
Estimated Range
|
|
Weighted
Average
|
Development property
investments
(a)
|
|
Income approach analysis
|
|
Market yields/
discount rate
|
|
7.38 - 9.53%
|
|
8.44%
|
|
|
|
|
Exit date
|
|
0.18 – 4.92 years
|
|
2.33 years
|
|
|
|
|
|
|
|
|
|
Development property
investments with a
profits interest
(b)
|
|
Option pricing model
|
|
Volatility
|
|
66.38 – 74.58%
|
|
70.76%
|
|
|
|
|
Exit date
|
|
1.17 - 4.92 years
|
|
2.51 years
|
|
|
|
|
Capitalization rate
(c)
|
|
5.25 - 5.50%
|
|
5.46%
|
|
|
|
|
Discount rate
|
|
8.25 - 8.50%
|
|
8.46%
|
|
|
|
|
|
|
|
|
|
Operating property loans
|
|
Income approach analysis
|
|
Market yields/
discount rate
|
|
5.95 - 7.07%
|
|
6.60%
|
|
|
|
|
Exit date
(d)
|
|
4.25 - 5.41 years
|
|
4.82 years
|
(a)
|
The valuation technique for the development property investments with a profits interest does not differ from the development property investments without a profits interest. Therefore, this line item focuses on all development property investments, including those with a profits interest.
|
(b)
|
The valuation technique for the development property investments with a profits interest does not differ from the development property investments without a profits interest. The development property investments with a profits interest only require incremental valuation techniques to determine the value of the profits interest. Therefore this line only focuses on the profits interest valuation.
|
(c)
|
Eleven properties were 40% - 100% complete, thus requiring a capitalization rate to derive entrepreneurial profit. Capitalization rates are estimated based on current data derived from independent sources in the markets in which the Company holds investments.
|
(d)
|
The exit dates for the operating property loans are the contractual
maturity dates.
|
As of December 31, 2016
|
|
|
|
|
Unobservable Inputs
|
Asset Category
|
|
Primary Valuation
Techniques
|
|
Input
|
|
Estimated Range
|
|
|
Weighted
Average
|
|
Development property
investments
(a)
|
|
Income approach analysis
|
|
Market yields/
discount rate
|
|
|
7.23 - 9.28%
|
|
|
|
8.34%
|
|
|
|
|
|
Exit date
|
|
|
0.17 - 3.88 years
|
|
|
|
1.81 years
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Development property
investments with a
profits interest
(b)
|
|
Option pricing model
|
|
Volatility
|
|
|
68.72 - 73.46%
|
|
|
|
73.17%
|
|
|
|
|
|
Exit date
|
|
|
1.42 - 3.88 years
|
|
|
|
2.12 years
|
|
|
|
|
|
Capitalization rate
(c)
|
|
|
5.25 - 5.50%
|
|
|
|
5.47%
|
|
|
|
|
|
Discount rate
|
|
|
8.25 – 8.50%
|
|
|
|
8.47%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating property loans
|
|
Income approach analysis
|
|
Market yields/
discount rate
|
|
|
6.09 - 7.20%
|
|
|
|
6.73%
|
|
|
|
|
|
Exit date
(d)
|
|
|
4.50 – 5.66 years
|
|
|
|
5.07 years
|
|
|
(a)
|
The valuation technique for the development property investments
with a profits interest does not differ from the development property investments without a profits interest. Therefore, this
line item focuses on all development property investments, including those with a profits interest.
|
|
(b)
|
The valuation technique for the development property investments
with a profits interest does not differ from the development property investments without a profits interest. The development
property investments with a profits interest only require incremental valuation techniques to determine the value of the profits
interest. Therefore this line only focuses on the profits interest valuation.
|
|
(c)
|
Ten properties were 40% - 100% complete, thus requiring
a capitalization rate to derive entrepreneurial profit. Capitalization rates are estimated based on current data derived from
independent sources in the markets in which the Company holds investments.
|
|
(d)
|
The exit dates for the operating property loans are the
contractual maturity dates.
|
The fair value measurements are sensitive to changes in unobservable
inputs. A change in those inputs to a different amount might result in a significantly higher or lower fair value measurement.
The following provides a discussion of the impact of changes in each of the unobservable inputs on the fair value measurement.
Market yields - changes in market yields and discount rates, each
in isolation, may change the fair value of certain of the Company’s investments. Generally, an increase in market yields
or discount rates may result in a decrease in the fair value of certain of the Company’s investments. The following fluctuations
in the market yields/discount rates would have had the following impact on the fair value of our investments:
|
|
Increase (decrease) in fair value of investments
|
|
Change in market yields/discount rates
(in millions)
|
|
March 31, 2017
|
|
|
December 31, 2016
|
|
Up 25 basis points
|
|
$
|
(0.6
|
)
|
|
$
|
(0.3
|
)
|
Down 25 basis points, subject to a minimum yield/rate of 10 basis points
|
|
|
0.6
|
|
|
|
0.3
|
|
Capitalization rate - changes in capitalization rate, in isolation
and all else equal, may change the fair value of certain of the Company’s development investments containing profits interests.
Generally an increase in the capitalization rate assumption may result in a decrease in the fair value of the Company’s investments.
The following fluctuations in the capitalization rates would have had the following impact on the fair value of our investments:
|
|
Increase (decrease) in fair value of investments
|
|
Change in capitalization rates
(in millions)
|
|
March 31, 2017
|
|
|
December 31, 2016
|
|
Up 25 basis points
|
|
$
|
(2.2
|
)
|
|
$
|
(2.1
|
)
|
Down 25 basis points
|
|
|
2.4
|
|
|
|
2.3
|
|
|
|
|
|
|
|
|
|
|
Up 50 basis points
|
|
|
(4.2
|
)
|
|
|
(3.8
|
)
|
Down 50 basis points
|
|
|
5.0
|
|
|
|
4.6
|
|
Exit date - changes in exit date, in isolation and all else equal,
may change the fair value of certain of the Company’s investments that have profits interests. Generally, an acceleration
in the exit date assumption may result in an increase in the fair value of the profits interests in certain of the Company’s
investments.
Volatility - changes in volatility, in isolation and all else equal,
may change the fair value of certain of the Company’s investments that have profits interests. Generally, an increase in
volatility may result in an increase in the fair value of the profits interests in certain of the Company’s investments.
Operating cash flow projections - changes in the operating cash
flow projections of the underlying self-storage facilities, in isolation and all else equal, may change the fair value of certain
of the Company’s investments that have profits interests. Generally, an increase in operating cash flow projections may result
in an increase in the fair value of the profits interests in certain of the Company’s investments.
The Company also evaluates the impact of changes in instrument-specific
credit risk in determining the fair value of investments. There were no gains or losses attributable to changes in instrument-specific
credit risk in the three months ended March 31, 2017 and 2016.
Due to the inherent uncertainty of determining the fair value of
investments that do not have a readily available market value, the fair value of the Company’s investments may fluctuate
from period to period. Additionally, the fair value of the Company’s investments may differ significantly from the values
that would have been used had a ready market existed for such investments and may differ materially from the values that the Company
may ultimately realize. Further, such investments are generally subject to legal and other restrictions on resale or otherwise
are less liquid than publicly traded securities. If the Company was required to liquidate an investment in a forced or liquidation
sale, it could realize significantly less than the value at which the Company has recorded it. In addition, changes in the market
environment and other events that may occur over the life of the investments may cause the gains or losses ultimately realized
on these investments to be different than the unrealized gains or losses reflected in the valuations currently assigned.
The following table presents changes in investments that use Level 3
inputs for the three month period ended March 31, 2017:
Balance as of December 31, 2016
|
|
$
|
105,007
|
|
Net realized gains
|
|
|
-
|
|
Net unrealized gains
|
|
|
1,393
|
|
Fundings of principal and change in unamortized origination fees
|
|
|
32,926
|
|
Repayments of loans
|
|
|
(6,860
|
)
|
Payment-in-kind interest
|
|
|
1,476
|
|
Reclassification of self-storage real estate owned
|
|
|
(6,041
|
)
|
Net transfers in or out of Level 3
|
|
|
-
|
|
Balance at March 31, 2017
|
|
$
|
127,901
|
|
As of March 31, 2017 and December 31, 2016, the total net unrealized
appreciation on the investments that use Level 3 inputs was $20.6 million and $19.2 million, respectively.
For the three months ended March 31, 2017 and 2016, substantially
all of the change in fair value of investments in the Company’s Consolidated Statements of Operations were attributable to
unrealized gains relating to the Company’s Level 3 assets still held as of the respective balance sheet date.
Transfers between levels, if any, are recognized at the beginning
of the quarter in which the transfers occur.
5. INVESTMENT IN REAL ESTATE VENTURE
On March 7, 2016, the Company, through its Operating Company, entered
into the Limited Liability Company Agreement (the “JV Agreement”) of Storage Lenders LLC, a Delaware limited liability
company, to form a real estate venture (the “SL1 Venture”) with HVP III Storage Lenders Investor, LLC (“HVP III”),
an investment vehicle managed by Heitman Capital Management LLC (“Heitman”). The SL1 Venture was formed for the purpose
of providing capital to developers of self-storage facilities identified and underwritten by the Company. Upon formation, HVP III
committed $110.0 million for a 90% interest in the SL1 Venture, and the Company committed $12.2 million for a 10% interest.
