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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2003
or
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from __________ to __________
Commission File Number 1-10520
HEARTLAND PARTNERS, L.P.
(Exact Name of Registrant as Specified in Its Charter)
Delaware 36-3606475
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(State or Other Jurisdiction of (IRS Employer Indemnification No.)
Incorporation or Organization)
330 North Jefferson Court
Chicago, Illinois 60661
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(Address of Principal Executive Offices)
312-575-0400
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(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class Name of Each Exchange on Which Registered
- ---------------------------------- -----------------------------------------
Class A Limited Partnership Units American Stock Exchange
Securities registered pursuant to Section 12(g) of the Act:
None
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. Yes [ ] No [ ]
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Exchange Act Rule 12b-2).
Yes [ ] No [X]
1
The aggregate market value of the registrant's Class A Limited Partnership Units
held by non-affiliates of the registrant, computed by reference to the last
reported sales price of the registrant's units on the American Stock Exchange as
of June 30, 2003, was approximately $14,606,000. As of March 29, 2004 there were
2,092,438 units outstanding. For the purposes of this computation, the
registrant has assumed that non-affiliates of the registrant include all holders
of the Class A Limited Partnership Units other than directors and officers of
Heartland Technology, Inc. and managers of HTI Interests, LLC.
2
HEARTLAND PARTNERS, L.P.
FORM 10-K
TABLE OF CONTENTS
PART I
Page
Item 1. Business....................................................... 4
Item 2. Properties..................................................... 9
Item 3. Legal Proceedings.............................................. 10
Item 4. Submission of Matters to a Vote of Security Holders............ 11
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder
Matters and Issuer Purchases of Equity Securities.............. 11
Item 6. Selected Financial Data........................................ 12
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations...................................... 13
Item 7A. Quantitative and Qualitative Disclosures About Market Risk..... 23
Item 8. Financial Statements and Supplementary Data.................... 23
Item 9. Changes in and Disagreements With Accountants on Accounting
and Financial Disclosure....................................... 23
Item 9A. Controls and Procedures........................................ 24
PART III
Item 10. Directors and Executive Officers of the Company................ 25
Item 11. Executive Compensation......................................... 26
Item 12. Security Ownership of Certain Beneficial Owners and
Management and Related Unitholder Matters...................... 28
Item 13. Certain Relationships and Related Transactions................. 29
Item 14. Principal Accountant Fees and Services......................... 31
PART IV
Item 15. Exhibits, Financial Statement Schedules, and
Reports on Form 8-K............................................ 32
3
FORWARD-LOOKING STATEMENTS
This report includes forward-looking statements intended to qualify for the safe
harbor from liability established by the Private Securities Litigation Reform
Act of 1995. These forward-looking statements generally can be identified by
phrases such as Heartland or the Company, as defined below, or its management
"believes," "expects," "anticipates," "foresees," "forecasts," "estimates," or
other words or phrases of similar import. Similarly, statements in this report
that describe the Company's plans, outlook, objectives, intentions or goals are
also forward-looking statements. Forward-looking statements are not guarantees
of future performance. They involve risks and uncertainties that are difficult
to predict. The Company's actual future results, actions, performance or
achievement of results and the value of the partnership Units may differ
materially from what is forecast in any forward-looking statements. We caution
you not to put undue reliance on any forward-looking statement in these
documents. The Company does not undertake any obligation to update or publicly
release any revisions to forward-looking statements to reflect events,
circumstances or changes in expectations after the date of this report.
PART I
ITEM 1. Business.
Organization and Purpose; Recent Asset Sales
Heartland Partners, L.P. ("Heartland" or the "Company"), a Delaware limited
partnership, was formed on October 6, 1988. Heartland's existence will continue
until December 31, 2065, unless extended or dissolved pursuant to the provisions
of Heartland's partnership agreement. Heartland was originally organized to
engage in the ownership, purchasing, development, leasing, marketing,
construction and sale of real estate properties. In 2003, Heartland sold several
properties in its real estate portfolio, paid off certain of its liabilities and
distributed some of the proceeds thereof to its partners in accordance with the
terms of its partnership agreement. Heartland is now engaged in selling its
remaining real estate holdings, pursuing recovery on claims it has against local
government units in Wisconsin and foreclosing its Class B Partnership Interest.
The Company is working to resolve its remaining liabilities. Most are
environmental. The amount and timing of future cash distributions will depend on
generation of cash from sales and claims, resolution of liabilities and
associated costs. The Company's 2003 distributions were greater than in any past
year. Unitholders should not expect the 2003 level of distributions on an annual
basis.
Ownership
HTI Interests, LLC, a Delaware limited liability company and sole general
partner of Heartland (the "General Partner" or "HTII"), is owned 99.9% by
Heartland Technology, Inc., a Delaware corporation formerly known as Milwaukee
Land Company ("HTI"), and 0.1% by HTI Principals, Inc., a Delaware corporation
owned by two current members and three former members of HTI's board of
directors. CMC Heartland Partners, a Delaware general partnership ("CMC"), is an
operating general partnership owned 99.99% by Heartland and 0.01% by HTII.
The following table sets forth certain entities formed by Heartland since its
inception that currently hold real estate and other assets, the date and purpose
of formation, development location and ownership:
YEAR
COMPANY FORMED BUSINESS PURPOSE
Heartland Development Corporation ("HDC") 1993 General Partner of CMC Heartland Partners I,
Limited Partnership
CMC Heartland Partners I, Limited ("CMCLP") 1993 Owned Bloomfield development
Partnership
CMC Heartland Partners I, LLC ("CMCI") 1998 Dormant limited liability corporation
CMC Heartland Partners II, LLC ("CMCII") 1997 Owned the Goose Island Industrial Park joint venture
CMC Heartland Partners III, LLC ("CMCIII") 1997 Owned Kinzie Station Phase I, owns Kinzie Station
Phase II
CMC Heartland Partners IV, LLC ("CMCIV") 1998 Owns approximately 7 acres in Fife, Washington
CMC Heartland Partners V, LLC ("CMCV") 1996 Owned lots and homes in Osprey Cove
CMC Heartland Partners VI, LLC ("CMCVI") 1997 Dormant limited liability corporation
CMC Heartland Partners VII, LLC ("CMCVII") 1997 Owned lots and homes in the Longleaf Country Club
CMC Heartland Partners VIII, LLC ("CMCVIII") 1998 Dormant limited liability corporation
Lifestyle Construction Company, Inc. ("LCC") 1998 Served as the general contractor in North Carolina
Lifestyle Communities, Ltd. ("LCL") 1996 Served as the exclusive sales agent in the
Longleaf development
4
COMPANY DEVELOPMENT LOCATION OWNERSHIP
HDC Not Applicable 100% (1)
CMCLP Rosemount, Minnesota 100% (2)
CMCI Chicago, Illinois 100% (3)
CMCII Chicago, Illinois 100% (3)
CMCIII Chicago, Illinois 100% (3)
CMCIV Fife, Washington 100% (3)
CMCV St. Marys, Georgia 100% (3)
CMCVI Not Applicable 100% (3)
CMCVII Southern Pines, North Carolina 100% (3)
CMCVIII Not Applicable 100% (3)
LCC Not Applicable 100% (4)
LCL Not Applicable 100% (4)
(1) Stock wholly owned by Heartland.
(2) HDC owned a 1% general partnership interest and CMC
owned a 99% limited partnership interest.
(3) Membership interest owned by CMC.
(4) Stock was wholly owned by CMC. These corporations
were sold on December 31, 2003.
Except as otherwise noted herein, references in this report to "Heartland" or
the "Company" include CMC, HDC, CMCLP, CMCI, CMCII, CMCIII, CMCIV, CMCV, CMCVI,
CMCVII, CMCVIII, LCC and LCL.
Partnership Agreement and Cash Distributions
Heartland's partnership agreement provides generally that Heartland's net income
(loss) will be allocated 1% to the General Partner, 98.5% to the Class A limited
partners (the "Unitholders") and 0.5% to the Class B limited partner interest
(the "Class B Interest"). The partnership agreement provides that certain items
of deduction, loss, income and gain may be specially allocated to the
Unitholders, the Class B Interest or the General Partner. The partnership
agreement provides that if an allocation of a net loss to a partner would cause
that partner to have a negative balance in its capital account at a time when
one or more partners would have a positive balance in their respective capital
accounts, such net loss shall be allocated only among partners having positive
balances in their respective capital accounts. Under the partnership agreement,
if a partner's capital account is reduced to zero and there are additional
losses allocable to that partner those additional losses will have to be made up
by subsequent gains allocable to that partner before gains will increase that
partner's capital account.
The General Partner has the discretion to cause Heartland to make distributions
of Heartland's available cash in an amount equal to 98.5% to the Unitholders,
0.5% to the Class B Interest and 1% to the General Partner. Upon a dissolution
of the partnership, liquidating distributions will be made pro rata to each
partner in accordance with its positive capital account balance after certain
adjustments set forth in the partnership agreement. There can be no assurance as
to the amount or timing of any future cash distributions or whether the General
Partner will cause Heartland to make a cash distribution in the future if cash
is available. The General Partner in its discretion may establish a record date
for distributions on the last day of any calendar month.
On August 11, 2003, Heartland declared a cash distribution of $1.05 per unit. On
September 15, 2003, it distributed approximately $2,231,000 in cash, which was
allocated 98.5%, to the Unitholders of record as of August 29, 2003, 1% to the
General Partner and 0.5% to the Class B Interest. On November 14, 2003,
Heartland declared another cash distribution of $2.30 per unit. On December 9,
2003, Heartland distributed approximately $4,885,000 in cash, which was
allocated 98.5% to the Unitholders of record as of November 28, 2003, 1% to the
General Partner and 0.5% to the Class B Interest. As of December 31, 2003, the
Unitholders' capital account balance was $0, the Class B Interest's capital
account balance was $9,493,000, and the General Partner's capital account
balance was $(2,000). The Company's 2003 distributions were greater than in any
past year. Unitholders should not expect the 2003 level of distributions on an
annual basis.
5
Notes Receivable From HTI
As of December 31, 2003, HTI owes Heartland and CMC an aggregate of $8,464,000
under promissory notes issued in December 2000 (the "2000 Notes"). The notes are
collateralized by a security interest in the Class B Interest (the "Collateral")
and bear interest at 13% per annum. The Company also received as additional
consideration for the 2000 Notes a Series C Warrant that entitles Heartland to
purchase 320,000 shares of HTI common stock at an exercise price of $1.05 per
share. HTI's stock was trading in the over-the-counter market (after its
delisting from the American Stock Exchange) at less than $0.01 per share as of
December 31, 2003. On February 25, 2002, the Company and CMC demanded immediate
payment in full of all obligations due under the 2000 Notes from HTI.
PG Oldco, Inc., a creditor of HTI under notes in an aggregate principal amount
of $2,200,000 ("PG Oldco Notes"), also had a security interest in the Collateral
and had commenced steps to protect its interest. Under a Lien Subordination and
Inter-Creditor Agreement ("Inter-Creditor Agreement") by and among Heartland,
CMC, PG Oldco, Inc. and HTI, Heartland and CMC had a first and prior security
interest in the Collateral and the proceeds thereof up to the Senior Debt
Priority Amount (as defined in the Inter-Creditor Agreement). PG Oldco, Inc. had
a first and prior security interest in the Collateral and the proceeds thereof
for all amounts in excess of the Senior Debt Priority Amount. On May 23, 2003
Heartland purchased from PG Oldco, Inc. the PG Oldco Notes for approximately
$1,270,000. The purchase price consisted of $770,000 in cash paid on May 23,
2003 and a note payable for $500,000 due October 31, 2003. This note and accrued
interest were paid in full on October 31, 2003. The purchase price of $1,270,000
for the PG Oldco Notes was recorded as an increase in "Due from Affiliate" on
the Company's financial statements.
