Attached files
| file | filename |
|---|---|
| EX-32.2 - EXHIBIT 32.2 - Resource Income Opportunity REIT, Inc. | rioreit-20170331xex322.htm |
| EX-32.1 - EXHIBIT 32.1 - Resource Income Opportunity REIT, Inc. | rioreit-20170331xex321.htm |
| EX-31.2 - EXHIBIT 31.2 - Resource Income Opportunity REIT, Inc. | rioreit-20170331xex312.htm |
| EX-31.1 - EXHIBIT 31.1 - Resource Income Opportunity REIT, Inc. | rioreit-20170331xex311.htm |
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
þ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended March 31, 2017
o | 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 333-201842
Resource Income & Opportunity REIT, Inc.
(Exact name of registrant as specified in its charter)
Maryland | 80-0854717 | |
(State or other jurisdiction of | (I.R.S. Employer | |
incorporation or organization) | Identification No.) | |
1845 Walnut Street, 18th Floor, Philadelphia, PA, 19103 |
(Address of principal executive offices) (Zip code) |
(215) 231-7050 |
(Registrant's telephone number, including area code) |
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 þ No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer o | Accelerated filer o | |
Non-accelerated filer o | (Do not check if a smaller reporting company) | Smaller reporting company þ |
Emerging growth company þ | ||
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. þ
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes o No þ
As of May 10, 2017, the registrant had 326,637 shares of Class A common stock outstanding and 232,161 shares of Class AA common stock outstanding.
RESOURCE INCOME & OPPORTUNITY REIT, INC.
INDEX TO QUARTERLY REPORT
ON FORM 10-Q
PAGE | ||
PART I | FINANCIAL INFORMATION | |
ITEM 1. | Financial Statements | |
ITEM 2. | ||
ITEM 3. | ||
ITEM 4. | ||
PART II | OTHER INFORMATION | |
ITEM 1. | ||
ITEM 1A. | ||
ITEM 2. | ||
ITEM 6. | ||
Forward-Looking Statements
Certain statements included in this Quarterly Report on Form 10-Q are forward-looking statements. Forward-looking statements relate to expectations, beliefs, projections, future plans and strategies, anticipated events or trends and similar expressions concerning matters that are not historical facts. In some cases, you can identify forward-looking statements by terms such as “anticipate,” “believe,” “could,” “estimate,” “expects,” “intend,” “may,” “plan,” “potential,” “project,” “should,” “will” and “would” or the negative of these terms or other comparable terminology. Actual results may differ materially from those contemplated by such forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. We undertake no obligation to publicly revise or update these forward-looking statements to reflect events or circumstances after the date of this report, except as may be required under applicable law.
All forward-looking statements should be read in light of the risks described above and identified in the “Risk Factors” section of our Annual Report on Form 10-K for the year ended December 31, 2016 filed with the Securities and Exchange Commission.
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
RESOURCE INCOME & OPPORTUNITY REIT, INC.
CONSOLIDATED BALANCE SHEETS
March 31, 2017 | December 31, 2016 | |||||||
(unaudited) | ||||||||
ASSETS | ||||||||
Investments: | ||||||||
Rental property, net | $ | 6,447,008 | $ | 6,506,252 | ||||
Identified intangible assets, net | 801,676 | 864,103 | ||||||
7,248,684 | 7,370,355 | |||||||
Cash | 1,858,785 | 1,179,747 | ||||||
Restricted cash | 19,416 | 39,975 | ||||||
Tenant receivables | 46,527 | 53,473 | ||||||
Due from related parties | 1,715 | 304 | ||||||
Contributions receivable | — | 40,000 | ||||||
Deposits | 2,961 | 2,100 | ||||||
Deferred rent | 7,527 | — | ||||||
Prepaid expenses and other assets | 165,862 | 159,655 | ||||||
Deferred offering costs | 4,548,103 | 3,968,481 | ||||||
Total assets | $ | 13,899,580 | $ | 12,814,090 | ||||
LIABILITIES AND EQUITY | ||||||||
Liabilities: | ||||||||
Mortgage note payable, net | $ | 4,607,135 | $ | 4,622,884 | ||||
Accounts payable and accrued expenses | 246,073 | 233,168 | ||||||
Due to related parties | 6,550,885 | 5,599,300 | ||||||
Deferred revenue | — | 13,323 | ||||||
Below market leases, net | 110,468 | 114,559 | ||||||
Security deposits | 146,500 | 146,500 | ||||||
Distributions payable | 14,914 | 12,927 | ||||||
Total liabilities | 11,675,975 | 10,742,661 | ||||||
Stockholders' equity: | ||||||||
Preferred stock (par value $0.01; 100,000,000 shares authorized, none issued and outstanding) | — | — | ||||||
Class A common stock, par value $0.01; 125,000,000 shares authorized, 326,530 (including 3,233 shares declared as a stock dividend on February 16, 2017 and issued on April 13, 2017 and 6,000 unvested restricted shares) and 309,952 (including 1,542 shares declared as a stock dividend on November 26, 2016 and issued on January 13, 2017 and 6,000 unvested restricted shares) issued and outstanding respectively; | 3,265 | 3,100 | ||||||
Class T common stock, par value $0.01; 275,000,000 shares authorized, 226,760 (including 2,245 shares declared as a stock dividend on February 16, 2017 and issued on April 13, 2017) and 155,728 (including 775 shares declared as a stock dividend on November 26, 2016 and issued on January 13, 2017) issued and outstanding, respectively; | 2,268 | 1,557 | ||||||
Additional paid-in capital | 4,341,215 | 3,623,957 | ||||||
Accumulated other comprehensive loss | (16,656 | ) | (12,487 | ) | ||||
Accumulated deficit | (2,106,487 | ) | (1,544,698 | ) | ||||
Total stockholders' equity | 2,223,605 | 2,071,429 | ||||||
Total liabilities and equity | $ | 13,899,580 | $ | 12,814,090 | ||||
The accompanying notes are an integral part of these consolidated financial statements.
RESOURCE INCOME & OPPORTUNITY REIT, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
Three months ended | |||||||
March 31, | |||||||
2017 | 2016 | ||||||
Revenues: | |||||||
Rental income | $ | 158,134 | $ | — | |||
Tenant reimbursements | 14,038 | — | |||||
Total revenues | 172,172 | — | |||||
Expenses: | |||||||
Rental operating | 24,889 | — | |||||
Real estate taxes | 25,005 | — | |||||
Property management fees | 6,000 | — | |||||
Asset management fees- related party | 19,268 | — | |||||
General and administrative | 425,538 | 31,876 | |||||
Depreciation and amortization expense | 111,167 | — | |||||
Total expenses | 611,867 | 31,876 | |||||
Loss before other income (expense) | (439,695 | ) | (31,876 | ) | |||
Other income (expense): | |||||||
Interest income | 364 | 562 | |||||
Interest expense | (46,451 | ) | — | ||||
Total other income (expense) | (46,087 | ) | 562 | ||||
Net loss | $ | (485,782 | ) | $ | (31,314 | ) | |
Other comprehensive loss: | |||||||
Designated derivative, fair value adjustment | (4,169 | ) | — | ||||
Comprehensive loss | $ | (489,951 | ) | $ | (31,314 | ) | |
Class A Common Stock: | |||||||
Net loss attributable to Class A common stockholders | $ | (299,872 | ) | $ | (31,314 | ) | |
Net loss per Class A share, basic and diluted | $ | (0.95 | ) | $ | (0.23 | ) | |
Weighted average number of Class A common shares outstanding, basic and diluted | 315,451 | 136,806 | |||||
Class T Common stock: | |||||||
Net loss attributable to Class T common stockholders | $ | (185,910 | ) | $ | — | ||
Net loss per Class T share, basic and diluted | $ | (0.97 | ) | $ | — | ||
Weighted average number of Class T common shares outstanding, basic and diluted | 190,939 | — | |||||
The accompanying notes are an integral part of these consolidated financial statements.
RESOURCE INCOME & OPPORTUNITY REIT, INC.
CONSOLIDATED STATEMENT OF CHANGES IN EQUITY
FOR THE THREE MONTHS ENDED MARCH 31, 2017
(unaudited)
Common Stock | Additional Paid In Capital | Accumulated Other Comprehensive Loss | (Accumulated Deficit) | Total Stockholders' Equity | ||||||||||||||||||||||||||
Shares | Amount | |||||||||||||||||||||||||||||
A Shares | T Shares | A Shares | T Shares | |||||||||||||||||||||||||||
Balance at January 1, 2017 | 309,952 | 155,728 | $ | 3,100 | $ | 1,557 | $ | 3,623,957 | $ | (12,487 | ) | $ | (1,544,698 | ) | $ | 2,071,429 | ||||||||||||||
Issuance of common stock, net | 13,030 | 68,506 | 130 | 685 | 770,434 | — | — | 771,249 | ||||||||||||||||||||||
Offering costs (including commissions) | — | — | — | — | (116,722 | ) | — | — | (116,722 | ) | ||||||||||||||||||||
Distributions declared | — | — | — | — | — | — | (22,416 | ) | (22,416 | ) | ||||||||||||||||||||
Stock distributions | 3,233 | 2,245 | 32 | 23 | 53,536 | — | (53,591 | ) | — | |||||||||||||||||||||
Common stock issued through distribution reinvestment plan | 315 | 281 | 3 | 3 | 5,572 | — | — | 5,578 | ||||||||||||||||||||||
Stock based compensation | — | — | — | — | 4,438 | — | — | 4,438 | ||||||||||||||||||||||
Other comprehensive loss | — | — | — | — | — | (4,169 | ) | — | (4,169 | ) | ||||||||||||||||||||
Net loss | — | — | — | — | — | — | (485,782 | ) | (485,782 | ) | ||||||||||||||||||||
Balance as of March 31, 2017 | 326,530 | 226,760 | $ | 3,265 | $ | 2,268 | $ | 4,341,215 | $ | (16,656 | ) | $ | (2,106,487 | ) | $ | 2,223,605 | ||||||||||||||
The accompanying notes are an integral part of these consolidated financial statements.
