NOTES TO UNAUDITED CONSOLIDATED FINANCIAL
STATEMENTS
1.
|
BUSINESS AND ORGANIZATION
|
ACRE Realty Investors Inc. (the “company”)
(formerly known as Roberts Realty Investors, Inc. until its name was changed on January 30, 2015), a Georgia corporation, was formed
on July 22, 1994 to serve as a vehicle for investments in, and ownership of, a professionally managed real estate portfolio of
multifamily apartment communities. The company’s strategy has since changed upon the consummation of the transaction with
A-III Investment Partners LLC, as described below.
The company conducts all of its operations
and owns all of its assets in and through ACRE Realty LP (formerly known as Roberts Properties Residential, L.P. until its name
was changed on January 30, 2015), a Georgia limited partnership (the “operating partnership”), or through wholly owned
subsidiaries of the operating partnership. The company controls the operating partnership as its sole general partner and had a
96.26% and a 95.66% ownership interest in the operating partnership at September 30, 2016 and December 31, 2015, respectively.
On November 19, 2014, the company and
its operating partnership entered into a Stock Purchase Agreement with A-III Investment Partners LLC (“A-III”) (the
“Stock Purchase Agreement”). On January 30, 2015, the company and A-III closed the transactions contemplated under
the Stock Purchase Agreement. At the closing, A-III purchased 8,450,704 shares of the company’s common stock at a purchase
price of $1.42 per share, for an aggregate purchase price of $12 million, and the company issued to A-III warrants to purchase
up to an additional 26,760,563 shares of common stock at an exercise price of $1.42 per share ($38 million in the aggregate). The
purchase price per share and the exercise price of the warrants are subject to a potential post-closing adjustment upon completion
of the sale of the company’s four land parcels owned at January 30, 2015, which could result in the issuance of additional
shares of common stock to A-III and an increase in the number of shares of common stock issuable upon exercise of the warrants.
After the closing, Roberts Realty Investors, Inc. amended its articles of incorporation to change its name
to ACRE Realty Investors Inc. At the closing, the company and Mr. Roberts, Roberts Realty Investors, Inc.’s chairman and
chief executive officer, entered into an employment agreement pursuant to which Mr. Roberts serves as an Executive Vice President
for a term of one year from the date of the agreement or January 30, 2016, or until the sale of all four land parcels owned at
January 30, 2015 is completed, if earlier. On February 1, 2016, the company, A-III and Mr. Roberts, entered into an agreement
(the “First Extension Agreement”), effective as of January 28, 2016, extending the terms of the Employment Agreement
by and between the company and Mr. Roberts (the “Employment Agreement”) and the Governance and Voting Agreement by
and among the company, A-III and Mr. Roberts (the “Governance and Voting Agreement”), each dated as of January 30,
2015. On June 15, 2016, the company, A-III and Mr. Roberts, entered into an amendment to the First Extension Agreement (the “Second
Extension Agreement”), effective as of June 15, 2016, further extending the terms of the Employment Agreement and the Governance
and Voting Agreement. As a result of these amendments, the parties have agreed to extend the expiration of the term of each of
the Employment Agreement and the Governance and Voting Agreement from June 30, 2016, the first extension date, to December 31,
2016. As a result, all of the respective rights and obligations of the parties under, and all other terms, conditions and provisions
of, the Employment Agreement and the Governance and Voting Agreement shall continue in full force and effect until December 31,
2016, unless the Employment Agreement or the Governance and Voting Agreement is amended in writing by the parties or is sooner
terminated in accordance with the provisions thereof. See Note 11, Subsequent Events, relating to the extension of the Governance
and Voting Agreement and expiration of the Employment Agreement.
2.
|
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
|
Basis of Quarterly Presentation
. The
accompanying consolidated financial statements and related notes of the company have been prepared in accordance with generally
accepted accounting principles in the United States (“GAAP”) for interim financial reporting and the instructions to
Form 10-Q and Rule 8-03 of Regulation S-X. The consolidated financial statements, including the notes are unaudited and exclude
some disclosures required in audited financial statements. In the opinion of management, all adjustments considered necessary for
a fair presentation of the company’s financial position, results of operations and cash flows have been included and are
of a normal and recurring nature. The operating results presented for interim periods are not necessarily indicative of the results
that may be expected for any other interim period or for the entire year. These financial statements should be read in conjunction
with the company’s December 31, 2015 consolidated financial statements and notes thereto included in the company’s
Annual Report on Form 10-K, which was filed with the Securities and Exchange Commission. Capitalized terms used herein and not
otherwise defined, are defined in the company’s December 31, 2015 consolidated financial statements.
Principles of Consolidation.
The accompanying
consolidated financial statements include the consolidated accounts of the company and the operating partnership, which is controlled
by the company. The operating partnership is a variable interest entity (“VIE”), in which the company is considered
to be the primary beneficiary. All inter-company accounts and transactions have been eliminated in consolidation. The financial
statements of the company have been adjusted for the non-controlling interest of the unitholders in the operating partnership.
The company consolidates the operating partnership,
a VIE, in which it is considered to be the primary beneficiary. The primary beneficiary is the entity that has (i) the power to
direct the activities that most significantly impact the entity’s economic performance and (ii) the obligation to absorb
losses of the VIE or the right to receive benefits from the VIE that could be significant to the VIE. The company is required to
reassess whether it is the primary beneficiary of a VIE for each reporting period. Our maximum exposure to loss is the carrying
value of assets and liabilities of our operating partnership which represents all of our assets and liabilities.
Use of Estimates.
The preparation
of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements,
and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Real Estate Asset Held For Sale.
Real
estate asset held for sale is recorded at the lower of the carrying amount or fair value less estimated selling costs. The company
reviews the real estate asset held for sale each reporting period to determine that the carrying amount remains recoverable. If
the carrying amount of the real estate asset exceeds the fair value, the asset will be written down by the amount the carrying
amount exceeds the fair value amount. The fair value is determined by an evaluation of an appraisal, discounted cash flow analysis,
sale price and other applicable valuation techniques. As of September 30, 2016, the carrying amount of our real estate asset remained
recoverable.