At December 31, 2003, HTI owes Heartland and CMC, in the aggregate,
approximately $9,734,000. Heartland has recorded an allowance for doubtful
accounts of approximately $5,000,000 in 2003 and $133,000 in 2002 on the 2000
Notes and PG Oldco Notes receivable balance of $9,734,000. For a discussion of
the 2000 Notes and PG Oldco Notes receivable balance and the corresponding
allowance for doubtful accounts see "Item 7. Management's Discussion and
Analysis of Financial Condition and Results of Operations - Summary of
Significant Accounting Estimates-Treatment of certain loans from HTI to
Heartland". If a proposed settlement agreement entered into among all of HTI's
creditors (with the exception of Heartland and Edwin Jacobson, former President
and C.E.O. of the Company) is approved by HTI's stockholders, Heartland will
acquire the Class B Interest from HTI in exchange for a release of HTI's
obligations under the 2000 Notes and PG Oldco Notes. In the event that the
proposed settlement agreement is not agreed to by HTI's creditors and approved
by HTI's stockholders, Heartland anticipates that it will exercise its rights
under the 2000 Notes, the PG Oldco Notes, the related security agreements and
applicable law to foreclose on the Class B Interest. Upon either the acquisition
of the Class B Interest pursuant to the proposed settlement agreement or the
foreclosure on the Class B Interest, the receivable amount in respect of the
2000 Notes and the PG Oldco Notes reflected in the "Due from Affiliate" account
will be reduced to zero, and the Class B Interest and the Class B Interest's
capital account balance will be cancelled. If cancelled, the Class B Interest
will no longer be entitled to receive any distributions of cash or other
property from Heartland. Although Heartland's management believes it is
unlikely, there can be no assurance that Heartland will be able to foreclose on
the Class B Interest. If the Class B Interest is not foreclosed, it will be
entitled to distributions under the terms of the Partnership Agreement.
Real Estate Sale Activities
The Company sold several properties in its real estate portfolio in 2003,
including its last active development project, which was located in North
Carolina. At December 31, 2003 the Company had remaining property at Kinzie
Station in Chicago, Illinois, a 7-acre parcel in Fife, Washington, a property in
Glendale, Wisconsin, and approximately 13,671 acres of land scattered over 12
states. In addition, although the Company conveyed its property in Menomonee
Valley to the Redevelopment Authority of the City of Milwaukee in 2003, it
retained the right to appeal the purchase price and to seek additional
consideration.
6
Longleaf
In September 1998, CMCVII signed a contract to be the exclusive homebuilder and
marketer for the Longleaf Country Club in Southern Pines, North Carolina. Under
the terms of the contract, CMCVII was entitled to build and sell up to 244 homes
on lots owned by Longleaf Associates Limited Partnership ("LALP"), an affiliate
of General Investment & Development. CMCVII assumed the day to day operations on
April 1, 1998. On December 12, 2000, CMCVII executed the Longleaf Lot Purchase
and Sale Agreement ("Lot Agreement"), whereby it purchased the remaining 207
lots owned by LALP, by assuming certain liabilities owed by LALP to other
unrelated parties and the payment of $250,000 in cash. A purchase price of
$2,459,000, including the $250,000 paid on December 12, 2000, for these 207 lots
was determined by calculating the net present value of the payments to be paid
over a ten year period using a discount rate of 10%. As of December 31, 2003,
CMCVII had closed a total of 56 contracts: ten (10) in 2003, nine (9) in 2002,
nine (9) in 2001, fifteen (15) in 2000 and thirteen (13) in 1999.
On December 31, 2003, CMCVII and CMC entered into a Purchase and Sales Agreement
("Sale Agreement") under which NC One, LLC, an unrelated party, purchased all of
the assets of CMCVII and the stock of two corporations wholly owned by CMC, LCL
and LCC. The purchase price for all of the assets of CMCVII was $550,000 in cash
and the assumption of the outstanding Bank One of Illinois line of credit
balance of $705,000. The stock of the two corporations, LCL and LCC, were
purchased for $150,000. Under the terms of the Sale Agreement, LALP agreed to
release CMCVII from all the liabilities it had assumed from LALP under the Lot
Agreement. The Company recognized a net loss of approximately $228,000 on the
transaction.
On December 8, 2000, Heartland entered into an agreement for a $3,000,000
revolving line of credit for the construction of homes in Longleaf with Bank
One. Effective April 23, 2003, the revolving line of credit was reduced to
$2,250,000. The line of credit matured on December 31, 2003. The outstanding
balance on the line of credit of approximately $705,000 at December 31, 2003,
secured by four homes, has been extended for 120 days to April 29, 2004. Under
the terms of the Sale Agreement, NC One has assumed the responsibility to pay
Bank One, which has temporarily agreed not to institute foreclosure proceedings
on the homes or declare the loan in default. The outstanding line of credit
balance at March 30, 2004 is approximately $85,000. The interest on this line of
credit during 2003 accrued at the prime rate.
Under the terms of the Lot Agreement, CMCVII was required to pay $135,000,
$250,000, $135,000 and $250,000, on April 1, 2002, November 1, 2002, April 1,
2003 and November 1, 2003 respectively, to Maples Properties, Inc. ("Maples"),
the owner and operator of the golf course and club house located at the Longleaf
Country Club in Southern Pines, North Carolina. The Company did not make the
four payments totaling $770,000, which LALP believes constituted an event of
default under the Lot Agreement, because the Company believes Maples is in
default on its obligations under the golf membership agreements. LALP, which
would have been entitled to seek specific performance and/or other remedies as
provided for in the membership agreement, did not notify CMCVII that it was in
default. On June 19, 2003, Maples joined CMCVII as a defendant in a lawsuit it
filed for breach of contract against LALP in the North Carolina General Court of
Justice Superior Court Division of Moore County. Maples is seeking $3,515,000 in
compensatory damages from the defendants. CMCVII was vigorously defending itself
against this action and did not record a loss contingency because the Company
could not determine the amount of liability, if any. At this time because of the
sale of all of the assets of CMCVII on December 31, 2003, in which CMCVII was
released from any liability related to the Lot Agreement by LALP, the Company is
attempting to remove itself as a defendant in the lawsuit.
Kinzie Station
Heartland has developed a 2.68 acre site in the City of Chicago, part of a
larger development known as Kinzie Station, which is bisected by railroad tracks
running east and west. Zoning approval for the construction of 381 residential
units on this 2.68 acre site was received in 1997. On March 28, 2001, zoning
approval to increase the total number of residential units from 381 to 442 units
was received from the City of Chicago. At December 31, 2003 on the south side of
the tracks, Heartland had two parcels of land: an industrial parcel, which the
Company sold on February 26, 2004 for $1,597,000, and a parcel known as Kinzie
Station Phase II, which consists of 1.45 acre site on which the Company has
appropriate zoning to construct a 267 unit residential tower building. The
Company has an agreement, subject to certain contingencies, to sell Kinzie
Station Phase II to a developer.
To the north, the Company owned approximately seven (7) acres of land and 4
acres of air rights as of January 1, 2003 ("Kinzie Station North"). Kinzie
Station North consisted of three parcels (roughly 4 acres) zoned for residential
units, one parcel zoned for a grocery store, and another parcel for a city park.
A consortium of residential developers has entered into an agreement with the
Company to purchase the Kinzie Station North residential acreage. On February
11, 2003, this consortium closed the sale of the two parcels for an aggregate
purchase price of $9,850,000. The remaining residential site is under contract
for $2,850,000 but is contingent on the vacation of a city street by the City of
Chicago. The Company's management believes that this vacation could take place
during 2004. The Company has entered into an agreement, subject to certain
contingencies, to sell the grocery store site.
7
Fife, Washington
On November 14, 2003, the Company sold roughly 170 acres of its 177-acre
property in Fife, Washington to a national homebuilder at a price of
$13,250,000. Prior to the sale, the Company owed Bank One $3,500,000, which has
now been paid in full. The Company continues to own approximately 7 acres along
which the Wapato creek runs. This property is under contract but is subject to
contingencies typical of such contracts.
Menomonee Valley
The Company owned approximately 142 acres of property in the Menomonee River
Valley in Milwaukee, Wisconsin. The property is located next to Miller Park, the
home stadium of the Milwaukee Brewers baseball team. The Company had proposed a
mixed use development to include retail and entertainment uses complementary to
the baseball park as a recreational destination. The City of Milwaukee had
stated that it believed industrial development would be more appropriate for the
site, and the Redevelopment Authority of the City of Milwaukee ("RACM")
announced it would seek to acquire the Company's property through eminent domain
if necessary.
On June 10, 2003, RACM delivered to the Company an appraisal of the Company's
property in the Menomonee Valley in Milwaukee as an initial step in RACM's
condemnation of the property. The RACM appraisal valued the property at
$3,550,000. On July 30, 2003, the Company received $3,550,000 in cash and a
release for all environmental matters related to the property from RACM, and the
Company conveyed title to the property to RACM. The Company obtained an
appraisal in the amount of $10,500,000. The Company and RACM have agreed to
negotiate the amount of additional consideration due from RACM to the Company,
and the Company has reserved the right to bring suit for additional
consideration. Any additional amount to be received by the Company is uncertain
at this time; however, any additional consideration will only be received either
through successful negotiations with RACM or through legal proceedings. The book
value of the Menomonee property was approximately $7,656,000. This amount,
compared to the $3,550,000 received from RACM, resulted in a loss of
approximately $4,106,000 that has been recognized as part of the gross profit
(loss) on property sales in the consolidated financial statements of the Company
for the year ended December 31, 2003. Any additional compensation received in
the future will be recognized as income in the period received.
Property Sales and Leasing Activities
The remainder of Heartland's inventory of land currently held for sale consists
of approximately 13,671 acres of scattered land parcels located throughout 12
states. The book value of this inventory is approximately $621,000. The majority
of the land (former railroad rights-of-way) comprises long, narrow strips of
land approximately 100 feet in width. Some of Heartland's sites, located in
small rural communities or outlying mid-cities, are leased to third parties for
agricultural use and may be improved with the lessee's structures.
The sale, management and leasing of the approximate 13,671 acres of scattered
land parcels is conducted by Heartland's sales and property management
department. The volume of the Company's sales has slowed over the last seven
years due to the less desirable characteristics of the remaining properties. The
individual parcels are held at a relatively low book value, and the Company
anticipates that the sale of the remaining parcels may not occur until 2005 or
later. The Company is also exploring the sale of these properties as a whole to
a third party.
The Company leases less than 1% of its total acreage under operating leases. The
number of leases declines each year as sales of properties are made to existing
lessees. The majority of the leases provide nominal rental income to Heartland.
The leases generally require the lessee to construct, maintain and remove any
improvements, pay property taxes, maintain insurance and maintain the condition
of the property. The majority of the leases are cancelable by either party upon
thirty to sixty days notice. Heartland's ability to terminate or modify certain
of these leases is restricted by applicable law and regulations. As of December
31, 2003, Heartland had eight locations under lease, which yield less than
$20,000 a year in rental income.
8
Other Activities
At December 31, 2003, the allowance for claims and liabilities established by
Heartland for environmental and other contingent liabilities totaled
approximately $3,970,000. See Item 7 "Management's Discussion and Analysis of
Financial Condition and Results of Operations." Given the uncertainty inherent
in litigation, resolution of these matters could require funds greater or less
than the $3,970,000 allowance for claims and liabilities. Heartland engages
outside counsel to defend it in connection with most of these claims.