RESOURCE INCOME & OPPORTUNITY REIT, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
Three Months Ended March 31, | ||||||||
2017 | 2016 | |||||||
Cash flows from operating activities: | ||||||||
Net loss | $ | (485,782 | ) | $ | (31,314 | ) | ||
Adjustments to reconcile net loss to net cash (used in) provided by operating activities | ||||||||
Depreciation and amortization | 111,167 | — | ||||||
Amortization of deferred financing costs | 8,251 | — | ||||||
Amortization of above and below market leases, net | 6,413 | — | ||||||
Stock based compensation | 4,438 | — | ||||||
Change in operating assets and liabilities: | ||||||||
Restricted cash | 20,559 | — | ||||||
Tenant receivables | 6,946 | — | ||||||
Deferred rent | (20,850 | ) | — | |||||
Due from related party | (1,411 | ) | 300 | |||||
Prepaid expenses and other assets | (11,237 | ) | — | |||||
Due to related parties | 411,892 | 31,806 | ||||||
Accounts payable and accrued expenses | (70,408 | ) | — | |||||
Net cash (used in) provided by operating activities | (20,022 | ) | 792 | |||||
Cash flows from financing activities: | ||||||||
Net proceeds from issuance of common stock | 737,912 | 2,050,000 | ||||||
Repayments on borrowings | (24,000 | ) | — | |||||
Distributions paid on common stock | (14,852 | ) | — | |||||
Net cash provided by financing activities | 699,060 | 2,050,000 | ||||||
Net increase in cash | 679,038 | 2,050,792 | ||||||
Cash at beginning of period | 1,179,747 | 205,185 | ||||||
Cash at end of period | $ | 1,858,785 | $ | 2,255,977 | ||||
The accompanying notes are an integral part of these consolidated financial statements.
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2017
(unaudited)
NOTE 1 – NATURE OF BUSINESS AND OPERATIONS
Resource Income & Opportunity REIT, Inc., (formerly Resource Innovation Office REIT, Inc.) (the “Company”) was organized in Maryland on June 25, 2014. As of March 31, 2017, the Company was offering up to $1.1 billion of shares of its common stock, consisting of up to $1.0 billion of shares in its primary offering in any combination of Class A and Class T shares and up to $100.0 million of shares pursuant to its distribution reinvestment plan (the "DRIP") in any combination of Class A and Class T shares. As of March 31, 2017, the offering price for shares in the primary offering was $10.00 per share for Class A and $9.47 per share for Class T. The offering price for shares offered pursuant to the DRIP was $9.60 per share for Class A and $9.09 per share for Class T.
On February 16, 2016, the Company satisfied the $2.0 million minimum offering amount for its initial public offering, excluding shares purchased by residents of Pennsylvania, New York and Washington. As a result, the Company has broken escrow and issued shares of common stock in the offering. In June 2016, the Company broke escrow in New York. Subscription payments received from residents of Pennsylvania and Washington will continue to be held in escrow until the Company has received aggregate subscriptions of at least $50.0 million and $10.0 million, respectively. Having raised the minimum offering, the offering proceeds were released by the escrow agent to the Company and were available for the acquisition of properties and other purposes disclosed in our prospectus dated March 23, 2016 as filed with the United States Securities and Exchange Commission ("SEC").
As described below in “Note 12-Subsequent Events,” on April 21, 2017, the board of directors of the Company (the “Board”) unanimously approved the suspension of sales of shares in the primary offering and the suspension of the DRIP, effective April 21, 2017 and May 21, 2017, respectively. The Company anticipates resuming sales under the primary offering and amending and reinstating the DRIP in connection with a restructuring of the Company’s initial public offering, as described below. In addition, on April 21, 2017, the Board unanimously (i) approved the suspension of the Company’s share repurchase program (“SRP”), effective May 21, 2017; and (ii) authorized management to cause the Company to make a tender offer for all of Class A and Class T shares issued and outstanding as of a date to be determined by the Company’s management that is subsequent to May 21, 2017, the date on which the suspension of the SRP becomes effective. See “Note 12-Subsequent Events.” Specific terms of such tender offer will be disclosed in the Company’s future public filings in accordance with applicable regulations.
Additionally, as described below in “Note 12-Subsequent Events,” on May 5, 2017, the Company filed Articles of Amendment to its Second Articles of Amendment and Restatement (the “Articles of Amendment”) with the State Department of Assessments and Taxation of Maryland (“SDAT”). The Articles of Amendment (1) changed the name of the Company from “Resource Innovation Office REIT, Inc.” to “Resource Income & Opportunity REIT, Inc.” and (2) renamed all of the Company’s Class T shares of common stock as Class AA shares of common stock. The Articles of Amendment took effect immediately upon filing with SDAT. Also on May 5, 2017, the Company filed Pre-Effective Amendment No. 1 to Post-Effective Amendment No. 7 to its Registration Statement on Form S-11 (the “Amended Registration Statement”) with the SEC. The Amended Registration Statement contains proposed terms of the restructuring of the Company’s initial public offering and has not been declared effective by the SEC. The Company qualifies as an emerging growth company and has adopted a fiscal year ending December 31. Resource Innovation Office Advisor, LLC (the "Advisor"), which is an indirect wholly-owned subsidiary of Resource America, Inc. (“RAI”) contributed $200,000 to the Company in exchange for 14,815 shares of common stock on July 30, 2014.
On December 30, 2014, the Company paid a stock dividend of one-half of a share of common stock for each outstanding share of common stock. In April 2015, Resource Innovation Office SLP, LLC, a wholly-owned subsidiary of the Advisor, contributed $5,000 to Resource Innovation Office OP, LP, the Company's operating partnership (the "OP"), in exchange for 500 special limited partnership units. On September 29, 2015, the Company converted all outstanding shares of its common stock to Class A shares. On February 16, 2016, RAI contributed $2.0 million in exchange for 222,227 shares of Class A common stock.
RAI is a wholly-owned subsidiary of C-III Capital Partners, LLC ("C-III"), a leading commercial real estate services company engaged in a broad range of activities. C-III controls our Advisor, Resource Securities, Inc., (“Resource Securities”) the Company's dealer manager, and Resource Innovation Office Manager, LLC, the Company's property manager; C-III also controls all of the shares formerly held by RAI.
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2017
(unaudited)
As of March 31, 2017, the Company expected that its portfolio would consist primarily of office buildings that are located in U.S. cities that attract a young, creative and educated labor force and provide a collaborative office environment to companies competing for talented employees. The Company also expected that, to a lesser extent, its portfolio would consist of real estate debt which is secured by office buildings having the same characteristics. The Company currently does not expect that debt investments will comprise more than 25% of its portfolio, following the investment of all of the net proceeds from its primary offering. The Company cannot predict, however, the actual allocation of net proceeds from its offering between property acquisitions and debt investments at this time because this allocation will depend, in part, on market conditions and investment opportunities and on the amount of financing that the Company is able to obtain with respect to the types of assets in which it seeks to invest. As of March 31, 2017, the Company had invested in one commercial real estate asset.
In order to adapt to current market conditions, the Board has authorized the Company’s management to develop a proposal to be considered by the Board at a future date to restructure the Company’s initial public offering in order to allow the Company to achieve the following objectives:
(i) revising the Company’s fee structure in order to reduce the upfront fees paid by investors and reduce compensation to Resource Innovation Office Advisor, LLC (the “Advisor”);
(ii) creating new share classes of the Company’s common stock to be sold in the Offering, which will have a public offering price equal to the net asset value (“NAV”) per share of each such class plus applicable selling commissions and dealer manager fees, and updating the Company’s NAV daily;
(iii) amending the SRP to provide additional liquidity to the Company’s stockholders;
(iv) amending the Company’s investment guidelines to allow the Company to target additional sectors of real estate assets; and
(v) changing the Company into a perpetual-life entity that has the ability to conduct offerings for an indefinite duration.
On May 5, 2017, the Board approved the proposal that included the above objectives and the Company filed the Amended Registration Statement with the SEC as described above and in "Note 12-Subsequent Events". The Amended Registration Statement contains proposed terms of the restructuring of the Company’s initial public offering and has not been declared effective by the SEC.
The Company intends to elect and qualify to be taxed as a real estate investment trust (“REIT”) for U.S. federal income tax purposes under the provisions of the Internal Revenue Code of 1986, as amended, commencing with its taxable year ending December 31, 2018. As such, to maintain its REIT qualification for U.S. federal income tax purposes, the Company is generally required to distribute at least 90% of its net income (excluding net capital gains) to its stockholders as well as comply with certain other requirements. Accordingly, the Company generally will not be subject to U.S. federal income taxes to the extent that it annually distributes all of its REIT taxable income to its stockholders. The Company also intends to operate its business in a manner that will permit it to maintain its exemption from registration under the Investment Company Act of 1940, as amended.
