Back to GetFilings.com

Table of Contents

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

(Mark One)

For the fiscal year ended December 31, 2003

OR

For the transition period from                                 to                                 

Commission file number 0-16518

WELLS REAL ESTATE FUND II

(Exact name of registrant as specified in its charter)

Securities registered pursuant to Section 12 (g) of the Act:

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 ¨

Aggregate market value of the voting stock held by nonaffiliates:    Not Applicable

Table of Contents

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

Certain statements contained in this Form 10-K of Wells Real Estate Fund II (the “Partnership”) other than historical facts may be considered forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Such statements include, in particular, statements about our plans, strategies and prospects and are subject to certain risks and uncertainties, as well as known and unknown risks, which could cause actual results to differ materially from those projected or anticipated. Therefore, such statements are not intended to be a guarantee of our performance in future periods. Such forward-looking statements can generally be identified by our use of forward-looking terminology such as “may,” “will,” “expect,” “intend,” “anticipate,” “estimate,” “believe,” “continue,” or other similar words. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date this report is filed with the Securities and Exchange Commission. Neither the Partnership nor the general partners make any representations or warranties (expressed or implied) about the accuracy of any such forward-looking statements. Actual results could differ materially from any forward-looking statements contained in this Form 10-K, and we do not intend to publicly update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise.

Any such forward-looking statements are subject to known and unknown risks, uncertainties and other factors and are based on a number of assumptions involving judgments with respect to, among other things, future economic, competitive and market conditions, all of which are difficult or impossible to predict accurately. To the extent that our assumptions differ from actual results, our ability to meet such forward-looking statements, including our ability to generate positive cash flow from operations; provide distributions to limited partners; and maintain the value of our real estate properties, may be significantly hindered. Following are some of the risks and uncertainties, although not all risks and uncertainties, which could cause actual results to differ materially from those presented in certain forward-looking statements:

General economic risks

Real estate risks

Page 1

Table of Contents

Other operational risks

Page 2

Table of Contents

PART I

General

Wells Real Estate Fund II (the “Partnership”) is a Georgia public limited partnership with Leo F. Wells, III and Wells Capital, Inc. (“Wells Capital”), a Georgia corporation, serving as its general partners (the “General Partners”). The Partnership was formed on June 23, 1986 for the purpose of acquiring, developing, constructing, owning, operating, improving, leasing, and managing income-producing properties for investment purposes. The Partnership has two classes of limited partnership interests, Class A and Class B Units. Limited partners may vote to, among other things, (a) amend the partnership agreement, subject to certain limitations; (b) change the business purpose or investment objectives of the Partnership; and (c) add or remove a general partner. A majority vote on any of the above-described matters will bind the Partnership without the concurrence of the General Partners. Each limited partnership unit has equal voting rights regardless of class.

On September 8, 1986, the Partnership commenced an offering of up to $50,000,000 of Class A or Class B limited partnership units ($250.00 per unit) pursuant to a Registration Statement filed on Form S-11 under the Securities Act of 1933. The offering was terminated on September 7, 1988 at which time the Partnership had sold approximately 139,793 Class A Units and Class B Units representing capital contributions of $34,948,250 from investors who were admitted to the Partnership as limited partners. Following the termination of the offering, the Partnership repurchased 1,000 limited partnership units.

Management believes that the Partnership would ideally operate through the course of the following five key life cycle phases. The time spent in each phase is dependent upon various economic, industry, market, and other internal/external factors. Some overlap naturally exists in the transition from one phase to the next.

The period during which the Partnership is raising capital through the sale and issuance of limited partner units to the public

The period during which the Partnership invests the capital raised during the fund-raising phase, less upfront fees, into the acquisition of real estate assets

The period during which real estate assets are owned and operated by the Partnership during the initial lease terms of the tenants

The period during which the leases in place at the time of acquisition expire and, thus, the Partnership expends time, effort, and funds to re-lease such space to existing and/or new tenants. Following the holding phase, the Partnership continues to own and operate the real estate assets, evaluate various options for disposition, and market the real estate assets for sale

The period during which the Partnership sells its real estate investments and distributes net sales proceeds to the partners

Currently, management believes that the Partnership generally straddles the positioning-for-sale phase and the disposition and liquidation phase and, accordingly, will focus resources primarily on positioning its properties for sale and locating and negotiating with prospective acquirers of properties owned through affiliated joint ventures.