Significant claims are summarized in Item 3. "Legal Proceedings" and Item 7.
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
Regulatory and Environmental Matters
For a discussion of regulatory and environmental matters, see Item 7.
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
Employees and Website
At December 31, 2003, Heartland employed 10 people. The Company's website is
www.cmchp.com. The Company's consolidated financial statements are available on
its website.
Item 2. Properties.
The Company has the right to sell easements for fiber optic lines along or
across 83 miles of rail right of way running from downtown Chicago west to Elgin
and Northwest to Fox Lake, Illinois. The Company receives 2/3 of the proceeds of
any sale.
A discussion of certain significant properties of the Company is included in
Item 1. "Business." Including properties designated for sale that were
previously designated for development, including the parcels at Kinzie Station
and in Fife, Washington, real estate holdings consisted of approximately 13,773
acres of scattered land parcels. States in which large land holdings are located
are Illinois, Iowa, Minnesota, Montana, North Dakota, South Dakota, Washington,
and Wisconsin. The remaining acreage is located in Idaho, Indiana, Michigan and
Missouri. Most of the properties are former railroad rights-of-way, located in
rural areas, comprised of long strips of land approximately 100 feet in width.
Included in these scattered land parcels are former station grounds and rail
yards. The Company also owns certain air rights in the Chicago, Illinois and
Milwaukee, Wisconsin areas.
Other than land classified under Real Estate Sale Activities in Item 1.
"Business," the land is typically unimproved. Some of the properties are
improved with structures (such as grain elevators and sheds) erected and owned
by lessees. Other properties are improved with Heartland-owned buildings that
are of little or no value.
Heartland's headquarters occupies approximately 4,000 square feet of owned
office space located at 330 North Jefferson Court, Suite 305, Chicago, Illinois.
This office space is in the Tower building of the Company's Kinzie Station Phase
I development.
9
Item 3. Legal Proceedings.
Port of Tacoma
In June 1997, the Port of Tacoma (the "Port") filed a complaint in the United
States District Court for the Western District of Washington alleging that the
Company was liable under Washington state law for the cost of the Port's
remediation of a railyard sold in 1980 by the bankruptcy trustee for the
Company's predecessor to the Port's predecessor in interest. On October 1, 1998,
the Company entered into a settlement agreement with the Port which called for
the Company to either pay $1,100,000 or transfer real estate to be agreed upon
at a later date. On December 19, 2002, the Company modified its October 1, 1998
settlement agreement with the Port in which the Port released all claims against
the Company and the Company agreed either to (a) pay $1,100,000 on or before
December 31, 2003 plus interest from January 1, 1999, or (b) convey real
property to be agreed upon at a later date. On November 19, 2003, the Company
paid the Port $1,100,000 plus interest owed to date.
Southeast Wisconsin Professional Baseball District
In February 2002, the Company filed suit, which was amended October 20, 2003,
against the Southeast Wisconsin Professional Baseball District (the "District")
in Milwaukee County Circuit Court to enforce a provision of a contract between
the District and Heartland providing for the construction of a six lane bridge
to the Company's former Menomonee Valley project. The Company is seeking damages
of approximately $600,000.
Edwin Jacobson
On August 19, 2002, the former President and Chief Executive Officer ("C.E.O")
of CMC, Edwin Jacobson, filed two lawsuits against the Company, CMC and certain
officers and/or managers of the General Partner. One of the lawsuits alleges CMC
breached the terms of his employment contract and that the officers and/or board
members wrongfully interfered with his contract. Mr. Jacobson is seeking
compensatory and punitive damages ($1,000,000 in salary and $11,000,000 in
incentive compensation). Mr. Jacobson asked the court to enforce his contract
and enjoin the Company from selling property or making distributions to the
Unitholders until the Company has appraised its properties and paid him
according to the terms of his employment contract. Mr. Jacobson's second lawsuit
was for defamation. On January 31, 2003, the Company filed motions to dismiss
the amended lawsuits. On May 29, 2003, the court dismissed, with prejudice, the
defamation lawsuit against the Company, CMC and certain officers and/or managers
of the General Partner. At the same time, the court dismissed, with prejudice,
Mr. Jacobson's motion to enjoin the Company from selling its real estate. CMC
has filed a counterclaim alleging breach of fiduciary duty and a motion to
dismiss the tortious interference with contract count. CMC is vigorously
defending itself against the remaining lawsuit and, in the opinion of
management, has valid defenses against the remaining lawsuit relating to the
Company's alleged breach of Mr. Jacobson's employment contract. At this time,
the probability that a liability will be incurred and the amount of any
potential liability cannot be determined. The Company's management is not able
to express an opinion on whether this action will or will not adversely affect
the Company's future financial condition or results of operations.
On February 28, 2003, the Company filed suit against the former President and
Chief Executive Officer of CMC, Edwin Jacobson, in the Superior Court of the
State of Delaware to collect all principal and interest owed to the Company
(approximately $332,000, which includes $16,000 of interest that has not been
recorded on the Company's financial statements), with respect to a loan made on
October 17, 2000. Of this amount, $316,000 has been recorded as an allowance for
bad debt. In June 2003, the Company's motion for summary judgment was denied and
the court granted Mr. Jacobson's motion for stay pending the litigation
described in the preceding paragraph. The Company appealed this decision, but
the appeal was denied.
10
Maples
Under the terms of the Lot Agreement, CMCVII was required to pay $135,000,
$250,000, $135,000 and $250,000 on April 1, 2002, November 1, 2002, April 1,
2003, and November 1, 2003, respectively, to Maples, the owner and operator of
the golf course and club house located at the Longleaf Country Club in Southern
Pines, North Carolina. The four payments totaling $770,000 were not made, which
constituted an event of default under the Lot Agreement. The Company believes
Maples is in default of its obligations under the golf membership agreements. In
addition, LALP, the seller of the Longleaf lots, did not notify CMCVII that it
was in default. LALP would have been entitled to seek specific performance
and/or other remedies as provided for in the membership agreement. However, due
to its belief that Maples had breached the membership agreement, CMCVII did not
make these payments. On June 19, 2003, Maples joined CMCVII as a defendant in a
lawsuit Maples filed against LALP in the North Carolina General Court of Justice
Superior Court Division of Moore County for breach of contract. Maples is
seeking $3,515,000 in compensatory damages from the defendants. CMCVII is
vigorously defending itself against this action and at this time the Company has
not recorded a loss contingency because it cannot be determined if it is
probable that a liability will be incurred and the amount of any possible
liability cannot be determined. The Company's management is not able to express
an opinion on whether this action will adversely affect the Company's future
financial condition or results of operations. At this time, due to the sale of
all of the assets of CMCVII on December 31, 2003, and due to the release of
CMCVII from any liability related to the Lot Agreement by LALP, the Company is
attempting to have CMCVII removed as a defendant in the lawsuit.
Borax
CMC owns a 4.99 acre site in Minneapolis, Minnesota that is impacted with
arsenic and lead. The Company filed suit against US Borax ("Borax") on July 23,
2003, in the United States District Court for the District of Minnesota for
contribution. Borax, which discontinued operations in 1968, is a former operator
of a pesticide/herbicide facility on the property. The matter has been stayed
pending agreement between the parties and the Minnesota Department of
Agriculture on the appropriate remediation for the site. The Company has also
been informed that the United States Environmental Protection Agency is
considering a cleanup of arsenic soils in a nearby residential neighborhood and
may seek to recover cost of the cleanup from CMC.
Item 4. Submission of Matters to a Vote of Security Holders.
No matters were submitted to a vote of Unitholders of Heartland for the twelve
months ended December 31, 2003.
PART II
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters
and Issuer Purchases of Equity Securities.
The Class A limited partnership units are listed and traded on the American
Stock Exchange under the symbol "HTL". The units began trading on a "when
issued" basis on June 20, 1990. The following table sets forth the high and low
sales prices per unit by quarter for the years ended December 31, 2003 and 2002.
2003 High Low
First quarter $ 7 1/10 $ 5 3/10
Second quarter 8 9/10 6 6/10
Third quarter 9 6
Fourth quarter 9 3/4 6 3/4
2002
First quarter $ 15 7/8 $ 14
Second quarter 14 1/10 12 1/4
Third quarter 12 1/3 6 1/5
Fourth quarter 7 1/10 4 3/4
Based on records maintained by Heartland's transfer agent and registrar, there
were approximately 500 record holders of Heartland's units as of March 15, 2004.
11
The amount of Heartland's cash available to be distributed, if any, to
Unitholders, the Class B Interest and the General Partner ("Available Cash
Flow") will be determined by the General Partner, in its sole discretion, after
taking into account all factors deemed relevant by the General Partner,
including, without limitation, general economic conditions and Heartland's
financial condition, results of operations and cash requirements, including (i)
the servicing and repayment of indebtedness, (ii) general and administrative
charges, including fees and expenses payable to HTII under management and other
arrangements, (iii) property and operating taxes, (iv) other costs and expenses,
including legal and accounting fees, and (v) reserves for future contingencies
and environmental liabilities.
Heartland's Available Cash Flow will be derived from CMC and CMCIII. When, and
if, available and appropriate, the General Partner expects to cause Heartland to
make distributions of Heartland's Available Cash Flow in an amount equal to
98.5% to the Unitholders, 0.5% to the Class B Interest, and 1% to the General
Partner, although there can be no assurance as to the amount or timing of
Heartland's cash distributions or whether the General Partner will cause
Heartland to make a cash distribution if cash is available. If the partnership
were dissolved, liquidating distributions would be made pro rata to each partner
in accordance with its positive capital account balance after certain
adjustments set out in the partnership agreement. Future lenders to Heartland
may impose restrictions on Heartland's ability to make cash or other property
distributions. In addition, distributions may not be made to Unitholders until
Heartland has paid to HTII (or its assignee) all accrued and unpaid management
fees pursuant to the Management Agreement between Heartland and HTII. As of
December 31, 2003 and 2002, there were no unpaid management fees. On December 4,
1997, Heartland's partnership agreement was amended to allow the General Partner
in its discretion to establish a record date for distributions on the last day
of any calendar month. No cash distributions were made during the years 2002 and
2001.
On August 11, 2003, Heartland declared a cash distribution of $1.05 per unit. On
September 15, 2003, it distributed approximately $2,231,000 in cash, with 98.5%,
to the Unitholders of record as of August 29, 2003, 1% to the General Partner
and 0.5% to the Class B Interest. On November 14, 2003, Heartland declared
another cash distribution of $2.30 per unit. On December 9, 2003, it distributed
approximately $4,885,000 in cash, with 98.5% to the Unitholders of record as of
November 28, 2003, 1% to the General Partner and 0.5% to the Class B Interest.
As of December 31, 2003, the Unitholders' capital account balance was $0, the
Class B Interest's capital account balance was $9,493,000, and the General
Partner's capital account balance was $(2,000). The Company's 2003 distributions
were greater than in any past year. Unitholders should not expect the 2003 level
of distributions on an annual basis.
Item 6. Selected Financial Data.
The following selected financial data should be read in conjunction with the
consolidated financial statements and the notes thereto contained herein in Item
8. "Financial Statements and Supplementary Data," the information contained
herein in Item 7. "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and the information contained herein in Item 1.
"Business." Historical results are not necessarily indicative of future results.