The consolidated financial statements and the information and tables contained in the notes thereto as of March 31, 2017, are unaudited. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America ("GAAP") have been condensed or omitted pursuant to the rules and regulations of the SEC. However, in the opinion of management, these interim financial statements include all the necessary adjustments to fairly present the results of the interim periods presented. The unaudited interim consolidated financial statements should be read in conjunction with the audited consolidated financial statements included in the Company's Annual Report on Form 10-K for the year ended December 31, 2016. The consolidated balance sheet as of December 31, 2016 was derived from the audited consolidated financial statements as of and for the year ended December 31, 2016. The results of operations for the three months ended March 31, 2017 may not necessarily be indicative of the results of operations for the full year ending December 31, 2017.
NOTE 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accounting and reporting policies of the Company conform to GAAP.
Principles of Consolidation
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
MARCH 31, 2017
(unaudited)
The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries as follows:
Subsidiaries |
Resource Innovation Office Holdings, LLC |
Resource Innovation Office OP, LP |
RRE Sunnyside Holdings, LLC |
The Company's only investment property ("Sunnyside") is owned through RRE Sunnyside Holdings, LLC, which is a wholly-owned subsidiary of the OP. All intercompany accounts and transactions have been eliminated in consolidation.
Concentration of Concentration Risk
As of March 31, 2017, the Company’s real estate investment in Chicago, Illinois represented 100% of the Company’s real estate assets. As a result, the geographic concentration of the Company’s portfolio makes it particularly susceptible to adverse economic developments in the Chicago, Illinois real estate market. Any adverse economic or real estate developments in this market, such as business layoffs or downsizing, industry slowdowns, relocations of businesses, changing demographics and other factors, or any decrease in demand for office space resulting from the local business climate, could adversely affect the Company’s operating results and its ability to make distributions to stockholders.
Earnings per Share
Basic earnings per share are computed by dividing net income (loss) attributable to common stockholders for each period by the weighted-average common shares outstanding during the period for each share class. Diluted net income (loss) per share takes into account the potential dilution that could occur if securities or other contracts to issue common stock were exercised and converted to common stock. For the purposes of calculating earnings per share, all common shares and per share information in the financial statements have been retroactively adjusted for the effect of any stock distributions and stock splits.
Use of Estimates
The preparation of the consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.
Real Estate Investments
The Company records acquired real estate at fair value at its acquisition date. The Company considers the period of future benefit of an asset to determine its appropriate useful life. The Company estimates that the useful lives of its assets by class will be as follows:
Buildings | 25-40 years |
Building improvements | 10-25 years |
Tenant improvements | Shorter of lease term or expected useful life of the related building |
Lease intangibles | Remaining term of related lease |
Impairment of Long Lived Assets
When circumstances indicate the carrying value of a property may not be recoverable, the Company will review the asset for impairment. This review is based on an estimate of the future undiscounted cash flows, excluding interest charges, expected to result from the property’s use and eventual disposition.
These estimates consider factors such as expected future operating income, market and other applicable trends and residual value, as well as the effects of leasing demand, competition and other factors.
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
MARCH 31, 2017
(unaudited)
If impairment exists, due to the inability to recover the carrying value of a property, an impairment loss will be recorded to the extent that the carrying value exceeds the estimated fair value of the property for properties to be held and used. For properties held for sale, the impairment loss is the adjustment to fair value less estimated cost to dispose of the asset. These assessments have a direct impact on net income because recording an impairment loss results in an immediate negative adjustment to net income. There were no impairment losses recorded on long lived assets during the three months ended March 31, 2017 and 2016.
Loans Held for Investment
Acquired real estate loans receivable will be recorded at cost and reviewed for potential impairment at each balance sheet date. A loan receivable is considered impaired when it becomes probable, based on current information, that the Company will be unable to collect all amounts due according to the loan’s contractual terms. The amount of impairment, if any, is measured by comparing the recorded amount of the loan to the present value of the expected cash flows or the fair value of the collateral. If a loan is deemed to be impaired, the Company will record a reserve for loan losses through a charge to income for any shortfall. Failure to recognize impairment would result in the overstatement of the carrying values of the Company’s real estate loans receivable and an overstatement of the Company’s net income.
The Company may acquire real estate loans at a discount due to credit quality. Revenues from these loans are recorded under the effective interest method. Under this method an effective interest rate (“EIR”) is applied to the cost basis of the real estate loan receivable. The EIR that is calculated when the real estate loan receivable is acquired remains constant and is the basis for subsequent impairment testing and income recognition. If the amount and timing of future cash collections are not reasonably estimable, the Company accounts for the real estate receivable on the cost recovery method. Under the cost recovery method of accounting, no income is recognized until the basis of the real estate loan receivable has been fully recovered.
Interest income from loans receivable will be recognized based on the contractual terms of the debt instrument. Fees related to any buydown of the interest rate will be deferred as prepaid interest income and amortized over the term of the loan as an adjustment to interest income. Direct costs related to the purchase of a loan receivable will be amortized over the term of the loan and accreted as an adjustment against interest income. The Company had no loans held for investment at March 31, 2017 and December 31, 2016.
Allocation of Purchase Price of Acquired Assets
Upon the acquisition of real properties, it is the Company’s policy to allocate the purchase price of properties to acquired tangible assets, consisting of land, building, fixtures and improvements, and identified intangible lease assets and liabilities, consisting of the value of above-market and below-market leases, as applicable, other value of in-place leases and tenant origination costs which consists of lease commissions and legal fees, based in each case on their fair values.
In-place leases represents the estimated value of the net cash flows of the in-place leases to be realized, as compared to the net cash flows that would have occurred had the property been vacant at the time of acquisition and subject to lease-up. Acquired in-place lease value will be amortized to expense over the average remaining terms of the respective in-place leases, including any below-market renewal periods. Should a tenant terminate its lease, the unamortized portion of the in-place lease value would be charged to expense in that period.
The Company records above-market and below-market in-place lease values for acquired properties based on the present value (using an interest rate that reflects the risks associated with the leases acquired) of the difference between (i) the contractual amounts to be paid pursuant to the in-place leases and (ii) management’s estimate of fair market lease rates for the corresponding in-place leases, measured over a period equal to the remaining non-cancelable term of the lease. The Company amortizes any capitalized above-market or below-market lease values as an increase or reduction to rental income over the remaining non-cancelable terms of the respective leases, which the Company expects will range from one month to ten years.
The Company also considers information obtained about each property as a result of its pre-acquisition due diligence, marketing and leasing activities in estimating the fair value of the tangible and intangible assets acquired. In estimating carrying costs, management also includes real estate taxes, insurance and other operating expenses and estimates of lost rentals at market rates during the expected lease-up periods. Management also estimates costs to execute similar leases, or lease origination costs, including leasing commissions and legal and other related expenses to the extent that such costs have not already been incurred in connection with a new lease origination as part of the transaction.
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
MARCH 31, 2017
(unaudited)
The determination of the fair value of the assets and liabilities acquired requires the use of significant assumptions with regard to current market rental rates, discount rates and other variables. The use of inappropriate estimates would result in an incorrect assessment of the fair value of these assets and liabilities, which could impact the amount of the Company’s reported net income. These estimates are subject to change until all information is finalized, which is generally within one year of the acquisition date.
Revenue Recognition
The Company recognizes minimum rent, including rental abatements and contractual fixed increases attributable to operating leases, on a straight-line basis over the term of the related lease and will include amounts expected to be received in later years in deferred rents. The Company records property operating expense reimbursements due from tenants for common area maintenance, real estate taxes and other recoverable costs in the period the related expenses are incurred.
The Company makes estimates of the collectability of its tenant receivables related to base rents, including straight-line rentals, expense reimbursements and other revenue or income. The Company specifically analyzes accounts receivable and historical bad debts, customer creditworthiness, current economic trends and changes in customer payment terms when evaluating the adequacy of the allowance for doubtful accounts. In addition, with respect to tenants in bankruptcy, the Company will make estimates of the expected recovery of pre-petition and post-petition claims in assessing the estimated collectability of the related receivable. In some cases, the ultimate resolution of these claims can exceed one year. These estimates have a direct impact on the Company’s net income because a higher bad debt reserve results in less net income. As of March 31, 2017 and December 31, 2016, there were no allowances for uncollectible receivables.
Income Taxes
The Company intends to elect and qualify to be taxed as a REIT, commencing with its taxable year ending December 31, 2018. Accordingly, the Company will generally not be subject to corporate U.S. federal or state income tax to the extent that it makes qualifying distributions to its stockholders, and provided it satisfies on a continuing basis, through actual investment and operating results, the REIT requirements including certain asset, income, distribution and stock ownership tests. If the Company fails to qualify as a REIT, and does not qualify for certain statutory relief provisions, it will be subject to U.S. federal, state and local income taxes and may be precluded from qualifying as a REIT for the subsequent four taxable years following the year in which it lost its REIT qualification. Accordingly, the Company’s failure to qualify as a REIT could have a material adverse impact on its results of operations and amounts available for distribution to its stockholders.
The dividends paid deduction of a REIT for qualifying dividends to its stockholders is computed using the Company’s taxable income as opposed to net income reported on the financial statements. Taxable income, generally, will differ from net income reported on the financial statements because the determination of taxable income is based on tax provisions and not financial accounting principles.