The company recognizes gains on the
sales of assets in accordance with FASB ASC Topic 360-20,
Property, Plant, and Equipment – Real Estate Sales
. If any
significant continuing obligation exists at the date of sale, the company defers a portion of the gain attributable to the continuing
obligation until the continuing obligation has expired or is removed. There were no such continuing obligations on the sales of
any of the company’s assets as of September 30, 2016 and December 31, 2015.
Cash and Cash Equivalents.
The
company considers all highly liquid investments with a maturity of three months or less at the time of purchase to be cash equivalents.
The company maintains cash and cash equivalent balances with financial institutions that may at times exceed the limits for insurance
provided by the Federal Depository Insurance Corporation. The company has not experienced any losses related to these excess balances
and management believes its credit risk is minimal.
Deferred Financing Costs.
Deferred financing
costs include fees and expenses incurred to obtain financing and are amortized to interest expense in the consolidated statements
of operations, using the straight-line method over the terms of the related indebtedness. Although GAAP requires that the effective-yield
method be used to amortize financing costs, the effect of using the straight-line method is not materially different from the results
that would have been obtained using the effective-yield method. Effective January 1, 2016, the company adopted the newly issued
accounting guidance for presentation of debt financing costs. Under the new standard, debt financing costs are required to be presented
in the consolidated balance sheets as a direct deduction from the carrying value of the associated debt liability. There was
no debt or deferred financing costs as of September 30, 2016.
Warrants.
The company accounts for the
warrants issued in connection with the A-III Stock Purchase Agreement in accordance with ASC 815, Accounting for Derivative Instruments
and Hedging Activities, which provides guidance on the specific accounting treatment of a multitude of derivative instruments.
The company received proceeds in a private placement stock offering and issued detachable warrants. The company evaluated the warrants
to determine their relative fair value, using the backsolve method of the market approach, incorporating the Black-Scholes option
valuation model at their time of issuance and allocated a portion of the proceeds from the private placement to the warrants based
on their fair value. The warrants were recorded as a component of equity. In connection with the A-III recapitalization transaction
that occurred on January 30, 2015, the company allocated values of $8,990,000 and $3,010,000 to the warrants and common shares,
respectively, in the company’s Form 10-Q for the quarterly period ended June 30, 2015. As disclosed in the company’s
Form 10-K for December 31, 2015, subsequent to the issuance of the company’s aforementioned interim financial statements,
the company determined that it needed to revise this allocation based on the application of a valuation methodology which should
have considered the market transaction and results in a corrected allocation of $4,910,000 and $7,090,000 amongst warrants and
common shares, respectively. This reallocation had no effect on net income, equity, net change in cash, or total assets of the
company reported for that period.
Earnings Per Share.
Earnings per share
is computed using the two-class method of accounting, which includes the weighted-average number of shares of common stock outstanding
during the period and other securities that participate in dividends, such as our vested restricted stock, to arrive at total common
equivalent shares. In applying the two-class method, earnings are allocated to both shares of common stock and securities that
participate in dividends based on their respective weighted-average shares outstanding for the period. During periods of net loss,
losses are allocated only to the extent that the participating securities are required to absorb such losses. Diluted earnings
per share is calculated to reflect the potential dilution of all instruments or securities that are convertible into shares of
common stock. For the company, this includes the warrants and unvested restricted stock during the periods presented. The company
uses the two-class method or the treasury method, whichever is more dilutive.
Share-Based-Compensation.
The company
records share-based awards to directors, which have no vesting conditions other than time of service, at the fair value of the
award, measured at the date of grant. The fair value of share-based grants is being amortized to compensation expense ratably over
the requisite service period, which is the vesting period. The company records share-based awards to non-employee officers, based
on the estimated fair value of such award at the grant date that is remeasured quarterly for unvested awards. We amortize expense
over the requisite service period related to share-based awards granted to non-employee officers
.
Income Taxes.
The company follows
the asset and liability method of accounting for deferred income taxes. Deferred tax assets and liabilities are recognized for
the future tax consequences attributable to differences between financial statement carrying amounts of existing assets and liabilities
and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured
using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the
period that includes the enactment date. The company recognizes the effect of income tax positions only if those positions are
more likely than not of being sustained. Recognized income tax positions are measured at the largest amount that is greater than
50% likely of being realized. Changes in recognition or measurement are reflected in the period in which the change in judgment
occurs.
In general, a valuation allowance is
recorded if, based on the weight of available evidence, it is more likely than not that some portion or all of the deferred tax
asset will not be realized. Realization of the company’s deferred tax assets depends upon the company generating sufficient
taxable income in future years in the appropriate tax jurisdictions to obtain a benefit from the reversal of deductible temporary
differences and from loss carryforwards. The company records a valuation allowance, based on the expected timing of reversal of
existing taxable temporary differences and its history of losses and future expectations of reporting taxable losses, if management
does not believe it met the requirements to realize the benefits of certain of its deferred tax assets.
Fair Value of Financial Instruments.
The
company is required to disclose the fair value information about its financial instruments, whether or not recognized in the consolidated
balance sheets, for which it is practicable to estimate fair value. See Note 7 - Fair Value Measurements.
Revisions.
For the nine months ended
September 30, 2015, the company has revised the presentation of the change in restricted cash from operating to investing activities
and the presentation of proceeds from the A-III transaction among common stock and warrants within financing activities in the
statement of cash flows.
Recent Accounting Pronouncements
In May 2014, the FASB issued an update (“ASU 2014-09”) establishing ASC Topic 606,
Revenue from
Contracts with Customers
. ASU 2014-09 establishes a single comprehensive model for entities to use in accounting for revenue
arising from contracts with customers and supersedes most of the existing revenue recognition guidance. ASU 2014-09 requires an
entity to recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration
to which the entity expects to be entitled in exchange for those goods or services and also requires certain additional disclosures.
In August 2015, the FASB issued an update (“ASU 2015-14”) to ASC 606,
Deferral of the Effective Date
, which
defers the adoption of ASU 2014-09 to interim and annual reporting periods in fiscal years that begin after December 15, 2017.