Following is a summary of Heartland's selected financial data for the years
ended and as of December 31, 2003 2002, 2001, 2000 and 1999 (amounts in
thousands except per Unit data):
Statement of Operations Data: 2003 2002 2001 2000 1999
------------ ------------ ------------ ----------- -----------
Operating (loss) income $ (3,763) $ (2,455) $ 4,426 $ 8,436 $ (5,010)
Other income 1,408 1,397 932 1,408 1,253
------------ ------------ ------------ ----------- -----------
Net (loss) income $ (2,355) $ (1,058) $ 5,358 $ 9,844 $ (3,757)
============ ============ ============ =========== ===========
Net (loss) income allocated to General
Partner and Class B Interest $ (56) $ (16) $ 80 $ 3,938 $ (3,757)
============ ============ ============ =========== ===========
Net (loss) income allocated
to Class A Units $ (2,299) $ (1,042) $ 5,278 $ 5,906 $ --
============ ============ ============ =========== ===========
Net (loss) income per Class A Unit $ (1.10) $ (0.50) $ 2.48 $ 2.76 $ --
============ ============ ============ =========== ===========
Cash dividends declared per Class A Unit $ 3.35 $ -- $ -- $ -- $ --
============ ============ ============ =========== ===========
12
December 31 December 31, December 31, December 31, December 31,
Balance Sheet Data 2003 2002 2001 2000 1999
--------------- --------------- --------------- --------------- ---------------
Net Properties $ 7,730 $ 28,699 $ 28,201 $ 38,916 $ 50,751
Total assets 16,991 38,855 38,420 47,584 57,256
Allowance for claims
and liabilities 3,970 4,050 4,337 4,478 2,804
Total liabilities 7,500 19,893 18,360 32,088 51,604
Partners' capital 9,491 18,962 20,060 15,496 5,652
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations.
Risk Factors
Real Estate Investment Risks; General Economic Conditions Affecting
Real Estate Industry
The Company faces risks associated with local real estate conditions in areas
where the Company owns properties. These risks include, but are not limited to:
liability for environmental hazards; changes in general or local economic
conditions; changes in real estate and zoning laws; changes in income taxes,
real estate taxes, or federal or local taxes; floods, earthquakes, and other
acts of nature; and other factors beyond the Company's control. The illiquidity
of real estate investments generally may impair the Company's ability to respond
promptly to changing circumstances. The inability of management to respond
promptly to changing circumstances could adversely affect the Company's
financial condition and ability to make distributions to the Unitholders.
The real estate industry generally is highly cyclical and is affected by changes
in national, global and local economic conditions and events, such as employment
levels, availability of financing, interest rates, consumer confidence and the
demand for housing and other types of construction. Sellers of real estate are
subject to various risks, many of which are outside the control of the seller,
including real estate market conditions, changing demographic conditions,
adverse weather conditions and natural disasters, such as hurricanes and
tornadoes, changes in government regulations or requirements and increases in
real estate taxes and other local government fees. The occurrence of any of the
foregoing could have a material adverse effect on the financial condition of
Heartland.
Environmental Liabilities
Under various federal, state and local laws, ordinances, and regulations, the
owner or operator of real property may be liable for the costs of removal or
remediation of hazardous or toxic substances located on or in, or emanating
from, such property, as well as costs of investigation and property damages.
Such laws often impose such liability without regard to whether the owner or
operator knew of, or was responsible for, the presence of such hazardous or
toxic substances. The presence of such substances, or the failure to properly
remediate such substances, may adversely affect the owner or operator's ability
to sell or lease a property or borrow using the property as collateral. Other
statutes may require the removal of underground storage tanks. Noncompliance
with these and other environmental, health or safety requirements may result in
substantial costs to us or may result in the need to cease or alter operations
on the property and may reduce the value of the property or our ability to sell
it.
Environmental laws may impose liability on a previous owner or operator of a
property that owned or operated the property at a time when hazardous or toxic
substances were disposed on, or released from, the property. A conveyance of the
property, therefore, does not relieve the owner or operator from liability. The
Company cannot assure that environmental liability claims will not arise in the
future.
Heartland is subject to federal and state requirements for protection of the
environment, including those for discharge of hazardous materials and
remediation of contaminated sites. Heartland is in the process of assessing its
environmental exposure, including obligations and commitments for remediation of
contaminated sites and assessments of ranges and probabilities of recoveries
from other responsible parties. Because of the regulatory complexities and risk
of unidentified contaminants on its properties, the potential exists for
remediation costs to be materially different from the costs Heartland has
estimated. Some of the property owned by the Company consists of land formerly
used for railroad. Other properties were leased to tenants that used hazardous
materials in their businesses. Any contamination of that property may affect
adversely the Company's ability to sell such property.
13
Notes Receivable from HTI
As discussed in Item 1."Business--Notes Receivable from HTI", HTI owes
Heartland, in the aggregate, approximately $9,734,000 under the 2000 Notes and
the PG Oldco Notes, both of which are secured by the Class B Interest.
Heartland has recorded an allowance for doubtful accounts of approximately
$5,133,000 related thereto. Upon either the acquisition of the Class B Interest
pursuant to a proposed settlement agreement or the foreclosure on the Class B
Interest, the receivable amount in respect of the 2000 Notes and the PG Oldco
Notes reflected in the "Due from Affiliate" account will be reduced to zero,
and the Class B Interest and the Class B Interest's capital account balance will
be cancelled. If cancelled, the Class B Interest will no longer be entitled to
receive any distributions of cash or other property from Heartland. Although
Heartland's management believes it is unlikely, there can be no assurance that
either the settlement agreement will be approved by HTI's stockholders or that
Heartland will be able to foreclose on the Class B Interest. If the Class B
Interest is not foreclosed, it will be entitled to distributions under the terms
of the Partnership Agreement.
Pending Litigation
The Jacobson litigation described in Item 3. "Legal Proceedings" may not be
resolved in the Company's favor, and the Company may incur significant costs
associated therewith. If the Company is required to pay substantial enough
amounts with respect to the Jacobson litigation, the Company may not be left
with any cash or other property to distribute to the Unitholders.
Access to Financing
As of December 31, 2003, Heartland's total consolidated indebtedness was zero.
There can be no assurance that the amounts available from internally generated
funds, cash on hand and sale of assets will be sufficient to fund Heartland's
anticipated operations. Heartland may be required to seek additional capital in
the form of bank financing. No assurance can be given that such financing will
be available or, if available, will be on terms favorable to Heartland. If
Heartland is not successful in obtaining sufficient capital to fund the
implementation of its liquidation strategy and for other expenditures,
properties might be sold for far less than their value. Any such discounted sale
could adversely affect Heartland's future results of operations and future cash
flows. However, management does not have any intention to discount the sale of
properties for far less than their value.
Period-to-Period Fluctuations
Heartland's sales activity varies from period to period, and the ultimate
success of this sales activity cannot always be determined from results in any
particular period or periods. Thus, the timing and amount of revenues arising
from this sales activity are subject to considerable uncertainty. The inability
of Heartland to manage effectively their cash flows from operations would have
an adverse effect on their ability to service any future debt, and to meet
working capital requirements.
Liquidation of Assets
The Company's management expects to sell to unrelated third parties the
remainder of its properties. The Unitholders will not have control over the
divestiture of the Company's remaining assets or, if the partnership is
dissolved, the liquidation process. The Company cannot make any assurance that
changes in its policies will serve fully the interests of all Unitholders or
that the Unitholders will receive any liquidating distributions of cash or other
property.
14
Risks Related to the Class A Units
The market value of the Class A units could decrease based on the Company's
performance, market perception and conditions. The market value of the Class A
units may be based primarily upon the market's perception of the Company's
growth potential and current and future cash distributions, and may be
secondarily based upon the real estate market value of the Company's underlying
assets. The market price of the Class A units may be influenced by the
distributions on the Class A units relative to market interest rates. Rising
interest rates may lead potential buyers of the Class A units to expect a higher
distribution rate, which would adversely affect the market price of the Class A
units. In addition, if the Company were to borrow, rising interest rates could
result in increased expense, thereby adversely affecting the cash flow and the
Company's ability to service its indebtedness and make distributions.
The Class A units have been traded since June 20, 1990. The Company believes
that factors such as (but not limited to) announcements of developments related
to the Company's business, fluctuations in the Company's quarterly or annual
operating results, failure to meet expectations, and general economic
conditions, could cause the price of the Company's units to fluctuate
substantially. In recent years the stock market has experienced extreme price
fluctuations, which have often been unrelated to the operating performance of
affected companies. Such fluctuations could adversely affect the market price of
the Class A units.
The Class A units are currently traded on the American Stock Exchange under the
symbol "HTL". The Class A units are thinly traded. There are no assurances that
the Company will maintain its listing on the exchange. If the Class A units
should be delisted from the exchange, it is likely that it could materially
and/or adversely effect any future liquidity in the Class A units.
Summary of Significant Accounting Estimates
The Company's most significant accounting estimates relate to potential
environmental liabilities, the Jacobson litigation and the treatment of certain
loans from Heartland to the General Partner.
Potential Environmental Liabilities
Heartland evaluates environmental liabilities associated with its properties on
a regular basis. An allowance is provided with regard to potential environmental
liabilities, including remediation, legal and consulting fees, when it is
probable that a liability has been incurred and the amount of the liability can
be reasonably estimated. The amount of any liability is evaluated independently
from any claim the company may have for recovery. If the amount of the liability
cannot be reasonably estimated but management is able to determine that the
amount of the liability is likely to fall within a range, and no amount within
that range can be determined to be the better estimate, then an allowance in the
minimum amount of the range is established. If the Company were to use a
different approach, the reserve could be materially higher. By reserving at the
low end of possible results, it is likely that the actual costs of environmental
claims will be higher than the reserve on the Company's books, because it is
unlikely that, as a whole, the claims will be less expensive to resolve than the
low end of the range, and more likely that the claims will cost more than the
best case amount. Also, the Company does not reserve any amounts for unknown
claims. This means that as new claims arise additional reserves will need to be
added. Estimates can be affected by various uncertainties including future
changes in technology, changes in regulations or requirements of local
governmental authorities, third party claims, the scope and cost to be performed
at each site, the portion of costs that may be shared and the timing of the
remediation work. Environmental costs that are incurred in connection with
Heartland's development activities are expensed or capitalized as appropriate.
In the event the Company believes a third party was responsible for the
contamination, it attempts to have that third party assume the responsibility
for the costs of cleaning up the site. Sometimes there are funds available from
state programs for clean up. These funds can be available for contamination
resulting from railroad operations as well as those from third parties. The
Company seeks these funds when they are available. Potential recoveries from
third parties or government programs are not considered in the environmental
reserve. At December 31, 2003, Heartland's allowance for environmental claims
and liabilities was approximately $3,970,000. Significant matters related to the
Company's reserve for environmental claims are discussed below.
Under environmental laws, liability for hazardous substance contamination is
imposed on the current owners and operators of the contaminated site, as well as
the owner or the operator of the site at the time the hazardous substance was
disposed or otherwise released. In most cases, this liability is imposed without
regard to fault. Currently, the Company has known environmental liabilities
associated with certain of its properties arising out of the activities of its
predecessor or certain of its predecessor's lessees and may have further
material environmental liabilities as yet unknown. The majority of the Company's
known environmental liabilities stem from the use of petroleum products, such as
motor oil and diesel fuel, in the operation of a railroad or in operations
conducted by its predecessor's lessees.
15
From time to time contaminants are discovered on property the Company now owns.