The Company may elect to treat certain of its subsidiaries as taxable REIT subsidiaries (“TRSs”). In general, a TRS may hold assets and engage in activities that the Company cannot hold or engage in directly, and may engage in any real estate or non-real estate-related business. A TRS is subject to U.S. federal, state and local corporate income taxes.
While a TRS may generate net income, a TRS can declare dividends to the Company which will be included in the Company’s taxable income and necessitate a distribution to its stockholders. Conversely, if the Company retains earnings at a TRS level, no distribution is required and the Company can increase book equity of the consolidated entity.
Stock compensation
The Company accounts for stock compensation in accordance with the provisions of Financial Accounting Standards Board ("FASB") Accounting Standards Codification ("ASC") Topic 718, "Compensation-Stock Compensation" which requires that the estimated fair value of restricted stock awards at the grant date vest ratably over the appropriate vesting period. In addition, the special limited partnership units have been valued using a Black-Scholes model.
Organization and Offering Costs
The Company incurs organizational, accounting, and offering costs in pursuit of its financing. Organization and offering costs of the Company are initially being paid by the Advisor on behalf of the Company. Organization costs are expensed as incurred
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
MARCH 31, 2017
(unaudited)
and include all expenses incurred by the Company in connection with the formation of the Company, including but not limited to legal fees and other costs to incorporate the Company.
Pursuant to the advisory agreement between the Company and the Advisor (the "Advisory Agreement"), the Company is obligated to reimburse the Advisor for organization and offering costs (including selling commissions and dealer manager fees) paid by the Advisor on behalf of the Company, up to an amount equal to 15% of gross offering proceeds.
Through March 31, 2017, the Company has charged $486,232 to equity for the payment of offering costs consisting of accounting, advertising, allocated payroll, due diligence, marketing, legal, printing and similar costs. As of March 31, 2017, the Advisor has advanced $4.9 million of these costs on behalf of the Company, of which $4.5 million has been deferred as of March 31, 2017. A portion of deferred offering costs is charged to equity upon the sale of each share of common stock sold under the public offering. Such costs will only become a liability of the Advisor to the extent that selling commissions, dealer manager fees and organization and offering costs incurred by the Company exceed 15% of the gross proceeds of the initial public offering. If, however, the Company raises the maximum offering amount in the primary offering and under the DRIP, organization and offering expenses (excluding selling commissions and the dealer manager fee) are estimated to be approximately 1.0% of the gross proceeds of the initial public offering. When recorded by the Company, organization costs are expensed as incurred, which include all expenses incurred by the Company in connection with the formation of the Company, including but not limited to legal fees and other costs to incorporate the Company. There can be no assurance that the Company’s plans to raise capital will be successful. As described in “Note 12-Subsequent Events,” on April 21, 2017, the Board unanimously approved the suspension of sales of shares in the primary offering and the suspension of the DRIP, effective April 21, 2017 and May 21, 2017, respectively. The Company anticipates resuming sales of common stock upon restructuring of the primary offering, at which point it will continue to reclassify deferred offering costs to equity as proceeds are raised.
Outstanding Class T shares issued in the Company's primary offering are subject to a 0.083% (one twelfth of 1%) of the share purchase price monthly distribution and shareholder servicing fee for five years from the date on which such share is issued. The Company will cease paying the distribution and shareholder servicing fee on each Class T share prior to the fifth anniversary of its issuance on the earliest of the following, should any of these events occur: (i) the date at which, in the aggregate, underwriting compensation from all sources equals 10% of the gross proceeds from the Company's primary offering (i.e., excluding proceeds from sales pursuant to its DRIP); (ii) the date on which the Company lists its common stock on a national securities exchange; and (iii) the date of a merger or other extraordinary transaction in which the Company is a party and in which the common stock is exchanged for cash or other securities. The Company cannot predict if or when any of these events will occur. For issued Class T shares, the Company has accrued an estimate of $99,100 for the total distribution and shareholder servicing fee for the full five year period ending March 31, 2017 based on a total of 5% for all Class T shares sold less amounts paid to date. The Company records distribution and stockholder serving fees as a reduction to additional paid-in capital and the related liability in an amount equal to the maximum fees payable in relation to the Class T shares on the date the shares are issued. The liability will be relieved over time, as the fees are paid to the Dealer Manager, or it will be adjusted if the fees are no longer payable pursuant to the conditions described above. See “Note 12-Subsequent Events” for information regarding changes to the Company’s initial public offering since March 31, 2017.
Adoption of New Accounting Standards
In March 2016, the FASB issued Accounting Standards Update ("ASU") No. 2016-09, “Compensation - Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting” (“ASU 2016-09”). ASU 2016-09 simplifies several aspects related to the accounting for share-based payment transactions, including the accounting for income taxes and forfeitures, statutory tax withholding requirements and classification on the statement of cash flows. ASU 2016-09 is effective for the fiscal year which began January 1, 2017 and the Company adoption of ASU 2016-09 has not had a significant impact on the Company's consolidated financial statements.
Accounting Standards Issued But Not Yet Effective
In May 2014, FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers” ("ASU No. 2014-09"), which will replace most existing revenue recognition guidance in GAAP. The core principle of ASU No. 2014-09 is that an entity should recognize revenue for the transfer of goods or services equal to the amount that it expects to be entitled to receive for those goods or services. ASU No. 2014-09 requires additional disclosure about the nature, amount, timing and uncertainty of revenue and cash flows arising from customer contracts, including significant judgments and changes in judgments. ASU No. 2014-09 will be effective for the Company beginning January 1, 2018, including interim periods in 2018, and allows for both retrospective and
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
MARCH 31, 2017
(unaudited)
prospective methods of adoption. The Company is in the process of determining the method of adoption and assessing the impact of ASU No. 2014-09 on the Company's consolidated financial statements.
In February 2016, FASB issued ASU No. 2016-02, "Leases" ("ASU No. 2016-02"), which is intended to improve financial reporting about leasing transactions and requires organizations that lease assets to recognize on the balance sheet the assets and liabilities for the rights and obligations created by those leases. ASU No. 2016-02 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. The Company is continuing to evaluate this guidance.
In June 2016, FASB issued ASU No. 2016-13, “Financial Instruments - Credit Losses” ("ASU ASU No. 2016-13"), which requires measurement and recognition of expected credit losses for financial assets held. ASU No. 2016-13 is effective for the Company beginning January 1, 2019. The Company is continuing to evaluate this guidance; however, it does not expect the adoption of ASU No. 2016-13 to have a significant impact on its consolidated financial statements.
In August 2016, FASB issued ASU No. 2016-15 "Classification of Certain Cash Receipts and Cash Payments", which addresses eight specific cash flow issues with the objective of reducing existing diversity in practice. The guidance is effective for the Company beginning January 1, 2018. Early application is permitted. The adoption of the new requirements is not expected to have a material impact on the Company's consolidated cash flows.
In November 2016, the FASB issued ASU No. 2016-18, “Statement of Cash Flows (Topic 230): Restricted Cash” (“ASU No. 2016-18”), which provides guidance on the classification of restricted cash in the statement of cash flows. ASU No. 2016-18 is effective for the Company's fiscal year beginning January 1, 2018, and the Company does not expect the adoption of ASU No. 2016-18 to have a material effect on our consolidated financial statements and disclosures.
In January 2017, the FASB issued ASU No. 2017-01, "Business Combinations (Topic 850): Clarifying the Definition of Business" ("ASU No. 2017-01"), which clarifies the definition of a business with the objective of adding guidance to assist entities with evaluating whether transactions should be accounted for as acquisitions (or disposals) of businesses. ASU No. 2017-01 is effective for the Company beginning January 1, 2018 but early adoption is allowed. The Company is continuing to evaluate this guidance.
NOTE 3 - EARNINGS PER SHARE
In accordance with the FASB ASC 260-10-45, "Earnings Per Share", the Company uses the two-class method to calculate earnings per share. Basic earnings per share is calculated based on dividends declared and the rights of common shares and participating securities in any undistributed earnings, which represents net income remaining after deduction of dividends declared during the period. The undistributed earnings are allocated to all outstanding common shares based on their relative percentage of each class of shares to the total number of outstanding shares. The Company did not have any participating securities outstanding other than Class A common stock and Class T common stock during the periods presented.
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
MARCH 31, 2017
(unaudited)
March 31, | ||||||||
2017 | 2016 | |||||||
Net loss | $ | (485,782 | ) | $ | (31,314 | ) | ||
Less: Class A common stock cash distributions declared | 16,735 | — | ||||||
Less: Class T common stock cash distributions declared | 5,681 | — | ||||||
Undistributed net loss attributable to common stockholders | $ | (508,198 | ) | $ | (31,314 | ) | ||
Class A common stock: | ||||||||
Undistributed net loss attributable to Class A common stockholders | $ | (316,607 | ) | $ | (31,314 | ) | ||
Class A common stock cash distributions declared | 16,735 | — | ||||||
Net loss attributable to Class A common stockholders | $ | (299,872 | ) | $ | (31,314 | ) | ||
Net loss per Class A common share, basic and diluted | $ | (0.95 | ) | $ | (0.23 | ) | ||
Weighted-average number of Class A common shares outstanding, basic and diluted | 315,451 | 136,806 | ||||||
Class T common stock: | ||||||||
Undistributed net loss attributable to Class T common stockholders | $ | (191,591 | ) | $ | — | |||
Class T common stock cash distributions declared | 5,681 | — | ||||||
Net loss attributable to Class T common stockholders | $ | (185,910 | ) | $ | — | |||
Net loss per Class T common share, basic and diluted | $ | (0.97 | ) | $ | — | |||
Weighted-average number of Class T common shares outstanding, basic and diluted | 190,939 | — | ||||||
Due to reported losses for the three months ended March 31, 2017 and 2016, unvested restricted shares and common shares potentially issuable to settle accrued distributions are excluded from the calculation of diluted earnings per share calculations, as their inclusion would be anti-dilutive. In addition, earnings per share excludes any dilution from the contingently issuable shares for the special limited partnership units (see "Note 9 - Equity").