On March 31, 2016, the Company contributed to the SL1 Venture three
of its existing development property investments with a profits interest located in Miami and Fort Lauderdale, Florida that were
not yet under construction. These investments had an aggregate committed principal amount of approximately $41.9 million and an
aggregate drawn balance of $8.1 million. In exchange, the Company’s initial funding commitment of $12.2 million was reduced
by $8.1 million, representing the Company’s initial “Net Invested Capital” balance as defined in the JV Agreement.
The Company accounted for this contribution in accordance with ASC 845,
Nonmonetary Transactions
, and recorded an investment
in the SL1 Venture based on the fair value of the contributed development property investments, which is the same as carryover
basis. The fair value of the contributed development property investments as of March 31, 2016 was $7.7 million. Pursuant to the
JV Agreement, Heitman, in fulfilling its initial $110.0 million commitment, provides capital to the SL1 Venture as cash is required,
including funding draws on the three contributed development property investments. During the year ended December 31, 2016, HVP
III and the Company agreed to true up the balances in the respective members’ capital accounts to be in accordance with the
90% commitment and 10% commitment made by HVP III and the Company, respectively. Accordingly, during the year ended December 31,
2016, HVP III contributed cash of $7.3 million to the SL1 Venture, and the Company received a $7.3 million cash distribution as
a return of its capital.
As of March 31, 2017, the SL1 Venture had closed on eight new development
property investments with a profits interest with an aggregate commitment amount of approximately $81.4 million, bringing the
total aggregate commitment of SL1 Venture’s investments to $123.3 million as of March 31, 2017. Accordingly, HVP III’s
total commitment for a 90% interest in the SL1 Venture is $111.0 million, and the Company’s total commitment for a 10% interest
in the SL1 Venture is $12.3 million.
Under the JV Agreement, the Company will receive a priority distribution
(after debt service and any reserve but before any other distributions) out of operating cash flow and residual distributions based
upon 1% of the committed principal amount of loans made by the SL1 Venture, exclusive of the loans contributed to the SL1 Venture
by the Company. Operating cash flow of the SL1 Venture (after debt service, reserves and the foregoing priority distributions)
will be distributed in accordance with capital commitments. Residual cash flow from capital and other events (after debt service,
reserves and priority distributions) will be distributed (i) pro rata in accordance with capital commitments (its “Percentage
Interest”) until each member has received a return of all capital contributed; (ii) pro rata in accordance with each member’s
Percentage Interest until Heitman has achieved a 14% internal rate of return; (iii) to Heitman in an amount equal to its Percentage
Interest less 10% and to the Company in an amount equal to the Company’s Percentage Interest plus 10% until Heitman has achieved
a 17% internal rate of return; (iv) to Heitman in an amount equal to its Percentage Interest less 20% and to the Company in an
amount equal to the Company’s Percentage Interest plus 20% until Heitman has achieved a 20% internal rate of return; and
(v) any excess to Heitman in an amount equal to its Percentage Interest less 30% and to the Company in an amount equal to the Company’s
Percentage Interest plus 30%. However, the Company will not be entitled to any such promoted interest prior to the earlier to occur
of the third anniversary of the JV Agreement and Heitman receiving distributions to the extent necessary to provide Heitman with
a 1.48 multiple on its contributed capital.
Since the allocation of cash distributions and liquidating distributions
are determined as described in the preceding paragraph, the Company has applied the hypothetical-liquidation-at-book-value (“HLBV”)
method to allocate the earnings of SL1 Venture. Under the HLBV approach, the Company’s share of the investee’s earnings
or loss is calculated by:
|
·
|
The Company’s capital account at the end of the period assuming that the investee was liquidated or sold at book value,
plus
|
|
·
|
Cash distributions received by the Company during the period, minus
|
|
·
|
Cash contributions made by the Company during the period, minus
|
|
·
|
The Company’s capital account at the beginning of the period assuming that the investee were liquidated or sold at book
value.
|
SL1 Venture has elected the fair value option of accounting for
its development property investments with a profits interest, which are equity method investments of SL1 Venture. The assumptions
used to value SL1 Venture’s investments are materially consistent with those used to value the Company’s investments.
As of March 31, 2017, SL1 Venture had eleven development property investments with a profits interest as described in more detail
in the table below:
Closing Date
|
|
Metropolitan
Statistical Area
("MSA")
|
|
Total Investment
Commitment
|
|
|
Funded
Investment
(1)
|
|
|
Remaining
Unfunded
Commitment
|
|
|
Fair Value
|
|
5/14/2015
|
|
Miami 1
(2)
|
|
$
|
13,867
|
|
|
$
|
6,813
|
|
|
$
|
7,054
|
|
|
$
|
7,587
|
|
5/14/2015
|
|
Miami 2
(2)
|
|
|
14,849
|
|
|
|
6,064
|
|
|
|
8,785
|
|
|
|
5,930
|
|
9/25/2015
|
|
Fort Lauderdale
(2)
|
|
|
13,230
|
|
|
|
4,574
|
|
|
|
8,656
|
|
|
|
4,433
|
|
4/15/2016
|
|
Washington DC
|
|
|
17,269
|
|
|
|
8,716
|
|
|
|
8,553
|
|
|
|
8,756
|
|
4/29/2016
|
|
Atlanta 1
|
|
|
10,223
|
|
|
|
1,196
|
|
|
|
9,027
|
|
|
|
1,109
|
|
7/19/2016
|
|
Jacksonville
|
|
|
8,127
|
|
|
|
3,669
|
|
|
|
4,458
|
|
|
|
4,257
|
|
7/21/2016
|
|
New Jersey
|
|
|
7,828
|
|
|
|
789
|
|
|
|
7,039
|
|
|
|
712
|
|
8/15/2016
|
|
Atlanta 2
|
|
|
8,772
|
|
|
|
3,025
|
|
|
|
5,747
|
|
|
|
3,132
|
|
8/25/2016
|
|
Denver
|
|
|
11,032
|
|
|
|
3,557
|
|
|
|
7,475
|
|
|
|
3,448
|
|
9/28/2016
|
|
Columbia
|
|
|
9,199
|
|
|
|
3,461
|
|
|
|
5,738
|
|
|
|
3,427
|
|
12/22/2016
|
|
Raleigh
|
|
|
8,877
|
|
|
|
1,081
|
|
|
|
7,796
|
|
|
|
1,006
|
|
|
|
Total
|
|
$
|
123,273
|
|
|
$
|
42,945
|
|
|
$
|
80,328
|
|
|
$
|
43,797
|
|
|
(1)
|
Represents principal balance of loan gross of origination
fees.
|
|
(2)
|
These development property investments (having approximately
$8.1 million of outstanding principal at contribution) were contributed to the SL1 Venture on March 31, 2016 by the Company.
|
As of March 31, 2017, the SL1 Venture had total assets of $46.7
million and total liabilities of $6.3 million. During the three months ended March 31, 2017, the SL1 Venture had net income of
$2.3 million, of which $0.4 million was allocated to the Company and $1.9 million was allocated to HVP III under the HLBV method.
At March 31, 2017, $0.2 million of transaction expenses were included in the carrying amount of the Company’s investment
in the SL1 Venture. Additionally, the Company may from time to time make advances to the SL1 Venture. At March 31, 2017 and December
31, 2016, the Company had $6.2 million and $2.3 million, respectively, in advances to the SL1 Venture, and the related interest
on these advances are classified in equity in earnings from unconsolidated real estate venture in the Consolidated Statements
of Operations.
In accordance with the JV Agreement, for each development property
investment, the borrower must deliver to the SL1 Venture a completion guarantee whereby the borrower agrees to cover all costs
in excess of the agreed-upon budget amount. Additionally, the Company is required to deliver to the SL1 Venture a backstop completion
guarantee for each development property investment to guarantee completion in the event the borrower does not satisfy its obligations.
The Company concluded that the likelihood of loss is remote and assigned no value to these guarantees as of March 31, 2017.
Under the JV Agreement, Heitman and the Company will seek to obtain
and, if obtained, will share joint rights of first refusal to acquire self-storage facilities that are the subject of development
property investments made by the SL1 Venture. Additionally, so long as the Company, through its operating subsidiary, is a member
of the SL1 Venture and the SL1 Venture holds any assets, the Company will not make any investment of debt or equity or otherwise,
directly or indirectly, in one or more new joint ventures or similar programs for the purposes of funding or providing development
loans or financing, directly or indirectly, for the development, construction or conversion of self-storage facilities, in each
case without first offering such opportunity to Heitman to participate on substantially the same terms as those set forth in the
JV Agreement, either through the SL1 Venture or a newly formed real estate venture.
The JV Agreement permits Heitman to cause the Company to repurchase
from Heitman its Developer Equity Interests (as defined in the JV Agreement) in certain limited circumstances. Under the JV Agreement,
if a developer causes to be refinanced a self-storage facility with respect to which the SL1 Venture has made a development property
investment and such refinancing does not coincide with a sale of the underlying self-storage facility, then at any time after the
fourth anniversary of the commencement of the SL1 Venture, Heitman may either put to the Company its share of the Developer Equity
Interests in respect of each such development property investment, or sell Heitman’s Developer Equity Interests to a third
party. The Company concluded that the likelihood of loss is remote and assigned no value to these puts as of March 31, 2017.