Some of these may have resulted from the historical activities of the Milwaukee
Road railroad. In other cases the property was leased to a tenant who released
contaminants onto the property. The Company's property may also be polluted by a
release or migration of contaminants onto the Company's property by unrelated
third parties. The Company has not investigated all of its properties and does
not know how many of them may be contaminated.
The Company's practice when it sells land is to sell the property "as is, where
is" without any representation or indemnification for environmental conditions;
however, the Company has one active site, Miles City, Montana, where it has
agreed to indemnify the buyer for known environmental concerns. There are other
cases in which the Company has had a claim arising out of alleged contamination
on sold property. In some, but not all, of these instances, the Company has been
successful in asserting the bar arising out of the bankruptcy proceedings of the
Milwaukee Road railroad.
The Company may be responsible for certain liabilities that arise from the
historical operations of the Milwaukee Road railroad that have nothing to do
with the ownership of property. The Company has been, for example, named as a
"potentially liable party" in a number of landfill-clean-up cases in which there
is an allegation that the Milwaukee Road railroad sent materials to the
landfill. Additional claims may arise in the future. In some, but not all, of
these cases, the Company has been successful in asserting the bar arising out of
the bankruptcy proceedings of the Milwaukee Road railroad.
The Montana Department of Environmental Quality ("DEQ") has asserted that the
Company is liable for some or all of the investigation and remediation of
certain properties in Montana sold by its predecessor's reorganization trustee
prior to the consummation of its predecessor's reorganization. The Company has
denied liability at certain of these sites based on the reorganization bar of
the Company's predecessor. The Company's potential liability for the
investigation and remediation of these sites was discussed in detail at a
meeting with DEQ in April 1997. While DEQ has not formally changed its position,
DEQ has not elected to file suit. Since the Company cannot determine if it is
probable that a liability has been incurred and the amount of any potential
liability cannot be reasonably estimated, the Company's management is not able
to express an opinion at this time whether the cost of the defense of this
liability or the environmental exposure in the event of the Company's liability
will or will not be material.
At four separate sites, the Company has been notified that releases arising out
of the operations of a lessee, former lessee or other third party have been
reported to government agencies. At each of these sites, the third party is
voluntarily cooperating with the appropriate agency by investigating the extent
of any such contamination and performing the appropriate remediation, if any.
CMC owns a 4.99 acre site in Minneapolis, Minnesota that is impacted with
arsenic and lead. The Company filed suit against US Borax on July 23, 2003, in
the United States District Court for the District of Minnesota for contribution.
US Borax is a former operator of a pesticide/herbicide facility on the property;
its operations were discontinued in 1968. The matter has been stayed pending
agreement between the parties and the Minnesota Department of Agriculture
("MDA") on the appropriate remediation for the site. Subject to a public comment
period, on March 15, 2004, the MDA approved a Response Action Plan for the
property owned by CMC. At December 31, 2003, Heartland's aggregate allowance for
claims and liabilities for this site is $3,415,000. The Company has also been
informed that the United States Environmental Protection Agency is considering a
cleanup of arsenic soils in a nearby residential neighborhood and may seek to
recover cost of the cleanup from CMC.
The Canadian Pacific Railroad, formerly known as the Soo Line Railroad Company,
has asserted that the Company is liable for, among other things, the remediation
of releases of petroleum or other regulated materials at six different sites
located in Iowa, Minnesota and Wisconsin that Canadian Pacific acquired from the
Company. The Company has denied liability based on the underlying asset purchase
agreement. The environmental claims are all currently being handled by Canadian
Pacific, and the Company understands that Canadian Pacific has paid settlements
on certain of these claims. Because Canadian Pacific has been handling these
matters exclusively, the Company has made no determination as to the merits of
the claims and is unable to determine their materiality.
16
In November 1995, the Company settled a claim with respect to the so-called
"Wheeler Pit" site near Janesville, Wisconsin. The Company's only outstanding
obligation under the settlement is to pay 32% of the monitoring costs for
twenty-five years beginning in 1992. At December 31, 2003, Heartland's allowance
for claims and liabilities for this site is $147,000.
In addition to the environmental matters set forth above, there may be other
properties with environmental liabilities not yet known to the Company, with
potential environmental liabilities for which the Company has no reasonable
basis to estimate, or for which the Company believes it is not reasonably likely
to ultimately bear responsibility for the liability but the investigation or
remediation of which may require future expenditures. Management is not able to
express an opinion at this time whether the environmental expenditures for these
properties will or will not be material.
The Company has given notice to insurers, which issued policies to the Milwaukee
Road railroad of certain of the Company's environmental liabilities. Due to the
high deductibles on these policies, the Company has not yet demanded that any
insurer indemnify or defend the Company. Consequently, management has not formed
an opinion regarding the legal sufficiency of the Company's claims for insurance
coverage.
In the event the Company is dissolved, the Company will have to make a provision
for its potential environmental liabilities. It will have to provide for known
liabilities and also for those likely to arise or become known within ten years
after the date of dissolution. The Company's management believes it may be in
the best interests of the Company to purchase environmental insurance or
contract with a third party to assume the Company's environmental liabilities if
it appears that the cost to do so will be less than maintaining the Company's
overhead to resolve these liabilities going forward. The Company has hired an
insurance consultant and broker to help determine the best alternative to
provide for these potential liabilities. The cost of any transfer of
environmental liabilities and insurance policy is likely to be greater than the
amount of the reserve, and the cost of such transfer and insurance is not
reflected in the environmental reserve.
Treatment of Certain Loans from HTI to Heartland
As of December 31, 2003, HTI owes Heartland and CMC an aggregate of $8,464,000
under promissory notes issued in December 2000 (the "2000 Notes"). The notes are
collateralized by a security interest in the Class B Interest (the "Collateral")
and bear interest at 13% per annum. The Company also received as additional
consideration for the 2000 Notes a Series C Warrant that entitles Heartland to
purchase 320,000 shares of HTI common stock at an exercise price of $1.05 per
share. HTI's stock was trading in the over-the-counter market (after its
delisting from the American Stock Exchange) at less than $0.01 per share as of
December 31, 2003. On February 25, 2002, the Company and CMC demanded immediate
payment in full of all obligations due under the 2000 Notes from HTI.
PG Oldco, Inc., a creditor of HTI under notes in an aggregate principal amount
of $2,200,000 ("PG Oldco Notes"), also had a security interest in the Collateral
and had commenced steps to protect its interest. Under a Lien Subordination and
Inter-Creditor Agreement ("Inter-Creditor Agreement") by and among Heartland,
CMC, PG Oldco, Inc. and HTI, Heartland and CMC had a first and prior security
interest in the Collateral and the proceeds thereof up to the Senior Debt
Priority Amount (as defined in the Inter-Creditor Agreement). PG Oldco, Inc. had
a first and prior security interest in the Collateral and the proceeds thereof
for all amounts in excess of the Senior Debt Priority Amount. On May 23, 2003
Heartland purchased from PG Oldco, Inc. the PG Oldco Notes for approximately
$1,270,000. The purchase price consisted of $770,000 in cash paid on May 23,
2003 and a note payable for $500,000 due October 31, 2003. This note and accrued
interest were paid in full on October 31, 2003. The purchase price of $1,270,000
for the PG Oldco Notes was recorded as an increase in "Due from Affiliate" on
the Company's financial statements.
17
At December 31, 2003, HTI owes Heartland and CMC, in the aggregate,
approximately $9,734,000. Heartland has recorded an allowance for doubtful
accounts of approximately $5,133,000 on the 2000 Notes and PG Oldco Notes
receivable balance of $9,734,000. Heartland has recorded an allowance for
doubtful accounts against the 2000 Notes and PG Olco Notes because HTI has
indicated to Heartland that it does not have the means to repay the amounts owed
under the 2000 Notes and PG Oldco Notes. The $5,000,000 allowance for doubtful
accounts that was recorded in the fourth quarter of 2003 was a result of the
Company's closing the sale of its Fife, Washington property at a price of
$13,250,000 and then distributing $2.30 a Unit in December 2003 which reduced
the estimated amount of potential future distributions distributable to the
Class B Interest. Because Heartland intends to acquire the Class B Interest from
HTI either pursuant to a proposed settlement agreement between HTI and certain
of its creditors or upon a foreclosure of the Class B Interest, as discussed
below, Heartland has determined that the amount of the allowance for doubtful
accounts should reflect the value of the Class B Interest based on the estimated
amount of potential future cash distributions distributable in respect of the
Class B Interest upon a liquidation of Heartland (assuming that the Class B
Interest is not cancelled and remains outstanding). Such estimated potential
distributions were based on a variety of assumptions made by Heartland's
management. If a proposed settlement agreement is entered into among all of
HTI's creditors (with the exception of Heartland and Edwin Jacobson) and is
approved by HTI's stockholders, Heartland will acquire the Class B Interest from
HTI in exchange for a release of HTI's obligations under the 2000 Notes and PG
Oldco Notes. In the event that the proposed settlement agreement is not approved
by HTI's stockholders, Heartland anticipates that it will exercise its rights
under the 2000 Notes, the PG Oldco Notes, the related security agreements and
applicable law to foreclose on the Class B Interest. Upon either the acquisition
of the Class B Interest pursuant to the proposed settlement agreement or the
foreclosure on the Class B Interest, the receivable amount in respect of the
2000 Notes and the PG Oldco Notes reflected in the "Due from Affiliate" account
will be reduced to zero, and the Class B Interest and the Class B Interest's
capital account balance will be cancelled. If cancelled, the Class B Interest
will no longer be entitled to receive any distributions of cash or other
property from Heartland. Although Heartland's management believes it is
unlikely, there can be no assurance that either the settlement agreement will be
approved by HTI's stockholders or that Heartland will be able to foreclose on
the Class B Interest. If the Class B Interest is not foreclosed, it will be
entitled to distributions under the terms of the partnership agreement.
Jacobson Litigation
Edwin Jacobson, the former President and C.E.O. of CMC, has sued the Company
claiming that it owes him additional salary and incentive compensation based on
the terms of his employment contract. He has demanded $12,000,000 ($1,000,000
salary and $11,000,000 incentive compensation) in damages. The Company has
denied Mr. Jacobson's claims and has countersued to recover past payments made
to him and to collect $332,000 in principal and interest under a note Jacobson
made to the Company. (This matter is explained in greater detail in Item 3.
"Legal Proceedings".) The Company offered to settle the lawsuits in exchange for
forgiving Jacobson's debt to the Company. When it made the offer, the Company
wrote the debt off its books. CMC has made no other provision for this potential
liability.
Critical Accounting Policies
The Company's accounting policies are described in more detail in Note 2 and
Note 6 to the Consolidated Financial Statements. The following section is a
summary of critical accounting policies that require management estimates and
judgements.
The Company provides an allowance for doubtful accounts against the portion
of accounts receivable and notes receivable that are estimated to be
uncollectible. Accounts receivable on the consolidated balance sheets are
shown net of an allowance for doubtful accounts of $316,000 as of
December 31, 2003. Due from affiliate on the consolidated balance sheets
are shown net of an allowance for doubtful accounts of $5,133,000 as of
December 31, 2003.
Residential sales were recognized at closing when title to the home passed
to the buyer. The Company's homes were generally offered for sale in
advance of their construction. To date, most of the Company's homes were
sold pursuant to standard sales contracts entered into prior to
commencement of construction. The Company's standard sales contracts
generally required the customer to make an earnest money deposit. This
deposit ranged from 5% to 10% of the purchase price for a buyer using
conventional financing. As of December 31, 2003, the Company is no longer
selling, building or closing homes in any residential communities.
Land sales are recognized when the Company has received an adequate cash
down payment and all other conditions necessary for profit recognition have
been satisfied.