NOTE 4 – SUPPLEMENTAL CASH FLOW INFORMATION
The following table presents the Company's supplemental cash flow information:
Three Months Ended | |||||||
March 31, | |||||||
2017 | 2016 | ||||||
Non-cash operating, financing and investing activities: | |||||||
Offering costs payable to related parties | $ | 564,920 | $ | 3,005,608 | |||
Accounts payable and accrued expenses | $ | 32,333 | $ | — | |||
Stock issued from distribution reinvestment plan | $ | 5,578 | $ | — | |||
Stock distributions issued | $ | 4,438 | $ | — | |||
Cash distributions on common stock declared but not paid | $ | 14,914 | $ | — | |||
Cash paid during the period for: | |||||||
Interest | $ | 38,220 | $ | — | |||
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
MARCH 31, 2017
(unaudited)
NOTE 5 - RENTAL PROPERTY, NET
The following table presents the Company’s investments in rental properties (in thousands):
March 31, 2017 | December 31, 2016 | ||||||
Land | $ | 435,547 | $ | 435,547 | |||
Building and improvements | 5,856,434 | 5,856,434 | |||||
Tenant improvements | 236,283 | 236,283 | |||||
6,528,264 | 6,528,264 | ||||||
Less: accumulated depreciation | (81,256 | ) | (22,012 | ) | |||
Total rental property, net | $ | 6,447,008 | $ | 6,506,252 | |||
Depreciation expense for the three months ended March 31, 2017 and 2016 was $59,244 and $0, respectively.
Operating Leases
The Company’s real property is leased to tenants under operating leases for which the terms and expirations vary. As of March 31, 2017, the leases, excluding options to extend, had remaining terms of up to 11 years with a weighted-average remaining term of 5 years, 1 month. Some of the leases have provisions to extend the lease agreements, options for early termination after paying a specified penalty, rights of first refusal to lease other space at the property at competitive market rates, and other terms and conditions as negotiated. The Company retains substantially all of the risks and benefits of ownership of the real estate assets leased to tenants. Generally, upon the execution of a lease, the Company requires a security deposit from tenants in the form of a cash deposit and or a letter of credit. The amount required as a security deposit varies depending upon the terms of the respective leases and the creditworthiness of the tenant, but generally are not significant amounts. Therefore, exposure to credit risk exists to the extent that a receivable from a tenant exceeds the amount of its security deposit.
During the three months ended March 31, 2017 and 2016, the Company recognized deferred rent from tenants of $20,850 and $0, respectively. The Company records property operating expense reimbursements due from tenants for common area maintenance, real estate taxes, and other recoverable costs in the period the related expenses are incurred.
As of March 31, 2017, the future minimum rental income from the Company’s property under non-cancelable operating leases was as follows:
2018 | $ | 620,996 | |
2019 | 511,067 | ||
2020 | 600,265 | ||
2021 | 619,944 | ||
2022 | 631,985 | ||
Thereafter | 2,860,265 | ||
$ | 5,844,522 | ||
NOTE 6 - IDENTIFIED INTANGIBLE ASSETS, NET AND LIABILITIES, NET
The Company's acquired in-place leases, tenant origination costs, above-market lease intangible assets and below market lease liabilities were as follows:
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
MARCH 31, 2017
(unaudited)
Acquired In-Place Leases | Lease Origination costs | Above-Market Lease Assets | Total Intangible assets | Below-Market Lease Liabilities | ||||||||||||||||
March 31, 2017 | ||||||||||||||||||||
Cost | $ | 356,507 | $ | 292,122 | $ | 242,527 | $ | 891,156 | $ | (116,332 | ) | |||||||||
Accumulated amortization | (40,593 | ) | (33,830 | ) | (15,057 | ) | (89,480 | ) | 5,864 | |||||||||||
Net | $ | 315,914 | $ | 258,292 | $ | 227,470 | $ | 801,676 | $ | (110,468 | ) | |||||||||
December 31, 2016 | ||||||||||||||||||||
Cost | $ | 356,507 | $ | 292,122 | $ | 242,527 | $ | 891,156 | $ | (116,332 | ) | |||||||||
Accumulated amortization | (12,272 | ) | (10,228 | ) | (4,553 | ) | (27,053 | ) | 1,773 | |||||||||||
Net | $ | 344,235 | $ | 281,894 | $ | 237,974 | $ | 864,103 | $ | (114,559 | ) | |||||||||
Decreases (increases) in net income as a result of amortization of the Company's acquired in-place leases, lease origination costs, above-market lease assets and below-market lease liabilities were as follows:
Acquired In-Place Leases | Lease Origination costs | Above-Market Lease Assets | Below-Market Lease Liabilities | |||||||||||||
Three months ended: | ||||||||||||||||
March 31, 2017 | $ | 28,321 | $ | 23,602 | $ | 10,504 | $ | (4,091 | ) | |||||||
March 31, 2016 | $ | — | $ | — | $ | — | $ | — | ||||||||
The remaining unamortized balance for these outstanding intangible assets and liabilities are expected to be amortized for the years ending March 31, assuming no early lease terminations, as follows:
Acquired In-Place Leases | Origination costs | Above-Market Lease Assets | Below-Market Lease Liabilities | |||||||||||||
2018 | $ | 113,282 | $ | 94,408 | $ | 42,024 | $ | (16,366 | ) | |||||||
2019 | 39,717 | 32,119 | 39,292 | (16,366 | ) | |||||||||||
2020 | 30,363 | 23,629 | 19,700 | (16,366 | ) | |||||||||||
2021 | 29,513 | 22,858 | 17,919 | (16,366 | ) | |||||||||||
2022 | 29,513 | 22,858 | 17,919 | (16,366 | ) | |||||||||||
Thereafter | 73,526 | 62,420 | 90,616 | (28,638 | ) | |||||||||||
$ | 315,914 | $ | 258,292 | $ | 227,470 | $ | (110,468 | ) | ||||||||
Weighted average remaining amortization period | 5 years, 11 months | 6 years | 8 years, 1 month | 6 years, 9 months | ||||||||||||
NOTE 7 - MORTGAGE NOTES PAYABLE
The Company entered into a $4,725,000 mortgage for the purchase of Sunnyside in November 2016. The loan requires monthly fixed principal and interest payments based on the one-month LIBOR plus 2.50%, or 3.41% as of March 31, 2017. The maturity date of the loan is November 22, 2019. The loan is guaranteed by RAI until such time as the Company has achieved a minimum net worth of $8.0 million. The loan requires a minimum debt service coverage for the annual period beginning December 31, 2017.
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
MARCH 31, 2017
(unaudited)
The following is a summary of the mortgage notes payable:
Outstanding borrowings | Deferred Finance Costs | Carrying Value | Outstanding borrowings | Deferred Finance Costs | Carrying Value | |||||||||||||||||
Collateral | March 31 2017 | December 31, 2016 | Average Monthly Debt Service | Average Monthly Escrows | ||||||||||||||||||
Sunnyside | $4,693,000 | $(85,865) | $4,607,135 | $4,717,000 | $(94,116) | $ | 4,622,884 | $ | 21,199 | $ | 5,711 | |||||||||||
Deferred financing costs incurred to obtain financing are amortized over the term of the related debt. During the three months ended March 31, 2017 and 2016, respectively, amortization of $8,251 and $0 of deferred financing costs was included in interest expense. Accumulated amortization as of March 31, 2017 and December 31, 2016 was $11,932 and $3,681, respectively. Estimated amortization of the existing deferred financing costs for the next five years ending March 31, and thereafter is as follows:
2018 | $ | 33,039 | |
2019 | 32,356 | ||
2020 | 20,470 | ||
$ | 85,865 | ||
Annual principal payments on the mortgage note payable for each of the next five years ending March 31, and thereafter is as follows:
2018 | $ | 96,000 | |
2019 | 96,000 | ||
2020 | 4,501,000 | ||
$ | 4,693,000 | ||
As of March 31, 2017 and December 31, 2016, the Company had $19,416 and $39,975, respectively, of restricted cash related to escrow deposits held by the mortgage lender for real estate taxes.
NOTE 8 – RELATED PARTY TRANSACTIONS
The Company is externally managed and advised by the Advisor. Pursuant to the terms of the Advisory Agreement, the Advisor provides the Company with its management team, including its officers, along with appropriate support personnel. The Advisor will be reimbursed for the Company’s allocable share of costs for Advisor personnel, including allocable personnel salaries and benefits. Each of the Company’s officers is an employee of Resource Real Estate, Inc. (the "Sponsor"), which is the Advisor's parent company, the Company's sponsor and a wholly-owned subsidiary of RAI. The Company does not expect to have any employees. The Advisor, or its employees, are not obligated to dedicate any specific portion of its or their time to the Company’s business. The Advisor and any employees of the Sponsor acting on behalf of the Advisor are at all times subject to the supervision and oversight of the Company’s board of directors and has only such functions and authority as the Company delegates to it.