The Company is the managing member of the SL1 Venture and will manage
and administer (i) the day-to-day business and affairs of the SL1 Venture and any of its acquired properties and (ii) loan servicing
and other administration of the approved development property investments. The Company will be paid a monthly expense reimbursement
amount by the SL1 Venture in connection with its role as managing member, as set forth in the JV Agreement. Heitman may remove
the Company as the managing member of the SL1 Venture if it commits an event of default (as defined in the JV Agreement), if it
undergoes a change of control (as defined in the JV Agreement), or if it becomes insolvent.
Heitman has the right to approve all “Major Decisions”
of the SL1 Venture, as defined in the JV Agreement, including, but not limited to, each investment of capital, the incurrence of
any indebtedness, the sale or other disposition of assets of the SL1 Venture, the replacement of the managing member, the acceptance
of new members into the SL1 Venture and the liquidation of the SL1 Venture.
For four of the SL1 Venture development property investments with
a profits interest, an investor has an option to put its interest to the Company upon the event of default of the underlying property
loans. The puts, if exercised, require the Company to purchase the member’s interest at the original purchase price plus
a yield of 4.5% on such purchase price. The Company concluded that the likelihood of loss is remote and assigned no value to these
put provisions at March 31, 2017.
6. VARIABLE INTEREST ENTITIES
Development Property Investments
The Company holds variable interests in its development property
investments. The Company has determined that these investees qualify as VIEs because the entities do not have enough equity to
finance their activities without additional subordinated financial support. In determining whether the Company is the primary beneficiary
of the VIEs, the Company identified the activities that most significantly impact the VIEs’ economic performance. Such activities
are (1) managing the construction and operations of the project, (2) selecting the property manager, (3) financing decisions, (4)
authorizing capital expenditures and (5) disposition of the property. Although the Company has certain participating and protective
rights, it does not have the power to direct the activities that most significantly impact the VIEs’ economic performance
and is not the primary beneficiary; therefore, the Company does not consolidate the VIEs.
The Company has recorded assets of $117.9 million and $95.1 million
at March 31, 2017 and December 31, 2016, respectively, for its variable interest in the VIEs which is included in the development
property investments at fair value line item in the Consolidated Balance Sheets. The Company’s maximum exposure to loss as
a result of its involvement with the VIEs is as follows:
|
|
March 31, 2017
|
|
|
December 31, 2016
|
|
Assets recorded related to VIEs
|
|
$
|
117,936
|
|
|
$
|
95,102
|
|
Unfunded loan commitments to VIEs
|
|
|
124,635
|
|
|
|
54,950
|
|
Maximum exposure to loss
|
|
$
|
242,571
|
|
|
$
|
150,052
|
|
The Company has a construction completion guaranty from the managing
members of the VIEs or individual affiliates/owners of such managing members.
Investment in Real Estate Venture
The Company determined that the SL1 Venture qualifies as a VIE
because it does not have enough equity to finance its activities without additional subordinated financial support. In determining
whether the Company is the primary beneficiary of the entity, the Company identified the activities that most significantly impact
the entity’s economic performance. Such activities are (1) approving self-storage development investments and acquiring
self-storage properties, (2) managing directly-owned properties, (3) obtaining debt financing, and (4) disposing of investments.
Although the Company has certain rights, it does not have the power to direct the activities that most significantly impact the
entity’s economic performance and thus is not the primary beneficiary. As such, the Company does not consolidate the entity
and accounts for its unconsolidated interest in the SL1 Venture using the equity method of accounting. The Company’s investment
in the SL1 Venture is included in the investment in and advances to real estate venture balance in the Consolidated Balance Sheets,
and earnings from the SL1 Venture are included in equity in earnings from unconsolidated real estate venture in the Company’s
Consolidated Statements of Operations. The Company’s maximum contribution to the SL1 Venture is $12.3 million, and as of
March 31, 2017 and December 31, 2016, the Company’s remaining unfunded commitment to the SL1 Venture is $8.1 million and
$9.4 million, respectively.
7. SELF-STORAGE REAL ESTATE OWNED
On February 3, 2017, the Company purchased 50% of the economic rights
of the Class A membership units of a limited liability company which owns a development property investment with a profits interest
in Orlando, Florida for $1.3 million and increased its profits interest on this development property investment from 49.9% to 74.9%.
The Class A member retains all management and voting rights in the limited liability company. Previously, the Company accounted
for this investment as an equity method investment. Now that the Company is entitled to greater than 50% of the residual profits
from the investment, the Company accounts for this investment as a real estate investment in its consolidated financial statements
in accordance with ASC 310.
The following table shows the impact of this real estate investment
on the Company’s Consolidated Balance Sheet as of March 31, 2017:
Cash
|
|
$
|
34
|
|
|
|
|
|
|
Land
|
|
|
1,507
|
|
Building and improvements
|
|
|
5,919
|
|
Accumulated depreciation
|
|
|
(76
|
)
|
Self-storage real estate owned
|
|
$
|
7,350
|
|
|
|
|
|
|
Accrued liabilities
|
|
$
|
92
|
|
The following table shows the impact of this real estate investment
on the Company’s Consolidated Statement of Operations for the three months ended March 31, 2017:
Rental revenues
|
|
$
|
63
|
|
|
|
|
|
|
Property operating expenses
|
|
|
(31
|
)
|
Depreciation expense
|
|
|
(24
|
)
|
Property operating expenses of real estate owned
|
|
$
|
(55
|
)
|
The Company’s basis in the land and building was recorded
at cost (equal to cash paid and accrued interest, plus unrealized gains accrued at the date of reclassification) at February 3,
2017, the date of the Company’s purchase of 50% of the economic rights of the Class A membership units of the limited liability
company that owns the development property investment with a profits interest. The allocation to land and building was based on
the historical cost of these assets.
8. OTHER LOANS, AT COST
As of March 31, 2017, the Company had an aggregate balance of $13.1
million related to five bridge loans extended to four limited liability companies that are under common control with borrowers
in certain of the Company’s development property investments. These bridge loans are secured by first mortgages on real and
personal property, are personally guaranteed, and are interest-only with a fixed interest rate of 6.9% per annum, and mature in
three to nine months. The maturities are based upon the estimated time needed to prepare the sites for closing into a development
loan. During the three months ended March 31, 2017, the Company received repayments of $4.2 million related to two bridge loans
and entered into two new bridge loans with an aggregate commitment of $7.3 million. At December 31, 2016, the Company had executed
five bridge loans extended to four limited liability companies that are under common control with borrowers in certain of the Company’s
development property investments. These bridge loans were accounted for under the cost method, and fair value approximates cost
at March 31, 2017 and December 31, 2016. None of these bridge loans were in non-accrual status as of March 31, 2017 and December
31, 2016. The Company determined that no allowance for loan loss was necessary at March 31, 2017 and December 31, 2016.
The Company also had executed six revolving loan agreements
with an aggregate outstanding principal amount of $1.6 million at March 31, 2017. Five of the agreements are with individuals who
are owners of limited liability companies, one is with a limited liability company, and all are personally guaranteed. All of the
borrowers are either directly or indirectly owners of certain of the Company’s development property investments. Three of
the agreements provide for borrowings of up to $0.5 million, one provides for borrowings of up to $0.25 million, one provides for
borrowings of up to $0.7 million, and one agreement provides for borrowings of up to $1.0 million (total of $3.5 million) to fund
expenses for pursuit costs to contract for and perform diligence on additional self-storage sites. The revolving loans are typically
unsecured but cross-defaulted against development loans. One of the revolving loans is guaranteed by a part owner of one of the
Company’s development loan investments, and this guaranty is secured by a pledge of the owner’s membership interest
in one of the Company’s development loan investments. The loans bear interest at 6.9-7.0% per annum and are due in full in
three years. During the three months ended March 31, 2017, the Company received repayments on these revolving loan agreements of
$0.8 million. At December 31, 2016, the Company had executed six revolving loan agreements with an aggregate outstanding principal
amount of $1.7 million. These loans are accounted for under the cost method, and fair value approximates cost at March 31, 2017
and December 31, 2016. None of these loans are in non-accrual status as of March 31, 2017 and December 31, 2016. The Company determined
that no allowance for loan loss was necessary at March 31, 2017 and December 31, 2016.