In March 2016, the FASB issued an update (“ASU 2016-08”) to ASC 606,
Principal versus Agent Considerations (Reporting
Revenue Gross versus Net)
, which clarifies the implementation guidance on principal versus agent considerations in the new
revenue recognition standard pursuant to ASU 2014-09. In April 2016, the FASB issued an update (“ASU 2016-10”)
to ASC 606,
Identifying Performance Obligations and Licensing
, which clarifies guidance related to identifying performance
obligations and licensing implementation guidance contained in ASU 2014-09. In May 2016, the FASB issued an update (“ASU
2016-12”) to ASC 606,
Narrow-Scope Improvements and Practical Expedients
, which amends certain aspects of the new
revenue recognition standard pursuant to ASU 2014-09. The company is currently evaluating the impact of the adoption of these
ASUs on the company’s consolidated financial statements.
In June 2014, the FASB issued an update (“ASU
2014-12”) to ASC Topic 718,
Compensation – Stock Compensation
. ASU 2014-12 requires an entity to treat performance
targets that can be met after the requisite service period of a share based award has ended, as a performance condition that affects
vesting. ASU 2014-12 is effective for interim and annual reporting periods in fiscal years that begin after December 15, 2015.
The adoption of this update on January 1, 2016 did not have any impact on the company’s consolidated financial statements.
In February 2015, the FASB issued an update
(“ASU 2015-02”)
Amendments to the Consolidation Analysis
to ASC Topic 810,
Consolidation
. ASU 2015-02
affects reporting entities that are required to evaluate whether they should consolidate certain legal entities. Specifically,
the amendments: (i) modify the evaluation of whether limited partnerships and similar legal entities are variable interest entities
(“VIEs”) or voting interest entities, (ii) eliminate the presumption that a general partner should consolidate a limited
partnership, (iii) affect the consolidated analysis of reporting entities that are involved with VIEs, and (iv) provide a scope
exception for certain entities. ASU 2015-02 is effective for interim and annual reporting periods beginning after December 15,
2015. The adoption of this update on January 1, 2016 did not have a material impact on the company’s consolidated financial
statements. See Principles of Consolidation above.
In April 2015, the FASB issued an update (“ASU
2015-03”)
Simplifying the Presentation of Debt Issuance Costs
to ASC Topic 835,
Interest
. ASU 2015-03 requires
that debt issuance costs be presented in the balance sheet as a direct deduction from the carrying amount of the debt liability
to which they relate, consistent with debt discounts, as opposed to being presented as assets. ASU 2015-03 is effective for interim
and annual reporting periods in fiscal years that begin after December 15, 2015. The adoption of this update on January 1, 2016
had no impact on the company’s consolidated financial statements.
In February 2016, the FASB issued an update
(“ASU 2016-02”), Leases (Topic 842) (“ASU 2016-02”), which sets out the principles for the recognition,
measurement, presentation and disclosure of leases for both parties to a contract. ASU 2016-02 requires lessees to apply a dual
approach, classifying leases as either finance or operating leases based on the principle of whether or not the lease is effectively
a financed purchase by the lessee. This classification will determine whether lease expense is recognized based on an effective
interest method or on a straight-line basis over the term of the lease. A lessee is also required to record a right-of-use asset
and a lease liability for all leases with a term of greater than 12 months regardless of their classification. Leases with a term
of 12 months or less will be accounted for similar to existing guidance for operating leases today. 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. ASU 2016-02 supersedes the previous leases standard, Leases (Topic 840). The standard is effective
on January 1, 2019, with early adoption permitted. The company is currently in the process of evaluating the impact the adoption
of ASU 2016-02 will have on the company’s consolidated financial statements.
In March 2016, the FASB issued guidance (“ASU 2016-09”)
Compensation—Stock Compensation
(Topic 718): Improvements to Employee Share-Based Payment Accounting.
ASU 2016-09 changes the accounting for certain aspects
of share-based payments to employees. The guidance requires the recognition of the income tax effects of awards in the income statement
when the awards vest or are settled, thus eliminating additional paid in capital pools. The guidance also allows for the employer
to repurchase more of an employee’s shares for tax withholding purposes without triggering liability accounting. In addition,
the guidance allows for a policy election to account for forfeitures as they occur rather than on an estimated basis. For
a public company, the standard is effective for annual reporting periods beginning after December 15, 2016, including interim periods
within that reporting period. Early adoption is permitted in any interim or annual period. The company is currently
assessing the impact that this guidance will have on the company’s consolidated financial statements when adopted.
In August 2016, the FASB issued an update (ASU 2016-15),
Statement of Cash Flows (Topic 230): Classification
of Certain Cash Receipts and Cash Payments.
ASU 2016-15 amends ASC 230,
Statement of Cash Flows
, to provide guidance
on the classification of certain cash receipts and payments in the statement of cash flows. For a public company, the standard
is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Early adoption
is permitted. The company is currently assessing the impact that this guidance will have on the company’s consolidated financial
statements when adopted.
3.
|
REAL ESTATE ASSET HELD FOR SALE
|
Real Estate Asset Held for Sale
As of September 30, 2016 and December 31, 2015, the company owned the land parcel known as Highway 20,
a 38-acre site located in the City of Cumming, Georgia in Forsyth County, in the North Atlanta metropolitan area, zoned for 210
multifamily apartment units, which is classified as held for sale. During the fourth quarter of 2015, the company determined that
the carrying amount of Highway 20 was not fully recoverable. Accordingly, the company recorded an impairment charge of $500,038. No
such adjustment was required during the nine months ended September 30, 2016. Subsequent to September 30, 2016, the company entered
into a sale contract for Highway 20 with a related party. See Note 11, Subsequent Events, for related disclosure.
FASB ASC Topic 360-10,
Property, Plant and
Equipment – Overall
requires a long-lived asset to be classified as “held for sale” in the period in which
certain criteria are met. The company classifies real estate assets as held for sale after the following conditions have been satisfied:
i) receipt of approval from its board of directors (the “Board”) to sell the asset; ii) the initiation of an active
program to sell the asset; iii) the asset is available for immediate sale; iv) it is probable that the sale of the asset will be
completed within one year; and v) it is unlikely the plan to sell will change. When assets are classified as held for sale, they
are recorded at the lower of the assets’ carrying amount or fair value, less the estimated selling costs.