18
Heartland evaluates environmental liabilities associated with its
properties on a regular basis. An allowance is provided with regard to
potential environmental liabilities, including remediation, legal and
consulting fees, when it is probable that a liability has been incurred and
the amount of the liability can be reasonably estimated. The amount of any
liability is evaluated independently from any claim the company may have
for recovery. If the amount of the liability cannot be reasonably estimated
but management is able to determine that the amount of the liability is
likely to fall within a range, and no amount within that range can be
determined to be the better estimate, then an allowance in the minimum
amount of the range is established.
Properties held for development, including capitalized predevelopment
costs, are reviewed for impairment whenever events or changes in
circumstances, such as a condemnation proceeding being brought by a
governmental agency against the Company or the discovery of an
environmental liability related to a particular site, indicate that the
carrying amount of the particular development property may not be
recoverable. If these events or changes in circumstances are present, the
Company estimates the sum of the expected future cash flows (undiscounted)
to result from the development operations and eventual disposition of the
particular development property, and if less than the carrying amount of
the development property, the Company will recognize an impairment loss
based on discounted cash flows. Upon recognition of any impairment loss,
the Company would measure that loss based on the amount by which the
carrying amount of the property exceeds the estimated fair value of the
property. No event occurred during the years 2003, 2002 and 2001 that
resulted in an impairment loss being recognized.
For properties held for sale, an impairment loss is recognized when the
fair value of the property, less the estimated cost to sell, is less than
the carrying amount of the property. No event occurred during the years
2002 and 2001 that resulted in an impairment loss being recognized. In the
fourth quarter of 2003, an impairment loss of $250,000 was recognized as a
component of cost of sales on Kinzie Station Phase II as the Company was
able to quantify the costs associated with the disposal of the property.
Results of Operations
Operations for the year ended December 31, 2003 resulted in a net loss of
($2,355,000) or ($1.10) per Class A Unit. For the year ended December 31, 2002,
operations resulted in a net loss of ($1,058,000) or ($0.50) per Class A Unit.
Operations for the year ended December 31, 2001 resulted in a net income of
$5,358,000 or $2.48 per Class A Unit.
Year Ended December 31, 2003 Compared to Year Ended December 31, 2002
Property Sales. Property sales increased $25,914,000, or 383% to $32,680,000 for
year ended December 31, 2003 from $6,766,000 for the year ended December 31,
2002. This increase was primarily the result of sales in 2003 consisting
primarily of approximately 3 acres of land in Kinzie Station North for
$9,850,000, 170 acres of land in Fife, Washington for $13,250,000 and the
conveyance of title to approximately 142 acres of land in Milwaukee, Wisconsin
for $3,550,000.
Cost of Property Sales. Cost of property sales increased $18,194,000, or 330% to
$23,709,000 for year ended December 31, 2003 from $5,515,000 for year ended
December 31, 2002. This increase was primarily the result of an increase in the
cost of property sales related to the above described three sales which totaled
approximately $17,500,000.
Gross Profit on Property Sales. Gross profit on property increased $7,720,000,
or 617% to $8,971,000 for year ended December 31, 2003 from $1,251,000 for year
ended December 31, 2002. This increase was primarily the result of an increase
in the gross profit recognized of approximately $9,150,000 on the above
described three sales.
Selling Expenses. Selling expenses increased $670,000, or 57% to $1,847,000 for
year ended December 31, 2003 from $1,177,000 for year ended December 31, 2002.
This increase was primarily the result of an increase in broker sales
commissions of $173,000 because of increased sales revenues, an increase in the
sales department legal fees of $174,000 because of the Company's decision in
2003 to sell several properties, and an increase of $348,000 in consulting,
security, architecture and surveying expenses that in 2002 had been capitalized
to development properties being expensed starting in 2003 because these
properties had been designated as for sale.
19
General and Administrative Expenses. General and administrative expenses
increased $1,311,000, or 62% to $3,433,000 for year ended December 31, 2003 from
$2,122,000 for year ended December 31, 2002. This increase was primarily the
result of an increase in legal fees of $615,000 due to several lawsuits,
continuing legal matters such as the Edwin Jacobson, former C.E.O. and President
of the Company, and the RACM lawsuits and legal advice concerning the options
for the dissolution of the partnership, an increase in insurance expense of
$284,000 because of the Partnership Liability Insurance policy premium cost
increasing substantially and an increase in salary expense of $415,000 due to
the accrual by the Company of the Phantom Unit bonus expense to the four
officers covered by the Company's bonus plans in the amount of approximately
$436,000.
Interest Expense. Interest expense increased $322,000, or 826% to $361,000 for
year ended December 31, 2003 from $39,000 for year ended December 31, 2002. This
increase was primarily the result of the Company's decision in 2003 to sell
several properties, which resulted in interest that was capitalized in prior
years to development properties being expensed starting in 2003.
Bad Debt Expense. Bad debt expense increased $4,551,000, or 1,014% to
$5,000,000, for year ended December 31, 2003 from $449,000, for year ended
December 31, 2002. This increase was the result of the recording of an allowance
for doubtful accounts on the HTI note receivable of $5,000,000 see "Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations - Summary of Significant Accounting Estimates-Treatment of certain
loans from HTI to Heartland".
Real Estate Taxes. Real Estate taxes increased $287,000, or 183% to $444,000 for
year ended December 31, 2003 from $157,000 for year ended December 31, 2002.
This increase was primarily the result of the Company's decision in 2003 to sell
several properties, which resulted in property taxes that were capitalized in
prior years to development properties being expensed starting in 2003.
Environmental Expenses and Other Charges. Environmental expenses and other
charges increased $1,887,000 to $1,649,000 for year ended December 31, 2003 from
$(238,000) for year ended December 31, 2002. This increase was primarily the
result of an increase in the amount of costs that will be incurred in the
environmental remediation of the Lite Yard site located in Minneapolis, MN.
Other Income and (Expenses). Total other income increased $11,000, or 0.8% to
$1,408,000 for year ended December 31, 2003 from $1,397,000 for year ended
December 31, 2002. This increase was primarily the result of the $1,500,000 gain
on the extinguisment of the LALP debt related to the sale of the CMCVII assets
on December 31, 2003 to NC One compared to the $1,137,000 gain recognized by the
Company on the sale of its interest in the Goose Island joint venture in 2002.
Net (loss) Income. Net loss increased $1,297,000 to $(2,355,000) for year ended
December 31, 2003 from $(1,058,000) for year ended December 31, 2002. This
increase was primarily the result of an increase in property sale revenues from
the sale of former development properties in 2003 compared to 2002 when none
were sold reduced by the $5,000,000 allowance for doubtful accounts recorded
related to the HTI note receivable balance in 2003 and the increase in
environmental expenses and other charges of $1,887,000.
Year Ended December 31, 2002 Compared to Year Ended December 31, 2001
Property Sales. Property sales decreased $23,705,000, or 78% to $6,766,000 for
year ended December 31, 2002 from $30,471,000 for the year ended December 31,
2001. This decrease was primarily the result of sales in 2001 consisting of
development properties in Rosemount, Minnesota, Bozeman, Montana, and Kinzie
Station Phase II at sales prices of $9,275,000, $2,150,000 and $2,937,000,
respectively compared to none in 2002. These 2001 sales total $14,362,000. Also,
sales in 2001 compared to 2002 in Kinzie Station Phase I were $11,903,000 and
$2,715,000, respectively or a difference of $9,188,000.
Cost of Property Sales. Cost of property sales decreased $14,393,000, or 72% to
$5,515,000 for year ended December 31, 2002 from $19,908,000 for year ended
December 31, 2001. This decrease was primarily the result of reduced cost of
property sales from 2001 to 2002 related to the above described sales of
$14,390,000.
Gross Profit on Property Sales. Gross profit on property decreased $9,312,000,
or 88% to $1,251,000 for year ended December 31, 2002 from $10,563,000 for year
ended December 31, 2001. This decrease was primarily the result of reduced gross
profit from the sales of the above described properties from 2001 to 2002 of
$9,158,000.
20
Selling Expenses. Selling expenses decreased $2,744,000, or 70% to $1,177,000
for year ended December 31, 2002 from $3,921,000 for year ended December 31,
2001. This decrease was primarily the result of the Company's decision to cease
the sale of condominiums in its proposed Kinzie Phase II project which resulted
in a reduction of selling expenses from 2001 to 2002 of $841,000, the decision
to cease all operations in Osprey Cove located in St. Marys, Georgia which
resulted in a reduction of selling expenses from 2001 to 2002 of $211,000, the
reduction in sales at Kinzie Station Phase I from 2001 to 2002 of 38 units to 8
units resulted in a reduction in selling expenses of $913,000 and a reduction of
personnel and expenses in the Company's department that coordinates the sale of
the Land Held for Sale acreage of approximately 13,671 acres from 2001 to 2002
resulted in a reduction in selling expenses of $340,000.
General and Administrative Expenses. General and administrative expenses
increased $264,000, or 14% to $2,122,000 for year ended December 31, 2002 from
$1,858,000 for year ended December 31, 2001. This increase was primarily the
result of an increase in legal expense of $251,000 due to the Company's
litigation related to the Edwin Jacobson, former C.E.O and President of the
Company, and Menomonee Valley lawsuits.
Bad Debt Expense. Bad debt expense increased $449,000 to $449,000 for year ended
December 31, 2002 from $0 for year ended December 31, 2001. This increase was
primarily the result of the Company accruing an allowance for bad debt expense
of 100% for the note receivable and accrued interest owed to the Company by
Edwin Jacobson, former President and C.E.O. of the Company.
Real Estate Taxes. Real Estate taxes decreased $68,000, or 30% to $157,000 for
year ended December 31, 2002 from $225,000 for year ended December 31, 2001.
This decrease was primarily the result of the Company paying less property taxes
on Land Held for Sale acreage (the approximately 13,671 acres of scattered land
parcels) in 2002 as compared to 2001.
Environmental Expenses and Other Charges. Environmental expenses and other
charges decreased $341,000, or 331% to $(238,000) for year ended December 31,
2002 from $103,000 for year ended December 31, 2001. This decrease was primarily
the result of the Company reducing its estimate of environmental remediation
expenses $304,000 from 2001 to 2002 due to the sale of the Bozeman, Montana
property and reducing its estimate related to the Fife, Washington property.
Other Income and (Expenses). Total other income increased $465,000, or 50% to
$1,397,000 for year ended December 31, 2002 from $932,000 for year ended
December 31, 2001. This increase was primarily the result of Other Income
increasing $1,077,000 from 2001 to 2002 due to the Company's sale of its
interest in the Goose Island joint venture in 2002.
Net (loss) Income. Net (loss) income decreased $6,416,000, or 120% to
$(1,058,000) for year ended December 31, 2002 from $5,358,000 for year ended
December 31, 2001. This decrease was primarily the result of the Company sales
of development properties in 2001 totaled $14,362,000 as compared to none in
2002.
Liquidity and Capital Resources
Cash flow for operating activities has been derived primarily from development
activities, proceeds of property sales, rental income and interest income. Cash
was $3,926,000 (including $0 of restricted cash) at December 31, 2003, $751,000
(including $42,000 of restricted cash) as of December 31, 2002 and $1,299,000
(including $1,196,000 of restricted cash) as of December 31, 2001. The increase
in cash of $3,175,000 from December 31, 2002 to December 31, 2003 was primarily
due to proceeds of $13,250,000 relating to the Fife property sale in November
2003, a portion of which was retained for working capital purposes. The decrease
in cash of $548,000 from December 31, 2001 to December 31, 2002, was primarily
due to the return to the Company on April 30, 2002 of the $1,150,000 interest
reserve held by LNB as collateral for the LNB line of credit and the subsequent
use by the Company to reduce accounts payable. (See the Consolidated Statements
of Cash Flows).