9. SENIOR PARTICIPATIONS
On April 29, 2016, the Company sold senior participations (the
“Operating Property A Notes”) in two separate operating property loans in the Nashville, Tennessee and New
Orleans, Louisiana MSAs, having an aggregate outstanding principal balance of $7.8 million, to a regional commercial bank in
exchange for cash consideration of $5.0 million. The sale of Operating Property A Notes was effected pursuant to
participation agreements between the bank and the Company (the “Participation Agreements”). On December 14, 2016,
the Company received proceeds of $5.2 million for an early payoff on the operating property loan in the Nashville, Tennessee
MSA, and the Company repurchased the senior participation on this loan that was included in Operating Property A Notes. The
Company paid the regional commercial bank a total of $3.4 million in connection with the repurchase, which included a $0.1
million prepayment penalty that is recorded in interest expense in the Consolidated Statements of Operations. Under the
remaining Participation Agreement, the Company will continue to service the underlying loans as long as it is not in default
under the Participation Agreement. The bank has the option to “put” the senior participation to the Company in
the event the underlying borrower defaults on the underlying loan or if the Company defaults under the Participation
Agreement. The Company will pay to the bank interest on the outstanding balance of the Operating Property A Note at the rate
of 30-day LIBOR plus 3.85%, or 4.83% at March 31, 2017. The Operating Property A Note matures on April 1, 2019, at which time
the Company is obligated to repurchase the Operating Property A Note at the then outstanding principal balances thereof. As
part of the Participation Agreement, the Company will maintain a minimum aggregate balance of $0.5 million in depository
or money market accounts at the bank, and if such balance is not maintained, the interest rate will increase. The
outstanding balance for the remaining Operating Property A Note at March 31, 2017 was $1.8 million.
On May 27, 2016, the Company sold a third senior participation in
a construction loan on a facility in the Miami, Florida MSA (“the Miami A Note”), having a commitment amount of $17.7
million, to the same commercial bank that purchased the Operating Property A Notes in exchange for a commitment by the bank to
provide net proceeds of $10.0 million to fund construction draws under the construction loan (the “Miami A Note Sale”)
once the total outstanding principal balance exceeds $7.7 million. The Miami A Note Sale was effected pursuant to a participation
agreement between the bank and the Company (the “Miami Participation Agreement”). Under the Miami Participation Agreement,
the Company will continue to service the underlying loan as long as it is not in default under the Miami Participation Agreement.
The bank has the option to “put” the senior participation to the Company in the event the underlying borrower defaults
on the underlying loan or if the Company defaults under the Miami Participation Agreement. The Company will pay to the bank interest
on the outstanding balance of the Miami A Note at the rate of 30-day LIBOR plus 3.10%, or 4.08% at March 31, 2017. The Company
also paid a loan fee of 100 basis points, or $0.1 million upon closing of the loan. The Miami A Note initially had a maturity date
of July 1, 2017. During the three months ended March 31, 2017, the maturity date was extended to January 31, 2018, at which time
the Company is obligated to repurchase the Miami A Note at the then outstanding principal balance thereof. No proceeds have been
received as of March 31, 2017 from the Miami A Note.
On July 26, 2016, the Company sold to a national commercial bank
operating in the Company’s markets senior participations in the construction loans of four separate development property
investments with a profits interest (the “July 2016 A Notes”) (one in the Orlando, Florida MSA, two in the Atlanta,
Georgia MSA, and one in the Tampa, Florida MSA) having an aggregate committed principal balance of approximately $21.8 million
and earning interest at a rate of 6.9% per annum, in exchange for a commitment by the bank to provide net proceeds of $14.2 million
(the “July 2016 A Note Sales”). Construction has been completed and certificates of occupancy have been issued for
these properties. At closing, the bank paid to the Company approximately $12.5 million for senior participations in the construction
loans and will fund up to a total of $14.2 million as future draws are made on the construction loans. The Company will pay interest
to the bank on its senior participations at the annual rate of 30-day LIBOR plus 3.50%, or 4.48% at March 31, 2017. The July 2016
A Notes mature on August 1, 2019, at which time the Company is obligated to repurchase the July 2016 A Notes at the then outstanding
principal balance thereof. As part of the senior participation agreements, the Company will maintain a minimum aggregate balance
of $0.5 million in depository or money market accounts at the bank, and if such balance is not maintained, the interest rate will
increase. The outstanding balance for the July 2016 A Notes at March 31, 2017 was $13.6 million.
On October 18, 2016, the Company sold to a local Memphis, Tennessee-based
community bank a senior participation in the construction loan of one of the Company’s development property investments with
a profits interest (the “October 2016 A Note”) in Charlotte, North Carolina having a committed principal balance of
approximately $6.8 million and earning interest at a rate of 6.9% per annum, in exchange for a commitment by the bank to provide
net proceeds of $4.4 million (the “October 2016 A Note Sale”). Construction has been completed and a certificate of
occupancy has been issued for this property. At closing, the bank paid to the Company approximately $3.4 million for the senior
participation in the construction loan and will fund up to a total of $4.4 million as future draws are made on the construction
loans. The Company will pay interest to the bank on the senior participation at the annual rate of 30-day LIBOR plus 3.50%, or
4.48% at March 31, 2017. The October 2016 A Note matures on September 1, 2021, at which time the Company is obligated to repurchase
the October 2016 A Note at the then outstanding principal balance thereof. The outstanding balance for the October 2016 A Note
at March 31, 2017 was $3.9 million.
The table below details the bank commitments and outstanding balances
of our senior participations at March 31, 2017:
|
|
Commitment by
Bank
|
|
|
Amount
Borrowed
|
|
|
Remaining
Funds
|
|
|
Interest Rate
|
|
Effective
Interest
Rate at
March
31, 2017
|
|
|
Maturity Date
|
Operating Property A Note
|
|
$
|
1,820
|
|
|
$
|
1,820
|
|
|
$
|
-
|
|
|
30-day LIBOR + 3.85%
|
|
|
4.83
|
%
|
|
April 1, 2019
|
Miami A Note
|
|
|
10,001
|
|
|
|
-
|
|
|
|
10,001
|
|
|
30-day LIBOR + 3.10%
|
|
|
4.08
|
%
|
|
January 31, 2018
|
July 2016 A Notes
|
|
|
14,185
|
|
|
|
13,577
|
|
|
|
608
|
|
|
30-day LIBOR + 3.50%
|
|
|
4.48
|
%
|
|
August 1, 2019
|
October 2016 A Note
|
|
|
4,405
|
|
|
|
3,935
|
|
|
|
470
|
|
|
30-day LIBOR + 3.50%
|
|
|
4.48
|
%
|
|
September 1, 2021
|
Total
|
|
$
|
30,411
|
|
|
|
19,332
|
|
|
$
|
11,079
|
|
|
|
|
|
|
|
|
|
Unamortized fees
|
|
|
|
|
|
|
(33
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
Net balance
|
|
|
|
|
|
$
|
19,299
|
|
|
|
|
|
|
|
|
|
|
|
|
|
10. STOCKHOLDERS’ EQUITY
The Company had 8,997,707 and 8,956,354 shares of common stock issued
and outstanding as of March 31, 2017 and December 31, 2016, respectively. The Company had 10,000 shares of Series A Preferred Stock
issued and outstanding as of March 31, 2017 and December 31, 2016.
Common Stock Offering
On December 13, 2016, the Company received $53.5 million in proceeds,
net of underwriter’s discount and offering costs, related to the issuance of 2,996,311 shares of common stock.
Stock Repurchase Plan
On May 20, 2016, the Company’s Board of Directors authorized
a share repurchase program for the repurchase of up to $10.0 million of the outstanding shares of common stock of the Company.
As of March 31, 2017, the Company had repurchased and retired a total of 213,078 shares of its common stock at an aggregate cost
of approximately $3.2 million. As of March 31, 2017, the Company has $6.8 million remaining under the Board’s authorization
to repurchase shares of its common stock.
Equity Incentive Plan
In connection with the IPO, the Company established the
2015 Equity Incentive Plan for the purpose of attracting and retaining directors, executive officers, investment
professionals and other key personnel and service providers, including officers and employees of the Manager and other
affiliates, and to stimulate their efforts toward the Company’s continued success, long-term growth and profitability.
The 2015 Equity Incentive Plan provides for the grant of stock options, share awards (including restricted common stock and
restricted stock units), stock appreciation rights, dividend equivalent rights, performance awards, annual incentive cash
awards and other equity-based awards, including Long-Term Incentive Plan (“LTIP”) units, which are convertible on
a one-for-one basis into Operating Company Units (“OC Units”). A total of 200,000 shares of common stock
were reserved for issuance pursuant to the 2015 Equity Incentive Plan, subject to certain adjustments set forth in the plan.
On April 1, 2015, each non-employee director of the Company received an award of 2,500 shares of restricted common stock
(total of 10,000 shares) which vest ratably over a three-year period. On June 15, 2015, in connection with the appointment of
the Company’s President and Chief Operating Officer (an employee of the Manager), 100,000 shares of restricted common
stock were granted, which shares vest ratably over a five-year period. During the year ended December 31, 2015, the Company
granted 52,500 shares of restricted common stock to an executive officer (an employee of the Manager) and key employees of
the Manager, which shares vest ratably over a three-year period. The Manager provides services to the Company. On May 20,
2016, each non-employee director of the Company received an award of 3,585 shares of common stock (total of 14,340 shares)
which immediately vested on the grant date. On May 3, 2017, the Company’s stockholders approved, and the Company
adopted, the Amended and Restated 2015 Stock Incentive Plan increasing the number of shares of common stock reserved
for issuance under the Plan by 170,000 shares from 200,000 shares to 370,000 shares and extending the term of the Plan until
May 2, 2027. On May 3, 2017, three non-employee directors of the Company were each granted an award of 2,138 shares of common
stock (total of 6,414 shares), which immediately vested on the grant date. In addition, certain employees of the Manager were
granted a cumulative total of 105,000 shares of restricted common stock, which vest ratably over a three-year period.