The table below sets forth the asset and liabilities
related to real estate asset held for sale at September 30, 2016 and December 31, 2015:
|
|
September 30,
2016
|
|
December 31,
2015
|
|
|
|
|
|
Real Estate Asset Held for Sale
|
|
$
|
4,283,385
|
|
|
$
|
4,283,385
|
|
|
|
|
|
|
|
|
|
|
Liabilities Related to Real Estate Asset Held For Sale
|
|
$
|
16,530
|
|
|
$
|
2,612
|
|
4.
|
NON-CONTROLLING INTEREST – OPERATING PARTNERSHIP
|
Holders of operating partnership units (“OP
Units”) generally have the right to require the operating partnership to redeem their units for shares of the company’s
common stock. Upon submittal of units for redemption, the operating partnership has the option either (a) to acquire those units
in exchange for shares, currently on the basis of 1.647 shares for each unit submitted for redemption (the “Conversion Factor”),
or (b) to pay cash for those units at their fair market value, based upon the then current trading price of the shares and using
the same exchange ratio. Prior to December 29, 2015, we had an informal policy of issuing shares, in lieu of cash in exchange for
units. On December 28, 2015, our Board formally adopted a policy whereby we shall only issue our common stock for redemption of
units, rather than paying cash for such redemption in accordance with the operating partnership agreement. As a result of this
change in policy, the company now requires the issuance of shares of common stock of the company in payment for the redemption
of OP Units and therefore has effective control over the redemption and therefore the non-controlling interest is now being classified
in permanent equity as of December 28, 2015 as opposed to temporary equity, and similarly at December 31, 2015 and September 30,
2016.
In July 2013, the operating partnership privately
offered to investors who held both units of the operating partnership and shares of common stock the opportunity to contribute
shares to the operating partnership in exchange for units (provided that the investors were “accredited investors”
under SEC Rule 501 of Regulation D under the Securities Act of 1933, as amended). This opportunity remains open to those accredited
investors. Consistent with the Conversion Factor noted above, the offering of units uses a “Contribution Factor” such
that an accredited investor who contributes shares to the operating partnership will receive one unit for every 1.647 shares contributed.
The non-controlling interest of the unitholders
in the operating partnership on the accompanying consolidated balance sheets is calculated by multiplying the non-controlling interest
ownership percentage at the balance sheet date by the operating partnership’s net assets (total assets less total liabilities).
The non-controlling interest ownership percentage is calculated at any point in time by dividing (x) (the number of units outstanding
multiplied by 1.647) by (y) the total number of shares plus (the number of units outstanding multiplied by 1.647). The non-controlling
interest ownership percentage will change as additional shares and/or units are issued or as units are redeemed for shares of the
company’s common stock or as the company’s common stock is contributed to the operating partnership and units are issued
in accordance with the Contribution Factor. The non-controlling interest of the unitholders in the income or loss of the operating
partnership in the accompanying consolidated statements of operations is calculated based on the weighted average percentage of
units outstanding during the period, which was 3.95% for the nine months ended September 30, 2016 and 6.64% for the year ended
December 31, 2015. There were 482,213 units outstanding as of September 30, 2016 and 553,625 units outstanding as of December 31,
2015. The equity balance of the non-controlling interest of the unitholders was $788,217 at September 30, 2016 and $1,026,751 at
December 31, 2015.
The following table details the components of non-controlling interest
in the operating partnership as of December 31, 2015, which was classified as a liability through December 28, 2015:
|
|
December 31,
2015
|
|
|
|
Beginning balance
|
|
$
|
3,468,972
|
|
Net loss attributable to non-controlling interest
|
|
|
(206,065
|
)
|
Redemptions of non-controlling partnership units
|
|
|
(3,285,713
|
)
|
Contribution of common shares for non-controlling partnership units
|
|
|
—
|
|
Adjustments to non-controlling interest in the operating partnership
|
|
|
1,054,968
|
|
Non-controlling interest liability balance at December 28, 2015
|
|
|
1,032,162
|
|
Transfer non-controlling interest from liability to equity
|
|
|
(1,032,162
|
)
|
Non-controlling interest liability - ending balance
|
|
$
|
—
|
|
Private Placement.
On January 30, 2015,
A-III purchased 8,450,704 shares of the company’s common stock at a purchase price of $1.42 per share, for an aggregate purchase
price of $12,000,000, and the company, for no additional consideration, issued to A-III warrants to purchase up to an additional
26,760,563 shares of the company’s common stock at an exercise price of $1.42 per share ($38,000,000 in the aggregate). The
purchase price per share and the exercise price of the warrants are subject to a potential post-closing adjustment upon completion
of the sale of the company’s four existing land parcels, which could result in the issuance of additional shares of common
stock to A-III and an increase in the number of shares of common stock issuable upon exercise of the warrants.
Warrants.
Each of the aforementioned
warrants entitles the holder to acquire one share of the company’s common stock. At the time of issuance, each warrant had
an exercise price of $1.42 per share, subject to post-closing adjustments related to the sales of the legacy properties. The company
evaluated the warrants to determine their relative fair value, using a variation of the adjusted Black-Scholes option valuation
model at their time of issuance and allocated $4,910,000 of the proceeds from the private placement to the warrants based on their
fair value. The warrants were recorded as a component of equity. The warrants expire on January 30, 2018. As of September 30, 2016,
the warrants remained unexercised.
Redemption of Units for Shares.
In accordance
with the conversion factor explained in Note 4
–
Non-controlling Interest – Operating Partnership, 71,412 OP
Units were redeemed for 117,619 shares of the company’s common stock for the nine months ended September 30, 2016, and 597,799
OP Units were redeemed for 984,572 shares of the company’s common stock for the twelve months ended December 31, 2015. Redemptions
are reflected in the accompanying consolidated financial statements at the closing price of the company’s stock on the date
of redemption.
Contribution of Shares to the Operating
Partnership.
In accordance with the contribution factor explained in Note 4 – Non-controlling Interest –
Operating Partnership, for the nine months ended September 30, 2016 and the year ended December 31, 2015, there were no contribution
of shares to the operating partnership. Contributions, if any, are reflected in the accompanying consolidated financial statements
based on the closing price of the company’s stock on the date of contribution.