21
Net cash provided by operating activities was $19,138,000 in 2003 compared to
$2,291,000 of net cash used in operating activities in 2002. Cash provided by
operating activities in 2003 compared to 2002 increased by $21,429,000. This was
primarily due to housing inventories decreasing $7,671,000 in 2003 compared to
$3,176,000 in 2002, a difference of $4,495,000. The difference was attributable
to selling all the assets of CMCVII on December 31, 2003 to NC One and closing
10 home sales in Longleaf during 2003. Also, land held for sale/development and
capitalized predevelopment costs decreased a total of $12,257,000 in 2003
compared to an increase in capitalized predevelopment costs of $3,817,000 in
2002, a difference of $16,074,000 (a decrease in costs). The difference was
attributable to having closed no land held for sale/development in 2002 compared
to having closed the Fife, Washington property (170 acres), 2 parcels in Kinzie
Station North located in Chicago, Illinois and the deeding of the Menomonee
Valley property located in Milwaukee, Wisconsin (142 acres) in 2003. Net cash
used in operating activities was $2,291,000 in 2002 compared to $10,444,000 of
net cash provided by operating activities in 2001. Cash provided by operating
activities from 2002 compared to 2001 decreased by $12,735,000. This was
primarily due to housing inventories decreasing $3,176,000 in 2002 compared to
$9,507,000 in 2001, a difference of $6,331,000. The difference was attributable
to closing 8 units in 2002 in Kinzie Station Phase I compared to 38 units in
2001. Also, net additions to capitalized predevelopment costs increased
$3,817,000 in 2002 compared to $487,000 in 2001, which is a difference of
$3,330,000. This difference was attributable to the Company not selling any
development properties during 2002. (See the Consolidated Statements of Cash
Flows).
On August 11, 2003, Heartland declared a cash distribution of $1.05 per unit. On
September 15, 2003, it distributed approximately $2,231,000 in cash, which was
allocated 98.5%, to the Unitholders of record as of August 29, 2003, 1% to the
General Partner and 0.5% to the Class B Interest. On November 14, 2003,
Heartland declared another cash distribution of $2.30 per unit. On December 9,
2003, it distributed approximately $4,885,000 in cash, which was allocated 98.5%
to the Unitholders of record as of November 28, 2003, 1% to the General Partner
and 0.5% to the Class B Interest. As of December 31, 2003, the Unitholders'
capital account balance was $0, the Class B Interest's capital account balance
was $9,493,000, and the General Partner's capital account balance was $(2,000).
The Company's 2003 distributions were greater than in any past year. Unitholders
should not expect the 2003 level of distributions on an annual basis.
Proceeds from property sales provided cash flow of $32,680,000 in 2003,
$6,766,000 in 2002 and $30,471,000 in 2001. During the period between 2004 and
2006, the Company expects proceeds from property sales to consist primarily of
the sale of the remaining Kinzie Station North acreage, Kinzie Station Phase II
property, remaining sites in Wisconsin and Minnesota that in prior years had
been designated as development properties and land held for sale acreage (13,671
acres of scattered land parcels located in 12 states).
The cost of property sales in 2003 was $23,709,000 or 73% of sales proceeds, in
2002 was $5,515,000 or 82% of sales proceeds and in 2001 was $19,908,000 or 65%
of sales proceeds. It is not expected that future cost of sales ratios for the
remaining real estate sales will change materially from ratios experienced in
the prior three years, as the balance of Heartland's real estate, other than
development projects, consists primarily of railroad properties acquired over
the past 150 years at values far lower than current fair values. The Company is
no longer selling, building or closing homes in any homebuilding communities as
of December 31, 2003.
Portfolio income is derived principally from interest earned on certificates of
deposit and investment of cash not required for operating activities in
overnight investments. Portfolio income for 2003 was $30,000, compared to
$308,000 for 2002 and $1,176,000 for 2001. The decrease in portfolio income from
2003 to the year 2002 and from 2002 to the year 2001 of $278,000 and $868,000,
respectively, is mainly attributable to a decrease in interest earned on the HTI
note receivable of $270,000 and $611,000, respectively. Heartland stopped
accruing interest on the HTI note receivable April 1, 2002 due to the
uncertainty regarding the collectibility of the HTI note receivable.
As of December 31, 2003, Heartland had designated 5 sites, or approximately 102
acres with a book value of approximately $1,838,000, for sale which in prior
years had been designated for development. Capitalized expenditures at sites
designated for sale and in prior years designated for development were
$2,844,000 in 2003, $6,083,000 in 2002, and $9,891,000 in 2001. At December 31,
2003 and 2002, capitalized costs on properties including housing inventories
totaled $2,423,000 and $18,635,000, respectively. Expenditures which
significantly increase the value and are directly identified with a specific
project are capitalized.
At December 31, 2003, land held for sale consists of 13,671 acres of scattered
land parcels with a book value of $621,000. Land held for sale will be disposed
of in an orderly fashion; however, it is anticipated that the disposal of such
properties may extend beyond the year 2004. The Company is also exploring the
sale of these properties as a whole to a third party.
22
Heartland's management believes it will have sufficient funds available from its
land sales activities for operating and selling expenses as it liquidates the
remaining assets of the Company. However, Heartland, in March 2004, obtained a
$2,000,000 line of credit with LaSalle National Bank ("LNB"). The line of credit
will mature December 1, 2004 and bears interest at the prime rate plus 1.5%
(5.5% at December 31, 2003). The LNB line of credit is secured by the Kinzie
Station North and Kinzie Station Phase II properties that are located in
Chicago, Illinois. LNB also requires the Company to maintain net worth (defined
as assets minus liabilities) of $5,500,000, maintain net income of $1,000,000
during any fiscal year beginning with the year ending December 31, 2003, can not
make any advances or distributions to Unitholders or members from funds borrowed
under the line of credit, and various other covenants described in the Secured
Revolving Note document. The Company is currently in default under the line of
credit agreement since it is in violation of the net income covenant and can not
draw on the LNB line of credit.
Tabular Disclosure of Contractual Obligations
Payment due by period
Contractual Obligations Total Less than 1 1 - 3 years 3 - 5 years More than 5
year years
- ----------------------------------- ----------------- ---------------- -------------- --------------- ---------------
Long-Term Debt Obligations $ -- $ -- $ -- $ -- $ --
Capital Lease Obligations -- -- -- -- --
Operating Lease Obligations 6,000 6,000 -- -- --
Purchase Obligations -- -- -- -- --
Other Long-Term Liabilities
Reflected on the Company's
Balance Sheet under GAAP 111,000 6,000 12,000 12,000 81,000
- ----------------------------------- ----------------- ---------------- -------------- --------------- ---------------
Total $ 117,000 $ 12,000 $ 12,000 $ 12,000 $ 81,000
Interest Rate Sensitivity
The Company's total consolidated indebtedness at December 31, 2003 was zero. The
Company paid interest on its outstanding borrowings during the year 2003 under
revolving credit facilities and fixed loan amounts at prime or the prime rate
plus 1.50% (5.5% at December 31, 2003) and at a fixed rate of 7.5%. (See Note 4
to the Consolidated Financial Statements.)
As of December 31, 2003 the Company did not have any other financial instruments
for which there is a significant exposure to interest rate changes.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
See Item 7. "Management's Discussion and Analysis of Financial Condition and
Results of Operations", "Economic and Other Conditions Generally", "Access to
Financing" and "Interest Rate Sensitivity".
Item 8. Financial Statements and Supplementary Data.
The financial statements of the Company and the related notes, together with the
Independent Auditor's Report thereon, are set forth beginning on page 52 of this
Form 10-K.
Item 9. Changes in and Disagreements With Accountants on Accounting
and Financial Disclosure.
None.
23
Item 9A. Controls and Procedures.
Evaluation of Disclosure Controls and Procedures
Heartland's Chief Executive Officer and Chief Financial Officer have evaluated
the Company's disclosure controls and procedures as of the end of the period
covered by this report and they have concluded that these controls and
procedures are adequate to ensure that information required to be disclosed by
Heartland in the reports that it files or submits under the Securities and
Exchange Act of 1934, as amended, is recorded, processed, summarized and
reported, within the time periods specified in the Securities and Exchange
Commission's rules and forms.
Changes in Internal Control over Financial Reporting
There have been no changes in internal control over financial reporting that
occurred during the fourth quarter of 2003 that have materially affected, or are
reasonably likely to materially affect, the Company's internal control over
financial reporting.
24
PART III
Item 10. Directors and Executive Officers of the Registrant.
Heartland does not have a Board of Directors.
Set forth below is information for each director of HTI, each manager of HTI
Interests, LLC and each executive officer of HTI and Heartland. Directors of HTI
and managers of HTII are not compensated by Heartland.
Principal Occupation, Business
Name and Age Experience and Directorships
Lawrence S. Adelson, 54............ Chairman of the Board and Chief Executive Officer of HTI since February,
2002; Director of HTI since February, 2002; Chief Executive Officer of the
Company since February, 2002; Manager of HTI Interests, LLC since February,
2002; Vice President and General Counsel of the Company (June, 1990 -
February, 2002); Vice President and General Counsel of HTI (October, 1988 -
February, 2002).
Richard P. Brandstatter, 48........ President of the Company since March, 2003; Vice President - Finance, Treasurer
and Secretary of HTI since February, 1999; Director of HTI since June, 2002,
Vice President - Finance, Treasurer and Secretary of the Company (August,
1995-March, 2003).
Daniel L. Bernardi, 49............. Chief Financial Officer of the Company since March, 2003. Controller of the
Company (September 1998 - March 2003).
Robert S. Davis, 89............... Former Director of HTI (Class I) (October, 1988-June, 2002); Former member of
the compensation committee and chairman of the Audit Committee of HTI; Former
Manager of HTI Interests, LLC (resigned August, 2003); self-employed
consultant (for more than the past five years); Senior Vice President
(1978-79), St. Paul Companies (insurance), St. Paul, Minnesota.
Charles J. Harrison, 46............ Vice President Real Estate, General Counsel and Secretary of the Company
since March, 2002. President of Power Mart Real Estate Corporation August,
2001, to February, 2002. General Counsel and prior positions with the Company
October 1990 to July 2001
Thomas F. Power, 63............... Manager of HTI Interests, LLC since July 2003; Member of the Audit Committee
of HTI since July 2003. Trustee, Mexrail Independent Voting Trust. Former
President and CEO and Director of Wisconsin Central Transportation
Corporation (1999-2001).
George Lightbourn, 52............. Manager of HTI Interests, LLC and Member of the Audit Committee of HTI since
2004. Currently Senior Fellow with the Wisconsin Policy Research Institute.
Served as Secretary of the Wisconsin Department of Administration (January
2000-January 2003). Deputy Secretary of the Department of Administration
(1995-1999). Currently serving on board of Madison Cultural Arts District
Board, the Monona Economic Development Committee and SpaceMetrics.
John Torell III, 64............... Former Director of HTI (Class III) (September, 1997-June, 2002); Former
member of the audit committee of HTI; Former Manager of HTI Interests, LLC
(resigned August, 2003); Chairman (since 1990), Torell Management, Inc.
(financial advisory), New York, New York; Director of Wyeth, Inc.; Partner
(since 2000), Core Capital Group, (Merchant Banking).