Restricted Stock Awards
The 2015 Equity Incentive Plan permits the issuance of restricted
stock awards to employees of the Manager (as the Company has no employees) and non-employee directors. Granted stock awards at
March 31, 2017 and December 31, 2016 aggregated 176,840 service-based stock awards, of which 55,172 vested in 2016, 39,999 will
vest in 2017, 40,002 will vest in 2018, and 20,000 will vest in 2019 and 2020, respectively. Additionally, 1,667 were forfeited
during the year ended December 31, 2016. Non-vested shares are earned over the respective vesting period based on a service condition
only. Expenses related to restricted stock awards are charged to compensation expense and are recognized over the respective vesting
period (primarily three to five years) of the awards. For restricted stock issued to non-employee directors of the Company, compensation
expense is based on the market value of the shares at the grant date. For restricted stock awards issued to employees of the Manager,
compensation expense is re-measured at each reporting date until service is complete and the restricted shares become vested based
on the then current value of the Company’s common stock.
The Company recognized approximately $0.3 million and $0.2 million
of stock-based compensation expense for the three months ended March 31, 2017 and 2016, respectively. As of March 31, 2017 and
December 31, 2016, the total unrecognized compensation cost related to the Company’s restricted shares was approximately
$1.9 million and $2.0 million, respectively, based on the grant date market value for awards issued to non-employee directors of
the Company and based on the measurement of awards using the Company’s stock price of $23.04 and $21.05 as of March 31, 2017
and December 31, 2016, respectively, for awards issued to employees of the Manager. This cost is expected to be recognized over
the remaining weighted average period of 2.7 years. The Company presents stock-based compensation expense in general and administrative
expenses in the Consolidated Statements of Operations.
A summary of changes in the Company’s restricted shares for
the three months ended March 31, 2017 and 2016 is as follows:
|
|
Three Months Ended
March 31, 2017
|
|
|
Three Months Ended
March 31, 2016
|
|
|
|
Shares
|
|
|
Weighted
average grant
date fair value
|
|
|
Shares
|
|
|
Weighted
average grant
date fair value
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nonvested at December 31,
|
|
|
120,001
|
|
|
$
|
20.10
|
|
|
|
162,500
|
|
|
$
|
20.08
|
|
Granted
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Vested
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Forfeited
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Nonvested at March 31,
|
|
|
120,001
|
|
|
$
|
20.10
|
|
|
|
162,500
|
|
|
$
|
20.08
|
|
Nonvested restricted shares receive dividends which are nonforfeitable.
Series A Preferred Stock Private Placement
On July 27, 2016 (the “Effective Date”), the Company
entered into a Stock Purchase Agreement (the “Purchase Agreement”) with accounts managed by NexPoint Advisors, L.P.,
an affiliate of Highland Capital Management, L.P. (collectively, the “Buyers”) relating to the issuance and sale,
from time to time until the second anniversary of the Effective Date (such period, the “Commitment Period”), of up
to $100 million in shares of the Company’s newly designated Series A Preferred Stock, par value $0.01 per share (the “Series
A Preferred Stock”), at a price of $1,000 per share (the “Liquidation Value”) (subject to a minimum amount
of $50 million of Series A Preferred Stock to be issued and sold by the Company on or prior to the expiration of the Commitment
Period), which may be increased at the request of the Company up to $125 million. The sale of shares of Series A Preferred Stock
pursuant to the Purchase Agreement may occur from time to time, in minimum monthly increments of $5 million, maximum monthly increments
of $15 million and maximum increments of $35 million over any rolling three month period, all to be completed during the Commitment
Period.
The Series A Preferred Stock will rank senior to the shares of
the Company’s common stock, par value $0.01 per share (the “Common Stock”), with respect to distribution rights
and rights upon liquidation, winding up and dissolution of the Company, on parity with any class or series of capital stock of
the Company expressly designated as ranking on parity with the Series A Preferred Stock with respect to distribution rights and rights
upon liquidation, winding up and dissolution of the Company, junior to any class or series of capital stock of the Company expressly
designated as ranking senior to the Series A Preferred Stock with respect to distribution rights and rights upon liquidation,
winding up and dissolution of the Company and junior in right of payment to the Company’s existing and future indebtedness.
Holders of Series A Preferred Stock are entitled to a cumulative
cash distribution (“Cash Distribution”) equal to (A) 7.0% per annum on the Liquidation Value for the period beginning
on the respective date of issuance until the sixth anniversary of the Effective Date, payable quarterly in arrears, (B) 8.5% per
annum on the Liquidation Value for the period beginning the day after the sixth anniversary of the Effective Date and for each
year thereafter as long as the Series A Preferred Stock remains issued and outstanding, payable quarterly in arrears, and (C) an
amount in addition to the amounts in (A) and (B) equal to 5.0% per annum on the Liquidation Value upon the occurrence of certain
triggering events (a “Cash Premium”). In addition, the holders of the Series A Preferred Stock will be entitled to
a cumulative dividend payable in-kind in shares of Common Stock or additional shares of Series A Preferred Stock, at the election
of the holders (the “Stock Dividend”), equal in the aggregate to the lesser of (Y) 25% of the incremental increase
in the Company’s book value (as adjusted for equity capital issuances, share repurchases and certain non-cash expenses) plus,
to the extent the Company owns equity interests in income-producing real property, the incremental increase in net asset value
(provided, however, that no interest in the same real estate asset will be double counted) and (Z) an amount that would, together
with the Cash Distribution, result in a 14.0% internal rate of return for the holders of the Series A Preferred Stock from the
date of issuance of the Series A Preferred Stock, as set forth in the Articles Supplementary classifying the Series A Preferred
Stock (the “Articles Supplementary”). Triggering events that will trigger the payment of a Cash Premium with respect
to a Cash Distribution include: (i) the occurrence of certain change of control events affecting the Company after the third anniversary
of the Effective Date, (ii) the Company’s ceasing to be subject to the reporting requirements of Section 13 or Section 15(d)
of the Exchange Act, (iii) the Company’s failure to remain qualified as a real estate investment trust, (iv) an event
of default under the Purchase Agreement, (v) the failure by the Company to register for resale shares of Common Stock pursuant
to the Registration Rights Agreement (a “Registration Default”), (vi) the Company’s failure to redeem the Series
A Preferred Stock as required by the Purchase Agreement, or (vii) the filing of a complaint, a settlement with, or a judgment entered
by the Securities and Exchange Commission against the Company or any of its subsidiaries or a director or executive officer of
the Company relating to the violation of the securities laws, rules or regulations with respect to the business of the Company.
Accrued but unpaid Cash Distributions and Stock Dividends on the Series A Preferred Stock will accumulate and will earn additional
Cash Distributions and Stock Dividends as calculated above, compounded quarterly.
The holders of Series A Preferred Stock have the right to purchase
their pro rata share of any qualified offering of Common Stock, which consists of any offering by the Company of Common Stock except
any shares of Common Stock issued (i) in connection with a merger, consolidation, acquisition or similar business combination,
(ii) in connection with a joint venture, strategic alliance or similar corporate partnering arrangement, (iii) in connection with
any acquisition of assets by the Company, (iv) at market prices pursuant to a registered at-the-market program and/or (v) as part
of a compensatory or employment arrangement.
As long as shares of Series A Preferred Stock remain outstanding,
the Company is required to maintain a ratio of debt to total tangible assets determined under U.S. generally accepted accounting
principles of no more than 0.4:1, measured as of the last day of each fiscal quarter. The Company has complied with this covenant
as of March 31, 2017.
The Series A Preferred Stock may be redeemed at the Company’s
option (i) after five years from the Effective Date at a price equal to 105% of the Liquidation Value per share plus the value
of all accumulated and unpaid Cash Distributions and Stock Dividends, and (ii) after six years from the Effective Date at a price
equal to 100% of the Liquidation Value per share plus the value of all accumulated and unpaid Cash Distributions and Stock Dividends.
In the event of certain change of control events affecting the Company prior to the third anniversary of the Effective Date, the
Company must redeem all shares of Series A Preferred Stock for a price equal to (a) the Liquidation Value, plus (b) accumulated
and unpaid Cash Distributions and Stock Dividends, plus (c) a make-whole premium designed to provide the holders of the Series
A Preferred Stock with a return on the redeemed shares equal to a 14.0% internal rate of return through the third anniversary of
the Effective Date.
Holders of Series A Preferred Stock will be entitled to a separate
class vote with respect to (i) any amendments to the Company’s Amended and Restated Articles of Incorporation (the “Charter”),
as supplemented by the Articles Supplementary, or bylaws that would alter or change the rights, preferences, privileges or restrictions
of the Series A Preferred Stock so as to materially and adversely affect such Series A Preferred Stock and (ii) reclassification
or otherwise, any issuances by the Company of securities that are senior to, or equal in priority with, the Series A Preferred
Stock.
In the event of any liquidation, dissolution or winding up of the
Company, the holders of the Series A Preferred Stock shall be entitled to receive an amount equal to the greater of (i) the Liquidation
Value, plus all accumulated but unpaid Cash Distributions and Stock Dividends thereon to, but not including, the date of any liquidation,
but excluding any Cash Premium and (ii) the amount that would be paid on such date in the event of a redemption following a change
of control.