Restricted Stock.
Shareholders
of the company approved and adopted the company’s 2006 Restricted Stock Plan (the “Plan”) in August 2006. The
Plan provides for the grant of stock awards to employees, directors, consultants, and advisors. Under the Plan, as amended, the
company may grant up to 654,000 shares of restricted common stock, subject to the anti-dilution provisions of the Plan. The maximum
number of shares of restricted stock that may be granted to any one individual during the term of the Plan may not exceed 20%
of the aggregate number of shares of restricted stock that may be issued. The Plan is administered by the Compensation Committee
of the company’s Board. On October 12, 2015, based on the recommendation of the Compensation Committee of the Board of Directors,
the Board approved a restricted stock grant of 260,000 shares of common stock to the independent directors and certain officers
of the company, which was issued on March 28, 2016. The restricted stock was awarded pursuant to the Plan. Vesting of the awards
for the independent directors and officers is subject to continued service through the vesting period. The company’s independent
directors were each awarded 20,000 shares of restricted common stock, which vested on January 30, 2016. Certain of the company’s
officers were awarded an aggregate of 180,000 shares of restricted common stock, which vest in equal one-third installments. There
were 60,000 shares, which vested on each of January 30, 2016 and October 12, 2016. The remaining 60,000 shares will vest on October
12, 2017. Compensation expense related to restricted stock was $14,833 and $125,656 for the three and nine months ended September
30, 2016. No compensation expense was recorded for the three and nine months ended September 30, 2015, respectively. On September
30, 2016, the company had unamortized compensation expense of $39,436 which is expected to be recognized over a weighted average
period of 0.97 years.
Treasury Stock.
The company has a stock
repurchase plan under which it is authorized to repurchase up to 600,000 shares of its outstanding common stock. Under the stock
repurchase plan, as of September 30, 2016, the company had authority to repurchase up to 540,362 shares of its outstanding common
stock. The stock repurchase plan does not have an expiration date. The company did not repurchase any shares during the nine months
ended September 30, 2016 or 2015.
Earnings Per Share.
The following
table shows the reconciliations of income (loss) available for common shareholders and the weighted average number of shares used
in the company’s basic and diluted earnings per share computations.
|
|
Three Months Ended
|
|
Nine Months Ended
|
|
|
September 30,
|
|
September 30,
|
Numerator
|
|
2016
|
|
2015
|
|
2016
|
|
2015
|
|
|
|
|
|
|
|
|
|
Net loss income attributable to common shareholders – basic
|
|
$
|
(562,792
|
)
|
|
$
|
(716,109
|
)
|
|
$
|
(2,567,516
|
)
|
|
$
|
(1,653,962
|
)
|
Loss income attributable to non-controlling interest
|
|
|
(21,842
|
)
|
|
|
(33,194
|
)
|
|
|
(105,111
|
)
|
|
|
(213,838
|
)
|
Net loss – diluted
|
|
$
|
(584,634
|
)
|
|
$
|
(749,303
|
)
|
|
$
|
(2,672,627
|
)
|
|
$
|
(1,867,800
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average common shares – basic
|
|
|
20,344,187
|
|
|
|
20,068,192
|
|
|
|
20,290,146
|
|
|
|
18,608,369
|
|
Effect of potential dilutive securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average operating partnership units, assuming conversion of all units to common shares
|
|
|
794,237
|
|
|
|
930,232
|
|
|
|
833,461
|
|
|
|
1,492,361
|
|
Warrants
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Weighted average common shares – diluted
(a)
|
|
|
21,138,424
|
|
|
|
20,998,424
|
|
|
|
21,123,607
|
|
|
|
20,100,730
|
|
(a)
|
Due to the net loss for the three and nine months ended September 30, 2016, the incremental shares related
to the unvested restricted stock and the warrants were excluded as they were anti-dilutive. Furthermore, the average share price
of the company’s common stock was below the exercise price of the warrants for the three and nine months ended September
30, 2016. For the three months ended September 30, 2015, the average share price of the company’s common stock was below
the exercise price of the warrants. Therefore, the warrants were excluded from the earnings per share calculation. For
the nine months ended September 30, 2015, while the average share price was in excess of the exercise price of the warrants, due
to the loss for the period the incremental shares related to the warrants were excluded because the effect would be antidilutive.
There was no unvested restricted stock for the three and nine months ended September 30, 2015 since the restricted stock was granted
in October 2015.
|
The company prepared the provision following
the guidance of FASB ASC 740 Income Taxes, using the estimated annual effective tax rate applied to the operating results of the
company as of September 30, 2016. This rate does not include items related to significant unusual or extraordinary items that would
be required to be separately reported or reported net of their related tax effect in the consolidated financial statements. At
the end of each interim period the company makes its best estimate of the effective tax rate expected to be applicable for the
full year. There were no discrete items during this quarter; therefore, the effective rate was the same rate that was used for
the year ended December 31, 2015. The consolidated effective tax rate was zero for the three and nine months ended September 30,
2016 and 2015. In addition, the company had a taxable loss in each of the quarterly periods ended September 30, 2016 and 2015 and
accordingly did not have an income tax liability in either of those periods.
7.
|
FAIR VALUE MEASUREMENTS
|
As discussed in Note 2, GAAP requires disclosure
of fair value information about financial instruments, whether or not recognized in the statement of financial position, for which
it is practicable to estimate that value. The company measures and/or discloses the estimated fair value of financial assets and
liabilities based on a hierarchy that distinguishes between market participant assumptions based on market data obtained from sources
independent of the reporting entity and the reporting entity’s own assumptions about market participant assumptions. This
hierarchy consists of three broad levels:
|
·
|
Level 1 - quoted prices (unadjusted) in active markets for identical assets or liabilities that the reporting entity can access at the measurement date;
|
|
·
|
Level 2 - inputs other than quoted prices included within Level 1, that are observable for the asset or liability, either directly or indirectly; and
|
|
·
|
Level 3 - unobservable inputs for the asset or liability that are used when little or no market data is available.
|
The fair value hierarchy gives the highest
priority to Level 1 inputs and the lowest priority to Level 3 inputs. In determining fair value, the company uses valuation techniques
that maximize the use of observable inputs and minimize the use of unobservable inputs to the extent possible. Considerable judgment
is necessary to interpret Level 2 and 3 inputs in determining fair value of financial and non-financial assets and liabilities.