During the course of the Company's initial public offering, the Advisor will provide offering-related services to the Company and will pay for costs incurred on behalf of the Company for both operating costs and organization and offering costs. These amounts will be reimbursed to the Advisor from the proceeds from the Offering although there can be no assurance that the Company’s plans to raise capital will be successful. As of March 31, 2017, the Advisor had incurred organization and offering costs on a cumulative basis on behalf of the Company of approximately $4.9 million.
Relationship with the Advisor
The Advisory Agreement has a one-year term with the possibility of an unlimited number of successive one year renewals upon the approval of the Board. On September 23, 2016, the Board, voted to renew the Advisory Agreement, effective October 2, 2016. The Advisory Agreement was renewed for a one-year term ending October 1, 2017 with terms identical to those in effect through October 1, 2016. Under the Advisory Agreement, the Advisor receives fees and reimbursements for its expenses as set forth below:
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
MARCH 31, 2017
(unaudited)
Acquisition fees. The Advisor earns an acquisition fee of 2.0% of the cost of investments acquired on behalf of the Company, plus any capital expenditure reserves allocated, or the amount funded by the Company to acquire loans, including acquisition expenses and any debt attributable to such investments.
Asset management fees. The Advisor earns a monthly asset management fee equal to 0.083% (one-twelfth of 1%) of the cost of each asset at the end of each month, without deduction for depreciation, bad debts or other non-cash reserves. The asset management fee is based only on the portion of the costs or value attributable to the Company’s investment in an asset if the Company does not own all of an asset and does not manage or control the asset.
Disposition fees. The Advisor earns a disposition fee in connection with the sale of a property equal to the lesser of one-half of the aggregate brokerage commission paid, or if none is paid, 2.0% of the contract sales price.
Debt financing fees. The Advisor earns a debt financing fee equal to 0.5% of the amount available under any debt financing obtained for which it provided substantial services.
Expense reimbursements. The Company pays directly or reimburses the Advisor for all of the expenses paid or incurred by the Advisor or its affiliates on behalf of the Company or in connection with the services provided to the Company in relation to its public offering, including its DRIP. This includes all organization and offering costs of up to 15.0% of gross offering proceeds. Reimbursements also include expenses the Advisor incurs in connection with providing services to the Company, including the Company’s allocable share of costs for Advisor personnel and overhead, out-of-pocket expenses incurred in connection with the selection and acquisition of properties or other real estate related debt investments, whether or not the Company ultimately acquires the investment. However, the Company will not reimburse the Advisor or its affiliates for employee costs in connection with services for which the Advisor earns acquisition or disposition fees.
See “Note 12-Subsequent Events” for information regarding the pending restructuring of fees payable to the Advisor.
Relationship with Resource Innovation Office Manager, LLC
Resource Innovation Office Manager, LLC (the “Manager”), an affiliate of the Advisor, will manage real estate properties and real estate-related debt investments and will coordinate the leasing of and will manage construction activities related to the Company’s real estate property pursuant to the terms of the management agreement with the Manager. As of March 31, 2017, Sunnyside, the Company's only property was managed by an unaffiliated third party and no amounts, including oversight fees are paid to the Property Manager in connection with Sunnyside's management.
Property management fees. The Property Manager will earn a property management fee expected to range from 2.5% to 4.0% of actual gross cash receipts from the operations of real property investments that it manages and a 1.0% oversight fee on any real property investments that are managed by third parties provided that the aggregate of any non-affiliated third party management fee plus the oversight fee will not exceed 4%.
Construction management fees. The Manager will earn a construction management fee expected to range from 3.0% to 5.0% of actual aggregate costs to construct improvements, or to repair, rehab or reconstruct a property.
Tenant construction management fees. The Property Manager will earn a tenant construction management fee, payable by tenants pursuant to their leases, or if payable to the landlord, equal to the direct costs incurred by the Property Manager if services are provided by off-site employees.
Debt servicing fees. The Manager will earn a debt servicing fee equal to 0.5% on payments received from loans held by the Company for investment.
Expense reimbursement. During the ordinary course of business, the Manager or other affiliates of RAI may pay certain shared operating expenses on behalf of the Company.
Relationship with Resource Securities
Resource Securities, an affiliate of the Advisor, serves as the Company’s dealer manager and is responsible for marketing the Company’s shares during the public offering. Pursuant to the terms of the dealer manager agreement with the Dealer Manager, the Company pays the Dealer Manager a selling commission of up to 7.0% of gross primary offering proceeds from the sale of
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
MARCH 31, 2017
(unaudited)
Class A shares and up to 2.0% of gross primary offering proceeds from the sale Class T shares and a dealer manager fee of up to 3.0% of gross primary offering proceeds from the sale of Class A and Class T shares. The Dealer Manager reallows all selling commissions earned and a portion of the dealer manager fee as a marketing fee to participating broker-dealers. No selling commissions or dealer manager fees are earned by the Dealer Manager in connection with sales under the DRIP. Additionally, the Company may reimburse the Dealer Manager for bona fide due diligence expenses.
Resource Securities will be paid an annual fee of 1.0% of the purchase price (or, once reported, the NAV) per share of Class T common stock sold in the primary offering for five years from the date on which each share is issued up to a total of 5.0%.
The differences between the Class A and Class T shares relate to the fees and selling commissions payable with respect to each class and the differing distribution amounts and expense allocations due to differing ongoing fees and expenses. The per share amount of distributions on Class T shares will likely be lower than the distributions on the Class A shares for so long as the distribution and shareholder servicing fee applies because this fee is a class-specific expense. The following table summarizes the differences in fees and selling commissions between the classes of common stock:
Class A Share | Class T Share | ||
Initial Offering Price | $10.00 | $9.47 | |
Selling Commissions Paid by Company (per share) | 7.0% | 2.0% | |
Dealer Manager Fee (per share) | 3.0% | 3.0% | |
Annual Distribution and Shareholder Servicing Fee (1) | None | 1.0% | |
Initial Offering Price Under the DRIP | $9.60 | $9.09 | |
(1) | Each outstanding Class T share issued in the primary offering is subject to an annual distribution and shareholder servicing fee for five years from the date on which such share is issued. The Company will cease paying the distribution and shareholder servicing fee on each Class T share prior to the fifth anniversary of its issuance on the earliest of the following, should any of these events occur: (i) the date at which, in the aggregate, underwriting compensation from all sources equals 10% of the gross proceeds from the Company's primary offering (i.e., excluding proceeds from sales pursuant to our DRIP); (ii) the date on which the Company lists its common stock on a national securities exchange; and (iii) the date of a merger or other extraordinary transaction in which the Company is a party and in which the common stock is exchanged for cash or other securities. The Company cannot predict if or when any of these events will occur. |
In the case of a Class T share purchased in the primary offering at a price equal to $9.47, the maximum distribution and shareholder servicing fee that may be accrued on that Class T share will equal $0.47. However, because the Company will only completely cease paying the distribution and shareholder servicing fee on the earliest of the dates described above, such fee will accrue on all outstanding Class T shares that were purchased in the primary offering within the previous five years of such date. The expense of the distribution and shareholder servicing fee payable with respect to Class T shares sold in the primary offering will be allocated among all outstanding Class T shares, including those sold under the DRIP and those sold in the primary offering more than five years ago on which the Company has ceased paying distribution and shareholder servicing fees. As a result, holders of Class T shares purchased earlier in the offering will bear a greater expense from distribution and shareholder servicing fees than those holders of Class T shares purchased later in the offering.
See “Note 12-Subsequent Events” for information regarding the pending restructuring of the Company’s initial public offering.
Relationship with Resource Innovation Office SLP, LLC
Resource Innovation Office, SLP, LLC ("Resource Innovation Office SLP"), a wholly-owned subsidiary of the Advisor, holds special OP units in the Company's operating partnership and is entitled to receive 15.0% of distributions from net sales proceeds (the "Promote") after the Company's stockholders have received, in the aggregate, cumulative distributions equal to their total invested capital plus a 6.0% cumulative, non-compounded annual pre-tax return on such aggregate invested capital (the "Performance Condition"). In addition, the special limited partnership units will be redeemed upon the listing of the Company's common stock on a national securities exchange or the termination or non-renewal of the Advisory Agreement. If the event triggering the redemption is: (i) a listing of our shares on a national securities exchange, the redemption price will be calculated based on the average trading price of our shares for a specified period or, if there is an underwritten public offering in connection with the listing, on the valuation of the shares as determined by the underwritten public offering price; or (ii) the termination or
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
MARCH 31, 2017
(unaudited)
non-renewal of our advisory agreement other than for cause, the redemption price will be calculated based on an appraisal or valuation of our assets. No value will be given in connection with the redemption of the special limited partnership units unless the Company’s stockholders have received (or are deemed to have received in the cases described above where there is no liquidation or sale of our assets or similar transaction), in the aggregate, cumulative distributions equal to their total invested capital plus a 6.0% cumulative, non-compounded annual pre-tax return on such aggregate invested capital.