Page 3

Table of Contents

Cash management is a chief area of focus for the Partnership. Historically, the Partnership has not taken out borrowings from third-party lenders and, while operating cash flows and net property sales proceeds are withheld to provide for known events from time to time, the Partnership does not maintain as a general rule cash reserves for unknown events. Instead, management prefers to maximize operating cash flows distributed to investors commensurate with the period earned; however, it is likely that, in connection with the re-leasing of certain of the Partnership’s properties, the Partnership may be required to use cash flow from operations and/or net sale proceeds from the sale of the Partnership’s properties, which would otherwise be available for distribution to limited partners, to fund tenant improvements, leasing commissions, and other leasing costs associated with such re-leasing efforts. The Partnership’s cash needs evolve during the course of its life cycle and, accordingly, volatility in operating returns is a natural and expected part of the process.

Employees

The Partnership has no direct employees. The employees of Wells Capital and Wells Management Company, Inc. (“Wells Management”), an affiliate of the General Partners, perform a full range of real estate services including leasing and property management, accounting, asset management and investor relations for the Partnership. See Item 11, “Compensation of General Partners and Affiliates,” for a summary of the fees paid to the General Partners and their affiliates during the year ended December 31, 2003.

Insurance

Wells Management carries comprehensive liability and extended coverage with respect to the properties owned by the Partnership through its investment in Fund II and Fund II-OW. In the opinion of management, all such properties are adequately insured.

Competition

The Partnership will experience competition for tenants from owners and managers of competing projects which may include the General Partners and their affiliates. As a result, the Partnership may provide free rent, reduced charges for tenant improvements, and other inducements, all of which may have an adverse impact on results of operations. At the time the Partnership elects to dispose of its properties, the Partnership will also be in competition with sellers of similar properties to locate suitable purchasers for its properties.

Page 4

Table of Contents

The Partnership owns interests in all of its real estate assets through a joint venture, Fund II and Fund II-OW, which owns interests in real estate assets both directly and through joint ventures with other Wells Real Estate Funds. During the periods presented, the Partnership owned interests in the following six properties through the affiliated joint ventures listed below (the “Joint Ventures”):

Each of the aforementioned properties was acquired on an all-cash basis. The investment objectives of each of the joint venture partners listed in the above table are substantially identical to those of the Partnership. The Partnership does not have control over the operations of Fund II and Fund II-OW; however, it does exercise significant influence. Accordingly, investments in Fund II and Fund II-OW are recorded using the equity method of accounting. For further information regarding the Joint Ventures and properties, refer to the footnotes to the financial statements included herein.

Page 5

Table of Contents

As of December 31, 2003, the lease expirations scheduled during each of the following ten years for all properties in which the Partnership owned an interest through the Joint Ventures described above, assuming no exercise of renewal options or termination rights, are summarized below:

The Joint Ventures and properties in which the Partnership owns an interest during the periods presented are further described below:

Louis Rose Building

On May 9, 1988, Fund II and Fund II-OW acquired the Louis Rose Building, a two-story office building containing approximately 70,752 net leaseable square feet, located on a 9.54-acre tract of land located in Charlotte, Mecklenburg County, North Carolina.

The Louis Rose Building continues to remain vacant following the expiration of the First Union Bank lease on April 30, 2001. Accordingly, the Partnership’s revenues have declined by approximately $313,000 annually in comparison with 2001 results when this property was at full occupancy. The submarket in which this property is located, University Research Park, contains approximately 2.2 million square feet of office space within approximately 30 buildings and is currently experiencing an overall average vacancy rate of approximately 30%. The over-supply of office space in the area has resulted in substantial downward pressure on rental rates for Class A office buildings; however, we are continuing our efforts to market this property to potential users of office space of this type. Significant leasing commissions and capital improvements are anticipated to be required in connection with the re-leasing of this property.

The average effective annual rental rate per square foot of the Louis Rose Building was $0 for 2003 and 2002, $3.98 for 2001, $11.93 for 2000, and $10.14 for 1999.

Fund I-II-IIOW-VI-VII Associates

Fund I-II-IIOW-VI-VII Associates was formed for the purpose of developing, owning and operating Cherokee Commons, a retail shopping center comprised of approximately 104,000 net rentable square feet located in metropolitan Atlanta, Cherokee County, Georgia. Cherokee Commons was initially acquired and developed

Page 6

Table of Contents

through a joint venture between Fund II and Fund II-OW and Wells Real Estate Fund I. On August 1, 1995, the joint venture between Fund II and Fund II-OW and Wells Real Estate Fund I contributed Cherokee Commons, and Wells Real Estate Fund VI, L.P. and Wells Real Estate Fund VII, L.P. contributed approximately $1 million each in order to fund the additional build-out of Cherokee Commons upon the formation of Fund I-II-IIOW-VI-VII Associates.