Accordingly, the fair values may not reflect the amounts ultimately realized on a sale or other disposition of these assets. Below
summarizes the methods and assumptions used to estimate the fair value of each class of financial instruments, for which it is
practicable to estimate that value.
|
·
|
Cash and cash equivalents: The carrying amount of the cash approximates fair value.
|
|
|
|
|
·
|
Real estate asset held for sale: Highway 20 is carried at the lower
of the carrying amount or fair value, less the estimated selling costs.
|
|
|
|
|
·
|
Accounts payable and accrued expenses: The carrying amount approximates fair value due to the short term nature of these liabilities.
|
The company held no financial assets or liabilities
required to be measured at fair value on a recurring or nonrecurring basis as of September 30, 2016 and December 31, 2015, except
for the Highway 20 land parcel described in Note 3, which is carried at net realizable value at September 30, 2016 and December
31, 2015.
FASB ASC Topic 280-10,
Segment Reporting
– Overall, established standards for reporting financial and descriptive information about operating segments in annual financial
statements. Operating segments are defined as components of an enterprise about which separate financial information is available
that is evaluated regularly by the chief operating decision maker in deciding how to allocate resources and in assessing performance.
The company operated in a single business segment, which is the ownership and management of real estate assets.
9.
|
RELATED PARTY TRANSACTIONS
|
Management Agreement.
In connection
with the recapitalization transactions with A-III, on January 30, 2015, the company entered into a management agreement (the “Management
Agreement”) with A-III Manager LLC (the “Manager”), which is a wholly-owned subsidiary of A-III, among other
things, to provide for the day-to-day management of the company by the Manager, including investment activities and operations
of the company and its properties. The Management Agreement requires the Manager to manage and administer the business activities
and day-to-day operations of the company and all of its subsidiaries in conformity with the company’s investment guidelines
and other policies that are approved and monitored by the Board.
The Manager maintains an administrative services
agreement with A-III, pursuant to which A-III and its affiliates, including Avenue Capital Group and C-III Capital Partners, will
provide a management team along with appropriate support personnel for the Manager to deliver the management services to the company.
Under the terms of the Management Agreement, among other things, the Manager will refrain from any action that, in its reasonable
judgment made in good faith, is not in compliance with the investment guidelines and would, when applicable, adversely affect the
qualification of the company as a REIT. The Management Agreement has an initial five-year term and will be automatically renewed
for additional one-year terms thereafter unless terminated either by us or the Manager in accordance with its terms.
For the services to be provided by the
Manager, the company is required to pay the Manager the following fees:
|
·
|
an annual base management fee equal to 1.50% of the company’s “Equity” (as defined below), calculated and payable quarterly in arrears in cash;
|
|
·
|
a property management fee equal to 4.0% of the gross rental receipts received each month at the company’s and its subsidiaries’ properties, calculated and payable monthly in arrears in cash;
|
|
·
|
an acquisition fee equal to 1.0% of the gross purchase price paid for any property or other investment acquired by the company or any of its subsidiaries, subject to certain conditions and limitations and payable in arrears in cash with respect to all such acquisitions occurring after the date of the Management Agreement;
|
|
·
|
a disposition fee equal to the lesser of (a) 50% of a market brokerage commission for such disposition and (b) 1.0% of the sale price with respect to any sale or other disposition by the company or any of its subsidiaries of any property or other investment, subject to certain conditions and limitations and payable in arrears in cash with respect to all such dispositions occurring after the date of the agreement with certain exceptions (this disposition fee will not apply to the sale of the four legacy land parcels that the company currently owns); and
|
|
·
|
an incentive fee (as described below) based on the company’s “Adjusted Net Income” (as defined below) for the trailing four quarter period in excess of the “Hurdle Amount” (as defined below), calculated and payable in arrears in cash on a rolling quarterly basis.
|
For purposes of calculating the base management
fee, “Equity” means (a) the sum of (1) the net proceeds from all issuances of the company’s common stock and
OP Units (without double counting) and other equity securities on and after the closing, which will include the common stock issued
to A-III in the recapitalization transaction (allocated on a pro rata basis for such issuances during the fiscal quarter of any
such issuance) and any issuances of common stock or OP Units in exchange for property investments and other investments by the
company, plus (2) the product of (x) the sum of (i) the number of shares of common stock issued and outstanding immediately before
the closing and (ii) the number of shares of common stock for which the number of OP Units issued and outstanding immediately before
the date of the closing (excluding any OP Units held by the company) may be redeemed in accordance with the terms of the agreement
of limited partnership of the operating partnership and (y) the purchase price per share paid by A-III for the shares of common
stock the company issued to A-III in the recapitalization transaction, as the purchase price per share may be subsequently adjusted
as described above, plus (3) the retained earnings of the company and the operating partnership (without double counting) calculated
in accordance with GAAP 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), minus (b) any amount in cash that the company or the operating partnership
has paid to repurchase common stock, OP Units, or other equity securities of the company as of the closing date of the recapitalization
transaction. Equity excludes (1) any unrealized gains, losses or non-cash equity compensation expenses that have impacted shareholders’
equity as reported in the financial statements prepared in accordance with GAAP, regardless of whether such items are included
in other comprehensive income or loss, or in net income, (2) one-time events pursuant to changes in GAAP, and certain non-cash
items not otherwise described above in each case, after discussions between the Manager and the company’s independent directors
and approval by a majority of the independent directors and (3) the company’s accumulated deficit as of the closing
date of the recapitalization transaction.
For purposes of the Management Agreement, “Incentive
Fee” means an incentive fee, calculated and payable after each fiscal quarter, in an amount equal to the excess, if any,
of (i) the product of (A) 20% and (B) the excess of (1) the company’s Adjusted Net Income (described below) for such fiscal
quarter and the immediately preceding three fiscal quarters over (2) the Hurdle Amount (described below) for such four fiscal quarters,
less (ii) the sum of the Incentive Fees already paid or payable for each of the three fiscal quarters preceding that fiscal quarter.