Pursuant to the Purchase Agreement and the Articles Supplementary,
the Company increased the size of its Board by one director and elected James Dondero, as representative of the Buyers, to the
Board for a term expiring at the Company’s 2017 annual meeting of stockholders (Mr. Dondero has subsequently been reelected
to the Board for a term expiring at the Company’s 2018 annual meeting of stockhoders). Thereafter, so long as any shares
of the Series A Preferred Stock are outstanding, the holders of the Series A Preferred Stock, voting as a single class, are entitled
to nominate and elect one individual to serve on our Board of Directors. If the Company has not paid the full amount of the Cash
Distribution or the Stock Dividend on the shares of the Series A Preferred Stock for six or more quarterly dividend periods (whether
or not consecutive), the Company will increase the size of the Board by two directors and the holders of the our Series A Preferred
Stock are entitled to elect two additional directors to serve on our Board of Directors until the Company pays in full all accumulated
and unpaid Cash Distributions and Stock Dividends.
Further, at any time that the Series A Preferred Stock remains outstanding,
if Dean Jernigan, the Company’s current Chief Executive Officer and Chairman of the Board, voluntarily leaves the position
of Chief Executive Officer, and is not serving as the Executive Chairman of the Board (a “Key Man Event”), the holders
of the Series A Preferred Stock shall have the right to accept or reject the service of any person as Chief Executive Officer (or
such person serving as the principal executive officer) of the Company.
The Purchase Agreement requires that the Company and its subsidiaries
conduct their business in the ordinary course of business consistent with past practice and use reasonable best efforts to (i)
preserve substantially intact the business organization and (ii) avoid becoming subject to the requirements of the Investment Company
Act of 1940, as amended. Additionally, the Company and its subsidiaries may not change or alter materially its method of accounting
or the manner in which it keeps its accounting books and records unless required by the Securities and Exchange Commission to reflect
changes in U.S. generally accepted accounting principles or, in the business judgment of the Board, such change would be in the
best interests of the Company or stockholders.
Future issuances of shares of Series A Preferred Stock at any one
or more closings after the Effective Date are contingent upon the satisfaction of certain conditions at the time of such proposed
purchase, including that (i) the representations and warranties of the Purchase Agreement remain true and correct in all material
respects and the Company has complied with all covenants and conditions under the Purchase Agreement, the Articles Supplementary,
the Registration Rights Agreement and the documents related thereto, (ii) no material adverse effect (as such term is defined in
the Purchase Agreement) has occurred, (iii) there is no suspension of trading of the Common Stock on the New York Stock Exchange
or such other market or exchange on which the Common Stock is then listed or traded (the “Principal Market”), (iv)
a Key Man Event shall not have occurred, as described above, and (v) the Company has delivered certain customary closing deliverables.
An event of default under the Purchase Agreement terminates the
obligation of the Buyers to acquire shares of Series A Preferred Stock from the Company and also triggers the Cash Premium described
above. Such events of default under the Purchase Agreement include (i) a Registration Default, (ii) the suspension of trading or
delisting of the Common Stock on the Principal Market, (iii) the failure by the transfer agent of the Company to issue shares of
the Series A Preferred Stock to the Buyers (subject to an applicable cure period), (iv) the Company’s breach of a representation
or warranty, covenant or other term or condition under the Purchase Agreement, Articles Supplementary, the Registration Rights
Agreement or the documents related thereto that has a material adverse effect (subject to an applicable cure period), (v) the failure
of the Company to sell $50 million of shares of Series A Preferred Stock on or prior to the tenth business day after the expiration
of the Commitment Period, (vi) an event of default under any secured indebtedness of the Company, or (vii) certain bankruptcy proceedings.
The holders of the Series A Preferred Stock will have certain customary
registration rights with respect to the Common Stock issued as Stock Dividends pursuant to the terms of a Registration Rights Agreement.
The issuance and sale of the Series A Preferred Stock, and the issuance
of shares of common stock and/or additional shares of Series A Preferred Stock issuable as Stock Dividends, will be exempt from
registration under the Securities Act of 1933, as amended (the “Securities Act”) pursuant to Section 4(a)(2) of
the Securities Act and Rule 506 of Regulation D thereunder. The Buyers represented to the Company that they are “accredited
investors” as defined in Rule 501 of the Securities Act and that the Series A Preferred Stock is being acquired for investment
purposes and not with a view to, or for sale in connection with, any distribution thereof, and appropriate legends will be affixed
to any certificates evidencing the shares of Series A Preferred Stock or Common Stock issuable pursuant to the Stock Purchase Agreement.
As of March 31, 2017, the Company had issued 10,000 restricted
shares of the Series A Preferred Stock to the Buyers and received $10.0 million in proceeds pursuant to the terms of the Purchase
Agreement. On March 7, 2017, we declared a (i) cash distribution of $17.50 per share of Series A Preferred stock, payable on April
14, 2017, to holders of Series A Preferred stock of record on the close of business on April 1, 2017, and (ii) distributions payable
in kind in a number of shares of common stock as determined in accordance with the terms of the designation of the Series A Preferred
stock, payable on April 17, 2017, to holders of Series A Preferred Stock of record on the close of business on April 1, 2017.
11. EARNINGS PER SHARE
Basic earnings per share is computed by dividing net income
by the weighted average number of shares outstanding during the period. All outstanding unvested restricted share awards
contain rights to non-forfeitable dividends and participate in undistributed earnings with common shareholders and, accordingly,
are considered participating securities that are included in the two-class method of computing basic earnings per share. Both the
unvested restricted shares and the assumed share-settlement of the stock dividend to holders of the Series A Preferred Stock, and
the related impacts to earnings, are considered when calculating earnings per share on a diluted basis with our diluted earnings
per share being the more dilutive of the treasury stock or two-class methods. For the three months ended March
31, 2017 and 2016, the Company’s basic earnings per share is computed using the two-class method, and our diluted earnings
per share is computed using the more dilutive of the treasury stock method or two-class method:
|
|
Three months ended March 31,
|
|
|
|
2017
|
|
|
2016
|
|
Weighted average common shares - basic
|
|
|
8,857,030
|
|
|
|
6,000,000
|
|
Effect of dilutive securities
|
|
|
136,498
|
|
|
|
162,500
|
|
Weighted average common shares, all classes
|
|
|
8,993,528
|
|
|
|
6,162,500
|
|
|
|
|
|
|
|
|
|
|
Calculation of Earnings per Share - basic
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
1,783
|
|
|
$
|
1,122
|
|
Less:
|
|
|
|
|
|
|
|
|
Net income allocated to preferred stockholders
|
|
|
546
|
|
|
|
-
|
|
Net income allocated to unvested restricted shares
(1)
|
|
|
17
|
|
|
|
30
|
|
Net income attributable to common shareholders - two-class method
|
|
$
|
1,220
|
|
|
$
|
1,092
|
|
|
|
|
|
|
|
|
|
|
Weighted average common shares - basic
|
|
|
8,857,030
|
|
|
|
6,000,000
|
|
Earnings per share - basic
|
|
$
|
0.14
|
|
|
$
|
0.18
|
|
|
|
|
|
|
|
|
|
|
Calculation of Earnings per Share - diluted
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
1,783
|
|
|
$
|
1,122
|
|
Less:
|
|
|
|
|
|
|
|
|
Net income allocated to preferred stockholders
|
|
|
546
|
|
|
|
-
|
|
Net income attributable to common shareholders - two-class method
|
|
$
|
1,237
|
|
|
$
|
1,122
|
|
|
|
|
|
|
|
|
|
|
Weighted average common shares - diluted
|
|
|
8,993,528
|
|
|
|
6,162,500
|
|
Earnings per share - diluted
|
|
$
|
0.14
|
|
|
$
|
0.18
|
|
|
(1)
|
Unvested restricted shares participate in dividends with common shares on a 1:1 basis and thus are considered participating securities under the two-class method for the three months ended March 31, 2017 and 2016.
|
12. RELATED PARTY TRANSACTIONS
Equity Method Investments
Certain of the Company’s development property investments
are equity method investments for which the Company has elected the fair value option of accounting. The fair value of these equity
method investments at March 31, 2017 and December 31, 2016 were $106.6 million and $78.7 million, respectively. The interest income
realized and the change in fair value from these equity method investments was $2.8 million and $3.8 million for the three months
ended March 31, 2017 and 2016, respectively.
The Company’s investment in the real estate venture, the SL1
Venture, has a carrying amount of $10.8 million and $5.4 million at March 31, 2017 and December 31, 2016, respectively, and the
earnings from this venture were $0.4 million for the three months ended March 31, 2017. There were no earnings from this venture
for the three months ended March 31, 2016.
Management Agreement
On April 1, 2015, the Company entered into a management agreement
with its Manager (the “Management Agreement”). Pursuant to the terms of the Management Agreement, the Manager will
be responsible for (a) the Company’s day-to-day operations, (b) determining investment criteria and strategy in conjunction
with the Company’s Board of Directors, (c) sourcing, analyzing, originating, underwriting, structuring, and acquiring the
Company’s portfolio investments, and (d) performing portfolio management duties. The Manager has an Investment Committee
that approves investments in accordance with the Company’s investment guidelines, investment strategy, and financing strategy.