On October 1, 2001, Fund I-II-IIOW-VI-VII Associates sold Cherokee Commons for net sale proceeds of $8,414,089 and recognized a gain of $1,725,015 on the sale, of which approximately $4,276,000 and $877,000, respectively, were allocated to the Partnership.

The average effective rental rate per square foot at Cherokee Commons was $7.31 through September 30, 2001, $9.31 for 2000, and $9.11 for 1999.

Fund I-II Tucker Associates

On December 10, 1986, Fund I-II Tucker Associates was formed for the purpose of investing in commercial real estate properties. As of December 31, 2003, Fund II and Fund II-OW and Wells Real Estate Fund I held equity interests of approximately 48% and 52%, respectively, in the following property based on their respective cumulative capital contributions to Fund I-II Tucker Associates:

Heritage Place

Fund I-II Tucker Associates developed and constructed Heritage Place, a retail shopping center containing approximately 29,858 square feet and a commercial office building complex containing approximately 67,212 square feet and located in Tucker, DeKalb County, Georgia.

On April 7, 2003, the Fund I-II Tucker Associates sold the retail portion of Heritage Place, which comprises approximately 30% of the total premises. The retail portion of Heritage Place was sold for a gross sales price of $3,400,000, resulting in a gain of approximately $293,000, net of selling expenses of approximately $158,000. As a result of this sale, net sales proceeds of approximately $1,461,000 and a gain of approximately $133,000 were allocated to the Partnership.

No individual tenant occupied ten percent or more of the total rentable square footage of the property as of December 31, 2003. The principal businesses of the tenants at Heritage Place include primarily commercial office services.

The average effective annual rental rate per square foot at Heritage Place was $10.90 for 2003, $12.66 for 2002, $13.66 for 2001, $14.29 for 2000, and $14.11 for 1999.

Fund II-III Associates

On April 3, 1989, Fund II-III Associates was formed for the purposes of developing, constructing, operating, and selling commercial and industrial real properties. As of December 31, 2003, Fund II and Fund II-OW and Wells Real Estate Fund III, L.P. held equity interests of approximately 63% and 37%, respectively, in the following two properties based on their respective cumulative capital contributions to Fund II-III Associates:

Page 7

Table of Contents

Boeing at the Atrium

In April 1989, Fund II-III Associates acquired a four-story office building located on a 5.6-acre tract of land adjacent to the Johnson Space Center in metropolitan Houston, in the City of Nassau Bay, Harris County, Texas, known as Boeing at the Atrium.

In March 2002, Boeing/Shuttle Division (“Boeing”) entered into a lease for the top three floors of the four-story Boeing at the Atrium (94,203 sq. ft.) commencing on September 1, 2002 for approximately six years with annual base rent payable of $1,483,698. Boeing has since entered into the following three amendments: amendment #1 – to lease an additional 296 square feet with annual rent of $4,662, commencing October 1, 2002; amendment #2 – to lease an additional 11,515 square feet with annual rent of $181,365, commencing January 6, 2003; and amendment #3 – to lease an additional 10,449 square feet with annual rent of $164,572, commencing July 1, 2003. As of December 31, 2003, Boeing occupied 100% of this property.

The average effective rental rate per square foot at Boeing at the Atrium was $14.45 for 2003, $6.05 for 2002, $12.35 for 2001, $12.34 for 2000, and $12.35 for 1999.

Brookwood Grill

On January 31, 1990, Fund II and Fund II-OW acquired a 5.8-acre tract of undeveloped real property at the intersection of Warsaw Road and Holcomb Bridge Road in Roswell, Fulton County, Georgia (the “Brookwood Property”). On September 20, 1991, Fund II and Fund II-OW contributed its interest in this 5.8-acre parcel of land, along with its interest as landlord under the lease agreement referred to below, as a capital contribution to Fund II-III Associates. As of September 20, 1991, Fund II and Fund II-OW had expended approximately $2,128,000 for the land acquisition and development of the Brookwood Property. Once constructed, the property became known as the Brookwood Grill.

In September 1991, a lease agreement was entered into with the Brookwood Grill of Roswell, Inc., which included the development of approximately 1.5 acres and construction of a 7,440-square-foot restaurant, which opened in March 1992. The terms of the lease call for an initial term of nine years and eleven months. Brookwood Grill entered into a ten-year extension after the initial lease term, which expires on February 29, 2012. Pursuant to the terms of the current lease, the tenant has the option to exercise two additional five-year renewal options upon expiration.