Any adjustment to the Incentive Fee calculation proposed by the Manager will be subject to the approval of a majority of the independent
directors.
For purposes of calculating the Incentive Fee,
“Adjusted Net Income” for the preceding four fiscal quarters means the net income calculated in accordance with GAAP
after all base management fees but before any acquisition expenses, expensed costs related to equity issuances, incentive fees,
depreciation and amortization and any non-cash equity compensation expenses for such period. Adjusted Net Income will be adjusted
to exclude one-time events pursuant to changes in GAAP, as well as other non-cash charges after discussion between the Manager
and the independent directors and approval by a majority of the independent directors in the case of non-cash charges. Adjusted
Net Income includes net realized gains and losses, including realized gains and losses resulting from dispositions of properties
and other investments during the applicable measurement period.
For purposes of calculating the Incentive Fee,
the “Hurdle Amount” is, with respect to any four fiscal quarter period, the product of (i) 7% and (ii) the weighted
average gross proceeds per share of all issuances of common stock and OP Units (excluding issuances of common stock and OP Units,
or their equivalents, as equity incentive awards), with each such issuance weighted by both the number of shares of common stock
and OP Units issued in such issuance and the number of days that such issued shares of common stock and OP Units were outstanding
during such four fiscal quarter period.
The first Incentive Fee calculation will not
occur until after completion of the 2015 fiscal year. The Incentive Fee will be prorated for partial quarterly periods based on
the number of days in such partial period compared to a 90-day quarter.
The Manager is also entitled to receive a termination
fee from the company under certain circumstances equal to four times the sum of (x) the average annual base management fee, (y)
the average annual incentive fee, and (z) the average annual acquisition fees and disposition fees, in each case earned by the
Manager in the most recently completed eight calendar quarters immediately preceding the termination.
Additionally, the company will be responsible
for paying all of its own operating expenses and the Manager will be responsible for paying its own expenses, except that the company
will be required to pay or reimburse certain expenses incurred by the Manager and its affiliates in connection with the performance
of the Manager’s obligations under the Management Agreement, including:
|
·
|
reasonable out of pocket expenses incurred by personnel of the Manager for travel on the company’s behalf;
|
|
·
|
the portion of any costs and expenses incurred by the Manager or its affiliates with respect to market information systems and publications, research publications and materials that are allocable to the company in accordance with the expense allocation policies of the Manager or such affiliates;
|
|
·
|
all insurance costs incurred with respect to insurance policies obtained in connection with the operation of the company’s business, including errors and omissions insurance covering activities of the Manager and its affiliates and any of their employees relating to the performance of the Manager’s duties and obligations under the Management Agreement or of its affiliates under the administrative services agreement between the Manager and A-III, other than insurance premiums incurred by the Manager for employer liability insurance;
|
|
·
|
expenses relating to any office or office facilities, including disaster backup recovery sites and facilities, maintained expressly for the company and separate from offices of the Manager;
|
|
·
|
the costs of the wages, salaries, and benefits incurred by the Manager with respect to certain dedicated officers and employees that the Manager elects to provide to the company pursuant to the Management Agreement; provided that (A) if any such dedicated employee devotes less than 100% of his or her working time and efforts to matters related to the company and its business, the company will be required to bear only a pro rata portion of the costs of the wages, salaries and benefits the Manager incurs for such dedicated officers and employee based on the percentage of such employee’s working time and efforts spent on matters related to the company, (B) the amount of such wages, salaries and benefits paid or reimbursed with respect to the dedicated officers and employees shall be subject to the approval of the Compensation Committee of the Board and, if required by the Board, of the Board and (C) during the one-year period following the date of the Management Agreement, the aggregate amount of cash compensation paid to dedicated officers and employees of the Manager and its affiliates by the company, or reimbursed by the company to the Manager in respect thereof, were not to exceed $500,000; and
|
|
·
|
any equity-based compensation that the company, upon the approval of the Board or the Compensation Committee of the Board, elects to pay to any director, officer or employee of the company or the Manager or any of the Manager’s affiliates who provides services to the company or any of its subsidiaries.
|
For the three and nine months ended September 30, 2016 and 2015,
the company incurred a base management fee of $96,940, $296,953, $102,356 and $279,721, respectively, which was classified in management
fee, affiliates in the consolidated statements of operations. In addition to the base management fee, the company is required to
reimburse certain expenses, related wages, salaries and benefits incurred by the Manager. For the three and nine months ended September
30, 2016 and 2015, the company reimbursed expenses of $116,250, $410,935, $136,363 and $363,636, respectively, which was classified
in allocated salaries and other compensation, affiliates in the consolidated statements of operations. At September 30, 2016 and
December 31, 2015, the unpaid portion of the base management fee and allocated expenses in the amount of $213,190 and $245,753,
respectively, was recorded in due to affiliates in the consolidated balance sheets.
For the nine months ended September 30, 2015,
the company paid legal fees on behalf of the Manager in the amount of $18,442, for which it was reimbursed.
Additionally, for the nine months ended September 30, 2015, the Manager paid professional fees on behalf of
the company in the amount of $50,000, for which the company was reimbursed in July 2015.
Transactions with Roberts Properties, Inc.
and Roberts Properties Construction (the “Roberts Companies”) and its Affiliates
Reimbursement Arrangement for Consulting
Services.
The company entered into a reimbursement arrangement for services provided by the Roberts Companies, effective February 4, 2008,
as amended January 1, 2014. Under the terms of the arrangement, the company reimburses the Roberts Companies for the cost of providing
consulting services in an amount equal to an agreed-upon hourly billing rate for each employee multiplied by the number of hours
that the employee provided services to the company.
Additionally, at the request of the company,
Roberts Construction performed repairs and maintenance and other consulting services related to the company’s land parcels.
Roberts Construction received cost reimbursements of $0, $68, $383 and $86,206 for the three and nine months ended September 30,
2016 and 2015, respectively.