Relationship with RAI
Self-insurance funds held in escrow. The receivable from related party includes insurance deposits held in escrow by RAI and C-III for self-insurance, which if unused, will be returned to the Company. The Company's property participates in insurance pools with other properties directly and indirectly managed by RAI and C-III for both property insurance and general liability. C-III and RAI hold the deposits in escrow to fund future insurance claims. The pool for property insurance covers losses up to $2.5 million and the pool for general liability covers losses up to the first $50,000 per incident. Catastrophic insurance would cover losses in excess of the insurance pool up to $250.0 million and $51.0 million, respectively. Therefore, unforeseen or catastrophic losses in excess of the Company's insured limits could have a material adverse effect on the Company's financial condition and operating results. During the three months ended March 31, 2017, the Company paid $1,767 into the insurance pools.
RAI guarantees the mortgage on Sunnyside until such time as the Company has achieved a minimum net worth of $8.0 million. (See "Note 7 - Mortgage Notes Payable" for further information.)
The fees earned and expenses incurred and the amounts payable to such related parties are summarized in the following tables:
March 31, 2017 | December 31, 2016 | ||||||
Due from related parties: | |||||||
RAI and affiliates | $ | 1,715 | $ | 304 | |||
Due to related parties: | |||||||
Advisor | |||||||
Acquisition related reimbursements | $ | — | $ | 2,719 | |||
Organization and offering costs | 4,922,032 | 4,357,112 | |||||
Operating expense reimbursements | 1,529,753 | 1,164,477 | |||||
Subtotal, Due to Advisor | 6,451,785 | 5,524,308 | |||||
Resource Securities | |||||||
Selling commissions and dealer-manager fees | — | 1,645 | |||||
Distribution and shareholder servicing fee | 99,100 | 73,347 | |||||
Subtotal, Due to Resource Securities | 99,100 | 74,992 | |||||
Total, Due to related parties | $ | 6,550,885 | $ | 5,599,300 | |||
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
MARCH 31, 2017
(unaudited)
Three Months Ended | |||||||
March 31, | |||||||
2017 | 2016 | ||||||
Fees earned / expenses incurred: | |||||||
Advisor | |||||||
Asset management fees (1) | $ | 19,268 | $ | — | |||
Organization and offering costs (2) | $ | 564,920 | $ | 123,136 | |||
Operating expense reimbursement (3) | $ | 186,106 | $ | 22,325 | |||
Resource Securities | |||||||
Selling commissions and dealer-manager fees (4) | $ | 37,663 | $ | 2,750 | |||
Distribution and shareholder servicing fee (4) | $ | 32,437 | $ | — | |||
(1) Included in Asset management fees on the consolidated statements of operations and comprehensive income (loss)
(2) Included in Deferred offering costs and Stockholders' Equity on the consolidated balance sheets
(3) Included in General and administrative expenses on the consolidated statements of operations and comprehensive income (loss)
(4) Included in Stockholders' equity on the consolidated balance sheets
NOTE 9 – EQUITY
Preferred Stock
The Company’s charter authorizes the Company to issue 100.0 million shares of its $0.01 par value preferred stock. As of March 31, 2017, no shares of preferred stock were issued or outstanding.
Common Stock
The Company’s charter authorizes the Company to issue 125.0 million shares of its $0.01 par value Class A common stock. As of March 31, 2017, there were 326,530 shares of Class A common stock issued and outstanding.
The Company’s charter authorizes the Company to issue 275.0 million shares of its $0.01 par value Class T common stock. As of March 31, 2017, there were 226,760 shares of Class T common stock issued and outstanding.
Distributions
Cash Distributions
On November 21, 2016, the Company’s board of directors declared cash distributions on the outstanding shares of all classes of the Company’s common stock based on daily record dates for the periods from December 30, 2016 to January 30, 2017, and from January 31, 2017 to February 27, 2017, which distributions the Company paid on January 31, 2017 and February 28, 2017, respectively. On February 16, 2017, the Company's board of directors declared cash distributions on the outstanding shares of all classes of its common stock based on daily record dates for the periods from February 28, 2017 to March 30, 2017, from March 31, 2017 to April 27, 2017 and from April 28, 2017 to May 30, 2017, which distributions were paid or are expected to paid as applicable on March 31, 2017, April 28, 2017 and May 31, 2017, respectively. Distributions for these periods are calculated based on the stockholders of record each day during these periods at a rate of (i) $0.000547945 per share per day, less (ii) the applicable daily distribution and shareholder servicing fees accrued for and allocable to any class of common stock divided by the number of shares of common stock of such class outstanding as of the close of business on each respective record date. As of March 31, 2017, investors could choose to receive cash distributions or purchase additional shares through the Company’s distribution reinvestment plan. Distributions reinvested pursuant to the distribution reinvestment plan were reinvested in shares of the same class as the shares on which the distributions are made. As described in “Note 12-Subsequent Events,” on April 21, 2017, the Board unanimously suspended the DRIP, effective May 1, 2017. The Board anticipates amending and reinstating the
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
MARCH 31, 2017
(unaudited)
DRIP in connection with the restructuring of the Company’s initial public offering, as described herein. Some or all of the cash distributions may be paid from sources other than cash flows from operations.
The following table presents distributions paid by the Company during the three months ended March 31, 2017:
Declaration Date | Record Date | Per Common Share | Distribution Date | Distributions Reinvested in Shares of Common Stock | Net Cash Distributions | Total Aggregate Distributions | ||||||||||||
Class A Shares: | ||||||||||||||||||
11/21/2016 | 12/30/16 through 1/30/17 | $0.000547945 per day | 1/31/2017 | $ | 956 | $ | 4,441 | $ | 5,397 | |||||||||
11/21/2016 | 1/31/17 through 2/27/17 | $0.000547945 per day | 2/28/2017 | 976 | 3,931 | 4,907 | ||||||||||||
2/16/2017 | 2/28/17 through 3/30/17 | $0.000547945 per day | 3/31/2017 | 1,094 | 4,395 | 5,489 | ||||||||||||
Subtotal- Class A shares | 3,026 | 12,767 | 15,793 | |||||||||||||||
Class T Shares | ||||||||||||||||||
11/21/2016 | 12/30/16 through 1/30/17 | $0.0002739725 per day | 1/31/2017 | 729 | 753 | 1,482 | ||||||||||||
11/21/2016 | 1/31/17 through 2/27/17 | $0.0002739725 per day | 2/28/2017 | 801 | 628 | 1,429 | ||||||||||||
2/16/2017 | 2/28/17 through 3/30/17 | $0.0002739725 per day | 3/31/2017 | 1,022 | 704 | 1,726 | ||||||||||||
Subtotal- Class T shares: | 2,552 | 2,085 | 4,637 | |||||||||||||||
Total Class A and T shares: | $ | 5,578 | $ | 14,852 | $ | 20,430 | ||||||||||||
The Company has accrued $14,914 for the cash distributions to be paid on April 28, 2017 and May 31, 2017 which are not reflected in the table above.
Stock Dividend
On February 16, 2017, the Company's board of directors authorized a stock dividend in the amount of 0.01 shares of common stock on each outstanding share of common stock to all common stockholders of record as of the close of business on March 31, 2017. This stock dividend was issued on April 13, 2017. Stock dividends are issued in the same class of shares as the shares for which such stockholder received the stock dividend. The shares issued in this dividend are included in shares outstanding as of March 31, 2017.
Restricted Stock
The Company has adopted a long-term incentive plan which it will use to attract and retain qualified directors, officers, employees, and consultants. The Company's long-term incentive plan offers these individuals an opportunity to participate in our growth through awards in the form of, or based on, our common stock. The Company currently anticipates that it will issue awards only to our independent directors under our long-term incentive plan. The Company has authorized and reserved an aggregate maximum number of 500,000 shares for issuance under the long-term incentive plan. In the event of a transaction between the Company and its stockholders that causes the per-share value of our common stock to change (including, without limitation, any stock dividend, stock split, spin-off, rights offering or large nonrecurring cash dividend), the share authorization limits under the long-term incentive plan will be adjusted proportionately and our Board will make such adjustments to the long-term incentive plan and awards as it deems necessary, in its sole discretion, to prevent dilution or enlargement of rights immediately resulting from such transaction. In the event of a stock split, a stock dividend or a combination or consolidation of the outstanding shares of common stock into a lesser number of shares, the authorization limits under the long-term incentive plan will automatically be
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
MARCH 31, 2017
(unaudited)
adjusted proportionately and the shares then subject to each award will automatically be adjusted proportionately without any change in the aggregate purchase price.
In November 2016, pursuant to the long-term incentive plan, all four independent director of the Company were awarded 1,500 Class A shares due to the Company's satisfaction of the minimum offering requirement. The awarded shares vest over a period of three years. In the event of forfeiture before the required vesting period, any dividends paid on those shares are to be repaid to the Company. As of March 31, 2017, 6,000 of the restricted shares are included in issued or outstanding Class A shares. The Company recognized compensation expense of $4,438 and $0 during the three months ended March 31, 2017 and 2016, which is included in general and administrative expenses on the Company's consolidated statements of operations and comprehensive income (loss) related to these awards and will recognize $48,033 in the aggregate over the next three years. Each independent director will receive an additional 1,500 Class A shares upon each annual reelection to our Board.