The average effective rental rate per square foot at the Brookwood Grill was $39.61 for 2003, $27.04 for 2002, $31.56 for 2001, and $30.22 for 2000 and 1999.

Fund II-III-VI-VII Associates

On January 10, 1995, Fund II-III-VI-VII Associates was formed for the purpose of developing, constructing, owning, and operating the Holcomb Bridge Property. As of December 31, 2003, Fund II-III Associates, Wells Real Estate Fund VI, L.P., and Wells Real Estate Fund VII, L.P. owned approximately 24%, 26%, and 50%, respectively, of the following property based on their respective cumulative capital contributions to Fund II-III-VI-VII Associates:

Holcomb Bridge Property

In January 1995, Fund II-III Associates contributed approximately 4.3 acres of the Brookwood Property, including land improvements, to Fund II-III-VI-VII Associates for the development and construction of two

Page 8

Table of Contents

buildings containing a total of approximately 49,500 square feet. Upon construction, this property became known as the Holcomb Bridge Property.

As of December 31, 2003, four tenants occupied approximately 57% of the Holcomb Bridge Property, with two tenants, Bertucci’s Restaurant and American Trust Bancorp, occupying approximately 12% and 26% under leases for approximately 5,935 square feet and 12,786 square feet, respectively. The Bertucci’s Restaurant lease requires annual base rental payments of $127,850 and expires in February 2006. The American Trust Bancorp lease requires annual base rental payments of $140,646 and expires in July 2013. During 2003, occupancy of the Holcomb Bridge Property increased from approximately 60% to approximately 83%. Management is actively seeking replacement tenants for the vacant space at this property.

The average effective annual rental rate per square foot at the Holcomb Bridge Property was $12.92 for 2003, $12.97 for 2002, $17.07 for 2001, $17.55 for 2000, and $19.36 for 1999.

There were no material pending legal proceedings or proceedings known to be contemplated by governmental authorities involving the Partnership during the fourth quarter of 2003.

No matters were submitted to a vote of the limited partners during the fourth quarter of 2003.

PART II

As of February 15, 2004, the Partnership had 108,572 outstanding Class A Units held by a total of 3,296 limited partners and 30,221 outstanding Class B Units held by a total of 758 limited partners. The total number of limited partners has decreased due to repurchase of units since the termination of the offering in 1988. The capital contribution per unit is $250. There is no established public trading market for the Partnership’s limited partnership units, and it is not anticipated that a public trading market for the units will develop. Under the partnership agreement, the General Partners have the right to prohibit transfers of units.

Class A Unit holders are entitled to an annual 8% noncumulative distribution preference over Class B Unit holders as to cash distributions from net cash from operations, defined in the partnership agreement as cash flow, less adequate cash reserves for other obligations of the Partnership for which there is no provision, but are initially allocated none of the depreciation, amortization, cost recovery, and interest expense. These items are allocated to Class B Unit holders until their capital account balances have been reduced to zero.

Page 9

Table of Contents

Cash available for distribution to the limited partners is distributed on a quarterly basis. Cash distributions made to the limited partners during 2003 and 2002 were as follows:

The Partnership has reserved distributions to limited partners from the first quarter of 2002 through the fourth quarter of 2003 as a result of the vacancy of Louis Rose Building effective April 30, 2001, and in order to fund tenant improvements and leasing costs incurred in connection with the Boeing at the Atrium lease renewals described in Item 2 above.

The following sets forth a summary of the selected financial data as of and for the fiscal years ended December 31, 2003, 2002, 2001, 2000, and 1999:

Page 10

Table of Contents

The following discussion and analysis should be read in conjunction with the Selected Financial Data presented in Item 6 and our accompanying financial statements and notes thereto.

(a)    Overview

Currently, management believes that the Partnership generally straddles the positioning for sale phase and the disposition and liquidation phase. Upon investing all capital proceeds and exiting the investing phase, the Partnership owned interests in six properties through interests in the Joint Ventures. As of the date of this filing, two properties are fully leased to tenants under renewed lease terms, one property is approximately 83% leased, one property is vacant, one property was sold in 2001, and part of one property was sold in 2003, while the remainder of this property is 51% occupied as of December 31, 2003.

As the Partnership evolves through the life cycle detailed in Item 1, our most significant risks and challenges continue to evolve concurrently. During the positioning for sale phase, we will cont