Ezra K. Zilkha, 78................. Former Director of HTI (Class II) (October, 1988-June, 2002); Retired as
Chairman of the Board of the Company on February 25, 2002; Former chairman of
the compensation committee of HTI; Manager of HTI Interests, LLC; President
and Director (since 1956), Zilkha & Sons, Inc. (private investments), New
York, New York. Mr. Zilkha formerly served as a director of the Newhall Land
and Farming Company.
25
Identification of the Audit Committee
The General Partner's board of managers has designated a standing audit
committee for the Company consisting of Ezra Zilkha, Thomas F. Power and George
Lightbourn. Ezra Zilkha and Thomas Power have been designated the audit
committee financial experts serving on the Company's audit committee. Refer to
Item 10. above for Mr. Power's and Mr. Zilkha's qualifications.
Section 16(a) Beneficial Ownership Reporting Compliance
Section 16(a) of the Securities Exchange Act of 1934 requires certain officers
and directors of Heartland Technology, Inc., managers of HTI Interests, LLC and
any persons who own more than ten-percent of the Units to file forms reporting
their initial beneficial ownership of Units and subsequent changes in that
ownership with the Securities and Exchange Commission and the American Stock
Exchange. Officers and directors of Heartland Technology, Inc., managers of HTI
Interests, LLC and greater than ten-percent beneficial owners are also required
to furnish the Company with copies of all such Section 16(a) forms they file.
Based solely on a review of the copies of the forms furnished to the Company, or
written representations from certain reporting persons that no Forms 5 were
required, the Company believes that during the 2003 fiscal year all section
16(a) filing requirements were complied with.
Code of Ethics
The Company has adopted a code of ethics, which is attached as an exhibit to
this Form 10-K, that applies to the Company's Chief Executive Officer and Chief
Financial Officer as well as the Company's President and Chief Legal Officer.
Item 11. Executive Compensation.
The following information is furnished as to all compensation awarded to, earned
by or paid to the Chief Executive Officer of CMC, the four other executive
officers and the former President and Chief Executive Officer with 2003
compensation greater than $100,000.
Name And Annual Compensation All Other
Principal Position Year Salary Bonus Compensation
- ------------------------------------------- ---------- --------------- ------------------ --------------------
Lawrence S. Adelson 2003 $ 183,000 $ 545,000 $ 2,400
Chief Executive Officer 2002 194,000 -- 2,000
2001 87,200 136,400 1,300
Richard P. Brandstatter 2003 $ 121,000 $ 655,000 $ 3,000
President 2002 121,000 12,900 2,500
2001 97,300 136,400 1,300
Daniel L. Bernardi 2003 $ 100,000 $ 10,000 $ 3,000
Chief Financial Officer
Charles J. Harrison 2003 $ 150,000 $ 205,000 $ 3,000
Vice President Real Estate, 2002 109,000 21,900 2,800
General Counsel and Secretary
Susan Tjarksen Roussos 2003 $ 85,500 $ 558,500 $ 3,000
Vice President-Sales and 2002 171,200 134,900 2,800
Marketing (resigned June 30, 2003) 2001 171,000 136,400 2,300
Edwin Jacobson 2003 $ -- $ -- $ --
Former President and Chief 2002 116,000 74,000 2,300
Executive Officer 2001 350,000 95,700 1,700
26
"All Other Compensation" is comprised of CMC's contribution on behalf of the
officers to a salary reduction plan qualified under Sections 401(a) and (k) of
the Internal Revenue Code of 1986. Columns for "Other Annual Compensation",
"Restricted Stock Awards", "Options/SARS" and "Payout-LTIP Payout" are omitted
since there was no compensation awarded to, earned by or paid to any of the
above named executives required to be reported in such columns in any fiscal
year covered by the table.
Under a deferred salary arrangement available to all employees, Mr. Adelson
deferred approximately, $40,000 of his 2000 salary into 2001, $27,000 of his
2001 salary into 2002 and $17,000 of his 2003 salary into 2004. Also, Mr.
Adelson, Mr. Brandstatter, Ms. Tjarksen-Roussos and Mr. Harrison deferred
payment of accrued bonuses from 2003 to 2004 in the amounts of $417,000,
$432,000, $265,000 and $42,000, respectively.
Effective March 1, 2002, an employment agreement with Lawrence S. Adelson, Chief
Executive Officer of CMC, was approved by the HTII Board of Managers. The term
of the employment agreement is from March 1, 2002 to June 27, 2005 and his
salary is $200,000 per year. His incentive compensation is the economic (but not
tax) equivalent of ownership of 100,000 (non-voting) Heartland Class A
Partnership Units and is payable at the time of any distributions to the
Unitholders. The Phantom Units awarded under the incentive compensation plan are
accounted for in accordance with Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" and related Interpretations.
Compensation expense is recognized when the amount of the underlying
distribution is probable and estimable. Compensation expense of $335,000 has
been recognized in the consolidated statements of operations, of which $59,000
has been paid, for the year ending December 31, 2003. The outstanding balance
owed of $276,000 was paid on January 5, 2004.
Heartland does not maintain any pension, profit-sharing, or similar plan for its
employees. Insurance benefit programs are non-discriminatory. CMC sponsors a
Group Savings Plan, which is a salary reduction plan qualified under Sections
401(a) and (k) of the Internal Revenue Code of 1986. All full-time permanent
employees of CMC are eligible to participate in the plan. In 2003, 2002 and
2001, CMC made matching contributions of 25% of each participant's contribution
to the plan. Participating 1998 employees were fully vested with respect to
salary reduction and CMC's contributions. For all future participants, they are
fully vested with respect to salary reduction immediately, but the matching
contribution vests at 20% per year. Benefits are normally distributed upon
retirement (on or after age 65), death or termination of employment, but may be
distributed prior to termination of employment upon a showing of financial
hardship.
Effective January 1, 2000, the Company approved the CMC Heartland Partners
Incentive Plan ("CMC Plan") and the Sales Incentive Plan ("Sales Plan") to
provide incentives to attract, retain or motivate highly competent employees of
the Company. The aggregate benefits payable under the CMC Plan were computed by
multiplying the following percentages (3% for the year 2001, 2% for the year
2002 and 1% for the year 2003) by the net proceeds from the sale of certain land
parcels during those years. Effective December 31, 2001, the CMC Plan was
amended to vest benefits earned under the CMC Plan as of December 31, 2001 and
provides that earned benefits shall be paid at the time of a cash distribution
to the Unitholders. The CMC Plan was then terminated effective December 31,
2001. The aggregate benefits payable under the Sales Plan were computed by
multiplying 3% for the year 2001 by the net proceeds from the sale of certain
real estate during that year. As of December 31, 2003, $973,000 had been accrued
as compensation expense under the plans of which $481,000 has been paid to the
officers by the Company. The outstanding balance owed of $492,000 was paid on
January 5, 2004.
27
Effective January 1, 2002, the CMC Heartland Partners 2002 Incentive Plan ("2002
CMC Plan") was approved by the Company. The aggregate benefits payable under the
2002 CMC Plan shall be computed by multiplying 2% by the net proceeds from the
sale of certain land parcels for the period January 1, 2002 to December 31,
2004. Three officers of the Company are eligible for benefits under the 2002 CMC
Plan. As of December 31, 2002, $39,000 had been accrued as compensation expense
under the 2002 CMC Plan of which $22,000 had been paid to one of the three
officers. For the year 2003, $542,000 has been accrued as compensation expense
under the 2002 CMC Plan of which $255,000 was paid during the year 2003. The
total for the two years accrued as compensation expense under the 2002 CMC Plan
is $581,000 of which a total of $277,000 has been paid to the three officers.
The outstanding balance owed of $304,000 was paid on January 5, 2004. Also, the
2002 CMC Plan granted three officers the economic (but not tax) equivalent of
ownership of 10,000 (non-voting) Heartland Class A Partnership Units payable at
the time of any distributions to the Unitholders. The Phantom Units awarded
under the CMC Plan are accounted for in accordance with Accounting Principles
Board Opinion No. 25, "Accounting for Stock Issued to Employees" and related
Interpretations. No compensation expense related to these phantom Units has been
recognized in the consolidated statements of operations for the year ended
December 31, 2002. Compensation expense is recognized when the amount of the
underlying distribution is probable and estimable. Compensation expense related
to these Phantom Units of $100,500 has been recognized in the consolidated
statement of operations, of which $19,500 has been paid, for the year ending
December 31, 2003. The outstanding balance owed of $81,000 was paid on January
5, 2004.
Board Compensation Committee Report on Executive Compensation
The General Partner's board of managers makes all decisions related to the
compensation of the Company's executive officers. Executive compensation
generally consists mainly of base salary and bonus based either on sales,
distributions or merit. The general philosophy of the General Partner's board of
managers and the Company's executive officers, including the Chief Executive
Officer, is to relate compensation to overall corporate performance; however, in
the event that the Company begins liquidation proceedings, the General Partner's
board of managers considers retention of the current executive officers,
including the Chief Executive Officer, to be the most important factor in
determining executive compensation. Due to their institutional knowledge, their
understanding of the remaining assets and potential environmental liabilities
associated with those assets, and their expertise with the transactional
requirements related to selling the Company's property, the current executive
officers are in the best position to maximize the value of the Company and
thereby maximize the value of the Units. With this in mind, the General
Partner's board of managers determined that the base compensation for executives
in 2003 would remain unchanged from 2002, except that the Chief Financial
Officer's salary was increased nominally. It was also determined that no new
executive bonus plan would be adopted for 2003, however one individual executive
bonus of $10,000 was approved.
Chief Executive Officer compensation during 2003 was fixed by an Employment
Agreement approved in March 2002 by the General Partner's board of managers. In
determining the Chief Executive Officer's base salary under the Employment
Agreement, the General Partner's board of managers considered his performance
managing and operating the Company and considered how he might lead the Company
in the future.
Item 12. Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder Matters.
Securities Authorized for Issuance Under Equity Compensation Plans
None
Security Ownership of Certain Beneficial Owners
At March 30, 2004 there are no persons who are known by Heartland to be
beneficial owners of more than 5% of Heartland's outstanding Units.
28
Security Ownership of Management
Set forth below is certain information concerning the beneficial ownership of
Units by each current director of HTI, each manager of HTI Interest, LLC, by
each named executive officer of CMC and by all directors and executive officers
of HTI and all executive officers of CMC as a group, as of March 30, 2004:
Name of Beneficial
Owner and Number of Number of
Persons in Group (i) Units Owned Percent
- ----------------------------------------- ---------------- ---------------
Lawrence S. Adelson 15,000 .7%
Daniel L. Bernardi --- ---%
Richard P. Brandstatter --- ---%
Robert S. Davis --- ---%
Charles J. Harrison --- ---%
Edwin Jacobson (ii) 36,400 1.7%
Susan Tjarksen Roussos --- ---%
John R. Torell III --- ---%
Ezra K. Zilkha (iii) 80,500 3.9%
All directors and executive
officers as a group (9 persons) 131,900 6.3%
(i) Nature of ownership is direct, except as otherwise indicated herein.
Unless shown, ownership is less than 1% of class.
(ii) Included in the table are 9,400 units held by Mr. Jacobson's wife as to
which Mr. Jacobson shares voting and dispositive power.
(iii) Included in the table are 24,500 Units owned by Zilkha & Sons, Inc., with
respect to which Mr. Zilkha may be deemed to be the beneficial owner.
Item 13. Certain Relationships and Related Transactions.
Management Agreement
Heartland has a management agreement with HTII pursuant to which Heartland is
required to pay HTII an annual