For a period of 180 days after the closing
of the recapitalization transaction with A-III, the company had the right to request the reasonable assistance of employees of
Roberts Properties, Inc. with respect to transition issues and questions relating to the company’s properties and operations.
This 180 day period terminated July 30, 2015. The employees of Roberts Properties, Inc. continued to provide limited services with
respect to transition issues from July 30, 2015 through September 30, 2016. Consistent with the expired arrangement for transition
services, the cost for these services was reimbursed in an amount equal to an agreed-upon hourly billing rate for each employee
multiplied by the number of hours that the employee provided such services to the company. Under Mr. Robert’s Employment
Agreement, Extension Agreement and Second Extension Agreement, Mr. Roberts has agreed to supervise the disposition of the remaining
legacy property. Affiliates of Mr. Roberts may provide services to us in connection with the sale of such property. The fees and
costs we pay for such services will be considered selling costs for purposes of the true-up arrangement under the Stock Purchase
Agreement.
Under these arrangements, the company incurred
costs with Roberts Properties of $19,916, $64,273, $16,961 and $113,484 for the three and nine months ended September 30, 2016
and 2015, respectively, which were recorded in general and administrative expenses in the consolidated statements of operations.
Roberts Properties also received cost reimbursements in the amount of $86 and $12,340 for the nine months ended September 30, 2016
and 2015, respectively, for the company’s operating costs and other related expenses paid by Roberts Properties. There were
no cost reimbursements during the three months ended September 30, 2016 and 2015. At September 30, 2016 the unpaid portion of these
costs in the amount of $169 is recorded in due to affiliates and $3,241 is recorded in liabilities related to real estate asset
held for sale in the consolidated balance sheets.
Sublease of Office Space.
On
February 19, 2014, the company entered into a sublease for 1,817 square feet of office space with Roberts Capital Partners, LLC.
The sublease had a commencement date of April 7, 2014. Roberts Capital Partners, LLC is owned by Mr. Charles S. Roberts. The rental
rates and lease term are the same rental rates and lease term that Roberts Capital Partners, LLC has with KBS SOR Northridge LLC,
the unrelated third party owner of the building. Roberts Capital Partners, LLC is liable to the building owner for the full three-year
term of its lease; however, the company negotiated a 90-day right to terminate its sublease as described below. The sublease has
a three-year term, with a one-year option, which provides for rental rates of $16.50 per square foot in Year 1, $17.25 per square
foot in Year 2, $18.00 per square foot in Year 3, and $18.75 per square foot for the Year 4 option. The company has the right to
terminate the sublease upon 90 days’ notice by paying (a) a minimum of 12 months of rent under the sublease, plus (b) an
early termination amount, which will be the lesser of (x) the next 12 months of rent due under the sublease or (y) the remaining
amounts due under the term of the sublease, as calculated on the early termination date. The company paid a security deposit of
$20,577 upon the execution of the lease and has incurred $8,300, $25,036, $7,836 and $23,167 in rent for the three and nine months
ended September 30, 2016 and 2015, respectively.
Extension Agreement
Extending Term of Governance and Voting Agreement and Employment Agreement
On February 1, 2016, the company, A-III and Mr. Roberts, entered into the First Extension Agreement, effective
as of January 28, 2016, extending the terms of the Employment Agreement by and between the company and Mr. Roberts and the Governance
and Voting Agreement by and among the company, A-III and Mr. Roberts. On June 15, 2016, the company, A-III and Mr. Roberts, entered
into the Second Extension Agreement, effective as of June 15, 2016, further extending the terms of the Employment Agreement and
the Governance and Voting Agreement. As a result of these amendments, the parties have agreed to extend the expiration of the term
of each of the Employment Agreement and the Governance and Voting Agreement from June 30, 2016, the first extension date, to December
31, 2016. As a result, all of the respective rights and obligations of the parties under, and all other terms, conditions and provisions
of, the Employment Agreement and the Governance and Voting Agreement shall continue in full force and effect until December 31,
2016, unless the Employment Agreement or the Governance and Voting Agreement is amended in writing by the parties or is sooner
terminated in accordance with the provisions thereof. See Note 11, Subsequent Events, relating to the extension of the Governance
and Voting Agreement and expiration of the Employment Agreement.
10.
|
COMMITMENTS AND CONTINGENCIES
|
The company and the operating partnership may
be subject to various legal proceedings and claims that arise in the ordinary course of business. While the resolution of these
matters cannot be predicted with certainty, management believes that the final outcome of these matters should not have a material
adverse effect on the company’s financial position, results of operations or cash flows.
Under various federal, state, and local environmental
laws and regulations, the company may be required to investigate and clean up the effects of hazardous or toxic substances at its
properties, including properties that have previously been sold. The preliminary environmental assessment of the company’s
properties have not revealed any environmental liability that the company believes would have a material adverse effect on its
business, assets, or results of operations, nor is the company aware of any such environmental liability.
See Note 9 “Related Party Transactions”
for details of the company’s management agreement and sublease for office space with related parties.
On October 7, 2016, the operating partnership entered into a sale contract with Roberts Capital Partners,
LLC, a related party, to sell Highway 20 for a purchase price of $4,725,000, including a reimbursement of $1,050,000 relating to
prepaid sewer taps. This transaction is expected to close during the first half of 2017, subject to an extension option and certain
closing conditions.
On October 10, 2016, the company, A-III and
Mr. Roberts, entered into an agreement (the “Extension of Governance and Voting Agreement”), effective as of October
10, 2016, further extending the term of the Governance and Voting Agreement, but not the Employment Agreement. As a result of the
Extension of Governance and Voting Agreement, the parties have agreed to extend the expiration of the term of the Governance and
Voting Agreement from December 31, 2016 to June 30, 2017. As a result, all of the respective rights and obligations of the parties
under, and all other terms, conditions and provisions of, the Governance and Voting Agreement shall continue in full force and
effect until June 30, 2017, unless the Governance and Voting Agreement is amended in writing by the parties or is sooner terminated
in accordance with the provisions thereof. Pursuant to the Extension of Governance and Voting Agreement, the parties agreed to
nominate Mr. Roberts for re-election to the Board to be duly elected by the company’s shareholders at the annual meeting
to be held on December 14, 2016.