On May 23, 2016, the Company entered into an Amended and Restated
Management Agreement (the “Amended and Restated Management Agreement”) by and among the Company, the Operating Company
and the Manager that amends and restates the original Management Agreement dated April 1, 2015. The Amended and Restated Management
Agreement was approved on behalf of the Company and the Operating Company by a unanimous vote of the Nominating and Corporate Governance
Committee of the Company’s Board of Directors, which consists solely of independent directors.
The Amended and Restated Management Agreement modifies certain procedures
with respect to the future internalization of the Manager (as described in the Amended and Restated Management Agreement, an “Internalization
Transaction”). Prior to entry into the Amended and Restated Management Agreement, if no Internalization Transaction had occurred
prior to the end of the last renewal term, the Manager would have been entitled to the Termination Fee (as defined in the Amended
and Restated Management Agreement) and the Company would not have acquired the assets of the Manager. The Amended and Restated
Management Agreement, however, requires an Internalization Transaction at the end of the last renewal term (if an Internalization
Transaction or termination of the Amended and Restated Management Agreement has not occurred prior to that date). The Internalization
Price in such event would equal the Termination Fee amount and the Company would receive the Manager’s assets. Accordingly,
the amount the Manager would receive has not changed, but the Company now would receive the assets of the Manager, which it would
not have received prior to the Amended and Restated Management Agreement.
Under the Amended and Restated Management Agreement, if an Internalization
Transaction has not occurred prior to March 31, 2023, the last day of the last renewal term, then the Manager and the Company shall
consummate an Internalization Transaction to be effective as of that date and all assets of the Manager (or, alternatively, all
of the equity interests in the Manager) shall be conveyed to and acquired by the Operating Company in exchange for the Internalization
Price (as described herein). At such time, all employees of the Manager shall become employees of the Operating Company and the
Manager shall discontinue all business activities. Unlike an Internalization Transaction that occurs prior to the end of the final
renewal term of the Amended and Restated Management Agreement, an Internalization Transaction that occurs at the end of the final
renewal term shall not require a fairness opinion, the approval of a special committee of the Company’s Board of Directors
or the approval of the Company’s stockholders.
The “Internalization Price” payable in the event of
an Internalization Transaction at the end of the last renewal term shall be equal to the Termination Fee and the Board of Directors
of the Company has no discretion to change such Internalization Price or the conditions applicable to its payment.
The Internalization Price paid to the Manager in any Internalization
Transaction will be payable by the Operating Company in the number of units of limited liability company interests (“OC Units”)
of the Operating Company equal to the Internalization Price, divided by the volume-weighted average of the closing market price
of the common stock of the Company for the ten consecutive trading days immediately preceding the date with respect to which value
must be determined. However, if the common stock of the Company is not traded on a national securities exchange at the time of
closing of any Internalization Transaction, then the number of OC Units shall be determined by agreement between the Board of Directors
of the Company and the Manager or, in the absence of such agreement, the Internalization Price shall be paid in cash.
Prior to entry into the Amended and Restated Management Agreement,
any Termination Fee would have been payable by the Operating Company in OC Units equal to the Termination Fee divided by the average
of the daily market price of the Common Stock for the ten consecutive trading days immediately preceding the date of termination
within 90 days after occurrence of the event requiring the payment of the Termination Fee. In accordance with ASC 505-50,
Equity
- Equity-based Payments to Non-Employees,
since the number of OC Units to be issued was dependent upon different possible outcomes,
the Company recognized the lowest aggregate amount within the range of outcomes. Accordingly, the Company estimated the deferred
termination fee payable and accrued the expense over the term of the Management Agreement. Upon entry into the Amended and Restated
Management Agreement, the Company ceased recognizing the deferred termination fee expense and reclassified the Non-Controlling
Interests to Additional Paid-In-Capital since the Termination Fee is no longer certain of being paid other than in exchange for
either the assets or equity of the Manager. Accordingly, the Company recorded none and $0.2 million of expense for the deferred
termination fee for the three months ended March 31, 2017 and 2016, respectively.
The initial term of the Management Agreement will be five years,
with up to a maximum of three, one-year extensions that end on the applicable anniversary of the completion of the Company’s
offering. The Company’s independent directors will review the Manager’s performance annually. Following the initial
term, the Management Agreement may be terminated annually upon the affirmative vote of at least two-thirds of the Company’s
independent directors based upon: (a) the Manager’s unsatisfactory performance that is materially detrimental to the Company;
or (b) the Company’s determination that the management fees payable to the Manager are not fair, subject to the Manager’s
right to prevent termination based on unfair fees by accepting a reduction of management fees agreed to by at least two-thirds
of the independent directors. The Company will provide its Manager with 180 days’ prior notice of such a termination. Upon
such a termination, the Company will pay the Manager a Termination Fee except as provided below.
No later than 180 days prior to the end of the initial term of the
Management Agreement, the Manager will offer to contribute to the Company’s Operating Company at the end of the initial term
all of the assets or equity interests in the Manager at the internalization price and on such terms and conditions included in
a written offer provided by the Manager.
Upon receipt of the Manager’s initial internalization offer,
a special committee consisting solely of the Company’s independent directors may accept the Manager’s proposal or submit
a counter offer to the Manager. If the Manager and the special committee are unable to agree, the Manager and the special committee
will repeat this process annually during the term of any extension of the Management Agreement. Acquisition of the Manager pursuant
to this process requires a fairness opinion from a nationally recognized investment banking firm and stockholder approval, in addition
to approval by the special committee. As described above, if an Internalization Transaction has not occurred prior to March 31,
2023, the last day of the last renewal term, then the Manager and the Company shall consummate an Internalization Transaction to
be effective as of that date, and such Internalization Transaction shall not require a fairness opinion, the approval of a special
committee of the Company’s Board of Directors or the approval of the Company’s stockholders.
If the Management Agreement terminates other than for Cause, voluntary
non-renewal by the Manager or the Company being required to register as an investment company under the Investment Company Act
of 1940, then the Company shall pay to the Manager, on the date on which such termination is effective, a Termination Fee equal
to the greater of (i) three times the sum of the average annual Base Management Fee and Incentive Fee earned by the Manager during
the 24-month period prior to such termination, calculated as of the end of the most recently completed fiscal quarter prior to
the date of termination, or (ii) the offer price, which will be based on the lesser of (a) the Manager’s earnings before
interest, taxes, depreciation and amortization (adjusted for unusual, extraordinary and non-recurring charges and expenses), or
“EBITDA” annualized based on the most recent quarter ended, multiplied by a specific multiple, or EBITDA Multiple,
depending on the Company’s achieved total annual return, and (b) the Company’s equity market capitalization multiplied
by a specific percentage, or Capitalization Percentage, depending on the Company’s achieved total return (the Internalization
Price). Any Termination Fee will be payable by the Operating Company in cash.
The Company also may terminate the Amended and Restated Management
Agreement at any time, including during the initial term, without the payment of any Termination Fee, with 30 days’ prior
written notice from the Board of Directors, for cause. “Cause” is defined as: (i) the Manager’s continued breach
of any material provision of the Amended and Restated Management Agreement following a prescribed period; (ii) the occurrence of
certain events with respect to the bankruptcy or insolvency of the Manager; (iii) a change of control of the Manager that a majority
of the Company’s independent directors determines is materially detrimental to the Company; (iv) the Manager committing fraud
against the Company, misappropriating or embezzling the Company’s funds, or acting grossly negligent in the performance of
its duties under the Amended and Restated Management Agreement; (v) the dissolution of the Manager; (vi) the Manager fails to provide
adequate or appropriate personnel that are reasonably necessary for the Manager to identify investment opportunities for the Company
and to manage and develop the Company’s investment portfolio if such default continues uncured for a period of 60 days after
written notice thereof, which notice must contain a request that the same be remedied; (vii) the Manager is convicted (including
a plea of nolo contendere) of a felony; or (viii) both the current Chief Executive Officer and the current President and Chief
Operating Officer are no longer senior executive officers of the Manager or the Company during the term of the Amended and Restated
Management Agreement other than by reason of death or disability.
The Manager may terminate the Amended and Restated Management Agreement
if the Company becomes required to register as an investment company under the 1940 Act, with such termination deemed to occur
immediately before such event, in which case the Company would not be required to pay the Manager a Termination Fee. The Manager
may also decline to renew the Amended and Restated Management Agreement by providing the Company with 180 days’ written notice,
in which case the Company would not be required to pay a Termination Fee.
The Amended and Restated Management Agreement provides for the Manager
to earn a base management fee and an incentive fee. In addition, the Company will reimburse certain expenses of the Manager, excluding
the salaries and cash bonuses of the Manager’s chief executive officer and chief financial officer, a portion of the salary
of the president and chief operating officer, and certain other costs as determined by the Manager in accordance with the Amended
and Restated Management Agreement. Certain prepaid expenses and fixed assets are also purchased through the Manager and reimbursed
by the Company. In the event that the Company terminates the Amended and Restated Management Agreement per the terms of the agreement,
other than for cause or the Company being required to register as an investment company, there will be a Termination Fee due to
the Manager. Amounts reimbursable to the Manager for expenses are included in general and administrative expenses in the Consolidated
Statements of Operations and totaled $0.8 million for the three months ended March 31, 2017 and 2016.
Management Fees
As of March 31, 2017, the Company did not have any personnel. As
a result, the Company is relying on the properties, resources and personnel of the Manager to conduct operations. The Company has
agreed to pay the Manager a base management fee in an amount equal to 0.375% of the Company’s stockholders’ equity
(a 1.5% annual rate) calculated and payable quarterly in arrears in cash. For purposes of calculating the base management fee,
the Company’s stockholder’s equity means: (a) the sum of (i) the net proceeds from all issuances of the Company’s
equity securities since inception (allocated on a pro rata daily basis for such issuances during the fiscal quarter of any such
issuance), plus (ii) the Company’s retained earnings at the end of the most recently completed fiscal quarter (without taking
into account any non-cash equity compensation expense incurred in current or prior periods); less (b) any amount that the Company
pays to repurchase the Company’s common stock since inception, provided that if the Company’s retained earnings are
in a net deficit position (following any required adjustments set forth below), then retained earnings shall not be included in
stockholders’ equity. It also excludes (x) any unrealized gains and losses and other non-cash items that have impacted stockholders’
equity as reported in the Company’s financial statements prepared in accordance with accounting principles generally accepted
in the United States, or GAAP, and (y) one-time events pursuant to changes in GAAP (such as a cumulative change to the Company’s
operating results as a result of a codification change pursuant to GAAP), and certain non-cash items not otherwise described above
(such as depreciation and amortization), in each case after discussions between the Company’s Manager and the Company’s
independent directors and approval by a majority of the Company’s independent directors. As a result, the Company’s
stockholders’ equity, for purposes of calculating the base management fee, could be greater or less than the amount of stockholders’
equity shown on the Company’s financial statements. The base management fee is payable independent of the performance of
the Company’s portfolio. The Manager computes the base management fee within 30 days after the end of the fiscal quarter
with respect to which such installment is payable and promptly delivers such calculation to the Company’s Board of Directors.
The amount of the installment shown in the calculation is due and payable no later than the date which is five business days after
the date of delivery of such computation to the Board of Directors. The calculation generally will be reviewed by the Board of
Directors at their regularly scheduled quarterly board meeting. The base management fee was $0.6 million and $0.4 million for the
three months ended March 31, 2017 and 2016, respectively. At March 31, 2017 and December 31, 2016, the Company had outstanding
fees due to Manager of $0.8 million and $1.0 million, respectively, consisting of the management fees payable and certain general
and administrative fees payable.
Incentive Fee
The Manager is entitled to an incentive fee with respect to each
fiscal quarter (or part thereof that the Amended and Restated Management Agreement is in effect) in arrears in cash. The incentive
fee will be an amount, not less than zero, determined pursuant to the following formula:
IF = .20 times (A minus (B times .08)) minus C
In the foregoing formula:
·
A equals the Company’s Core Earnings (as defined below) for the previous 12-month period;
·
B equals
(i) the weighted average of the issue price per share of the Company’s common stock of all of its public offerings of common
stock, multiplied by (ii) the weighted average number of all shares of common stock outstanding (including (i) any restricted stock
units and any restricted shares of common stock in the previous 12-month period and (ii) shares of common stock issuable upon conversion
of outstanding OC Units); and
·
C equals
the sum of any incentive fees earned by the Manager with respect to the first three fiscal quarters of such previous 12-month period.
Notwithstanding application of the incentive fee formula, no incentive
fee shall be paid with respect to any fiscal quarter unless cumulative annual stockholder total return for the four most recently
completed fiscal quarters is greater than 8%. Any computed incentive fee earned but not paid because of the foregoing hurdle will
accrue until such 8% cumulative annual stockholder total return is achieved. The total return is calculated by adding stock price
appreciation (based on the volume-weighted average of the closing price of the Company’s common stock on the NYSE (or other
applicable trading market) for the last ten consecutive trading days of the applicable computation period minus the volume-weighted
average of the closing market price of the Company’s common stock for the last ten consecutive trading days of the period
immediately preceding the applicable computation period) plus dividends per share paid during such computation period, divided
by the volume-weighted average of the closing market price of the Company’s common stock for the last ten consecutive trading
days of the period immediately preceding the applicable computation period. For purposes of computing the Incentive Fee, “Core
Earnings” is defined as net income (loss) determined under GAAP, plus non-cash equity compensation expense, the incentive
fee, depreciation and amortization (to the extent that the Company forecloses on any facilities underlying the Company’s
target investments), any unrealized losses or other non-cash expense items reflected in GAAP net income (loss), less any unrealized
gains reflected in GAAP net income. The amount will be adjusted to exclude one-time events pursuant to changes in GAAP and certain
other non-cash charges after discussions between the Manager and the Company’s independent directors and after approval by
a majority of the independent directors.
The Manager computes each quarterly installment of the incentive
fee within 45 days after the end of the fiscal quarter with respect to which such installment is payable and promptly delivers
such calculation to the Company’s Board of Directors. The amount of the installment shown in the calculation is due and payable
no later than the date which is five business days after the date of delivery of such computation to the Board of Directors. The
calculation generally will be reviewed by the Board of Directors at their regularly scheduled quarterly board meeting. The Manager
has not earned an incentive fee for the three months ended March 31, 2017 and 2016.
13. SUBSEQUENT EVENTS
The Company’s management has evaluated subsequent events through
the date of issuance of the consolidated financial statements included herein. Other than those disclosed below, there have been
no subsequent events that occurred during such period that require disclosure or recognition in the accompanying consolidated financial
statements.
Investment Activity
Subsequent to March 31, 2017, the Company closed on the following
development property investments with a profits interest:
Closing Date
|
|
MSA
|
|
Total Investment
Commitment
|
|
4/14/2017
|
|
Louisville
|
|
$
|
8,523
|
|
4/20/2017
|
|
Denver 1
|
|
|
11,164
|
|
4/20/2017
|
|
Denver 2
|
|
|
9,806
|
|
5/2/2017
|
|
Tampa 2
|
|
|
8,091
|
|
5/2/2017
|
|
Atlanta 6
|
|
|
12,543
|
|
|
|
Total
|
|
$
|
50,127
|
|
On April 20, 2017, the Company received $1.2 million for the
payoff of an operating property loan in the Nashville, Tennessee MSA.
On April 20, 2017, the Company received aggregate repayments
of $2.8 million related to two loans recorded at cost in connection with the above-described closings of the Denver 1 and Denver
2 development property investments with a profits interest.
On May 2, 2017, the Company received a repayment of $3.0 million
related to a loan recorded at cost in connection with the closing of the above-described Atlanta 6 development property investment
with a profits interest.
Capital Activity
On April 5, 2017, the Company entered into an at-the-market continuous
equity offering program (“ATM Program”) with an aggregate offering price of up to $50.0 million.
Since the inception of the ATM Program, the Company has issued and sold an aggregate of 874,402 shares of common stock
at a weighted average price of $22.76 per share under the ATM Program, receiving net proceeds after commissions of $19.6
million.
The Company intends to use net proceeds from sales under the ATM Program to fund investments and for general corporate
purposes. The timing of any sales will depend on a variety of factors to be determined by the Company.
Dividend Declarations
On May 3, 2017, the Company’s Board of Directors declared
a cash dividend to the holders of the Series A Preferred Stock and a distribution payable in kind in a number of shares of common
stock or Series A Preferred Stock as determined in accordance with the election of the holders of the Series A Preferred Stock
for the quarter ending June 30, 2017. The dividends are payable on July 15, 2017 (or if not a business day, on the next business
day) to holders of Series A Preferred Stock of record on July 1, 2017.
On May 3, 2017, the Company’s Board of Directors also
declared a cash dividend of $0.35 per share of common stock for the quarter ending June 30, 2017. The dividend is payable on July
14, 2017 to stockholders of record on July 3, 2017.
Second Amended and Restated Management Agreement
Effective as of April 1, 2017, the Company, the Operating Company
and the Manager entered into a Second and Amended Restated Management Agreement to modify the manner in which certain expenses
incurred by the Manager are accounted for and paid by the Company. Under the Amended and Restated Management Agreement, the Manager
may engage independent contractors that provide investment banking, securities brokerage, mortgage brokerage and other financial,
legal and account services as may be required for the Company’s investments, and the Company agrees to reimburse the Manager
for costs and expenses incurred in connection with these services. The Second Amended and Restated Management Agreement now provides
that expenses incurred by the Manager are reimbursable to the Manager by the Company only to the extent such expenses are not otherwise
directly reimbursed by an unaffiliated third party. The amount of expenses to be reimbursed to the Manager by the Company will
be reduced dollar-for-dollar by the amount of any such payment or reimbursement.
Amended and Restated 2015 Equity Incentive Plan
On May 3, 2017, the stockholders of the Company approved the
Amended and Restated 2015 Equity Incentive Plan to increase the number of shares of common stock reserved for issuance under the
Plan by 170,000 shares from 200,000 shares to 370,000 shares and to extend the term of the Amended and Restated 2015 Equity Incentive
Plan to May 2, 2027. On May 3, 2017, three non-employee directors of the Company were each granted an award of 2,138 shares
of common stock (total of 6,414 shares), which immediately vested on the grant date. In addition, certain employees of the Manager
were granted a cumulative total of 105,000 shares of restricted common stock, which vest ratably over a three-year period.