Special Limited Partnership Units
Resource Innovation Office, SLP holds 500 special limited partnership units in the Company's operating partnership and is entitled to receive the Promote which is equal to 15.0% of distributions from net sales proceeds after satisfacton of the Performance Condition, which requires that the Company's stockholders have received, in the aggregate, cumulative distributions equal to their total invested capital plus a 6.0% cumulative, non-compounded annual pre-tax return on such aggregate invested capital prior to the payment of the Promote. The special limited partnership units will become eligible to be redeemed (the Promote will vest) upon the listing of the Company's common stock on a national securities exchange or the termination or non-renewal of the Advisory Agreement and the achievement of the Performance Condition. In the event of a termination event or listing, the special limited partnership units will be redeemed for an aggregate amount equal to the amount that would have been distributed if all assets of the Company had been sold for thier fair market value and all liabilities of the Company had been satisfied. Payment to the special limited partners upon termination shall be paid, at Resource Innovation Office SLP's discretion in the form of either shares of the Company's common stock or a non-interest bearing promissory note. No value will be given in connection with the redemption of the special OP units unless the Company’s stockholders have received (or are deemed to have received in the cases described above where there is no liquidation or sale of our assets or similar transaction), in the aggregate, cumulative distributions equal to their total invested capital plus a 6.0% cumulative, non-compounded annual pre-tax return on such aggregate invested capital. The Promote obligation is classified as a component of accounts payable and accrued expenses in the consolidated balance sheets and is measured at fair value each reporting period until the Performance Condition is completed (or until the rights to earn the Promote are forfeited).
NOTE 10 - FAIR VALUE MEASURES AND DISCLOSURES
In analyzing the fair value of its financial instruments accounted for on a fair value basis, the Company follows the fair value hierarchy, which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The Company determines fair value based on quoted prices when available or, if quoted prices are not available, through the use of alternative approaches, such as discounting the expected cash flows using market interest rates commensurate with the credit quality and duration of the investment. The fair value of cash, tenant receivables and accounts payable, approximate their carrying value due to their short nature. The hierarchy followed defines three levels of inputs that may be used to measure fair value:
Level 1 - Quoted prices in active markets for identical assets and liabilities that the reporting entity has the ability to access at the measurement date.
Level 2 - Inputs other than quoted prices included within Level 1 that are observable for the asset and liability or can be corroborated with observable market data for substantially the entire contractual term of the asset or liability.
Level 3 - Unobservable inputs that reflect the entity’s own assumptions about the assumptions that market participants would use in the pricing of the asset or liability and are consequently not based on market activity, but rather through particular valuation techniques.
The determination of where an asset or liability falls in the hierarchy requires significant judgment. The Company evaluates its hierarchy disclosures each quarter; depending on various factors, it is possible that an asset or liability may be classified differently from quarter to quarter. However, the Company expects that changes in classifications between levels will be rare.
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
MARCH 31, 2017
(unaudited)
The fair value of rental properties is usually estimated based on information obtained from a number of sources, including information obtained about each property as a result of pre-acquisition due diligence, marketing and leasing activities. The Company allocates the purchase price of properties to acquired tangible assets, consisting of land, buildings, fixtures and improvements, and identified intangible lease assets and liabilities, consisting of the value of above-market and below-market leases, as applicable, the value of in-place leases and the value of tenant relationships, based in each case on their fair values.
Derivatives (interest rate cap), which are reported at fair value in the consolidated balance sheets, are valued by a third-party pricing agent using an income approach with models that use, as their primary inputs, readily observable market parameters. This valuation process considers factors including interest rate yield curves, time value, credit and volatility factors. (Level 2)
The Promote obligation, which is reported at fair value in the consolidated balance sheets, is valued using a Black-Scholes model which incorporates various highly subjective assumptions including expected stock price volatility, expected life of the units and interest rates. (Level 3)
The following table presents information about the Company's assets measured at fair value on a recurring basis and indicates the fair value hierarchy of the valuation techniques utilized by the Company to determine such fair value as follows:
Level 1 | Level 2 | Level 3 | Total | ||||||||||||
March 31, 2017 | |||||||||||||||
Assets: | |||||||||||||||
Interest rate cap | $ | — | $ | 3,944 | $ | — | $ | 3,944 | |||||||
$ | — | $ | 3,944 | $ | — | $ | 3,944 | ||||||||
Liabilities: | |||||||||||||||
Promote obligation | $ | — | $ | — | $ | 10,100 | $ | 10,100 | |||||||
$ | — | $ | — | $ | 10,100 | $ | 10,100 | ||||||||
December 31, 2016 | |||||||||||||||
Assets: | |||||||||||||||
Interest rate caps | $ | — | $ | 8,113 | $ | — | $ | 8,113 | |||||||
$ | — | $ | 8,113 | $ | — | $ | 8,113 | ||||||||
Liabilities: | |||||||||||||||
Promote obligation | $ | — | $ | — | $ | 10,100 | $ | 10,100 | |||||||
$ | — | $ | — | $ | 10,100 | $ | 10,100 | ||||||||
The carrying and fair values of the Company’s mortgage note payable,which is not carried at fair value on the consolidated balance sheets, were as follows:
March 31, 2017 | December 31, 2016 | ||||||||||||||
Carrying Amount | Fair Value | Carrying Amount | Fair Value | ||||||||||||
Mortgage note payable - outstanding borrowings | $ | 4,693,000 | $ | 4,588,232 | $ | 4,717,000 | $ | 4,717,000 | |||||||
At March 31, 2017, the fair value of mortgage note payable was estimated using a discounted cash flow model and rates available to the Company for debt with similar terms and remaining maturity. At December 31, 2016, the carrying value of the mortgage note payable was estimated to be the fair value due to the recent issuance of the debt (Level 3).
The Company utilizes a Black-Scholes model in order to fair value the Promote obligation which included the following assumptions:
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
MARCH 31, 2017
(unaudited)
Assumptions | |
Risk-free rate | 2.16% |
Time to exit | 6 years, 3 months |
Expected volatility | 30.21% |
The significant unobservable inputs used in the fair value measurement of the Company's Promote obligation are time to exit and equity volatility. Changes in volatility, in isolation, may change the fair value of the Company’s Promote obligation. An increase in volatility may result in an increase in the fair value of the Promote obligation. The Company's calculated expected volatility of the underlying equity was based upon an analysis of the historical and implied volatility of peer group companies, based on stock price returns commensurate with a look-back period the Company's estimation of the time to exit. If the exit date is later than the Company's estimation, the fair value of the Promote would increase. The risk free-interest rate is based on the U.S. Treasury yield curve in effect at the grant date based on the expected life.
There were no changes in the promote obligation liability, which is measured with Level 3 inputs, during the three months ended March 31, 2017.
NOTE 11 - DERIVATIVES AND HEDGING ACTIVITIES
Risk Management Objective of Using Derivatives
The Company is exposed to certain risks arising from both its business operations and economic conditions. The Company principally manages its exposures to a wide variety of business and operational risks through management of its core business activities. The Company manages economic risks, including interest rate, liquidity, and credit risk primarily by managing the amount, sources, and duration of its debt funding and the use of derivative financial instruments. Specifically, the Company enters into derivative financial instruments to manage exposures that arise from business activities that result in the receipt or payment of future known and uncertain cash amounts, the value of which are determined by interest rates. The Company’s derivative financial instruments are used to manage differences in the amount, timing, and duration of the Company’s known or expected cash receipts and its known or expected cash payments principally related to the Company’s investments and borrowings.
As a condition to certain of the Company’s financing facilities, from time to time the Company may be required to enter into certain derivative transactions as may be required by the lender. These transactions would generally be in line with the Company’s own risk management objectives and also service to protect the lender.
Cash Flow Hedges of Interest Rate Risk
The Company’s objectives in using interest rate derivatives are to add stability to interest expense and to manage its exposure to interest rate movements. To accomplish this objective, the Company entered into one interest rate cap that was designated as a cash flow hedge. Interest rate caps designated as cash flow hedges involve the receipt of variable amounts from a counterparty if interest rates rise above the strike rate on the contract in exchange for an up-front premium.
The effective portion of changes in the fair value of derivatives designated and that qualify as cash flow hedges is recorded in Accumulated Other Comprehensive Income and is subsequently reclassified into earnings in the period that the hedged forecasted transaction affects earnings. During the three months ended March 31, 2017 and year ended December 31, 2016, such derivatives were used to hedge the variable cash flows, indexed to USD-LIBOR, associated with existing variable-rate loan agreements. The ineffective portion of the change in fair value of the derivatives is recognized directly in earnings. During the three months ended March 31, 2017 and 2016, the Company recorded no hedge ineffectiveness in earnings.
As of March 31, 2017, the Company had the following outstanding interest rate derivatives that were designated as cash flow hedges of interest rate risk:
Interest Rate Derivative | Number of Instruments | Notional Amount | Maturity Dates | |||||
Interest rate cap | 1 | $ | 4,693,000 | November 22, 2019 | ||||
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
MARCH 31, 2017
(unaudited)
Tabular Disclosure of Fair Values of Derivative Instruments on the Balance Sheet
The table below presents the fair value of the Company’s derivative financial instrument, an interest rate cap, as well as its classification on the Consolidated Balance Sheets as of March 31, 2017 and 2016:
Asset Derivatives | Liability Derivatives | |||||||||||||||||||||
March 31, 2017 | December 31, 2016 | March 31, 2017 | December 31, 2016 | |||||||||||||||||||
Balance Sheet | Fair Value | Balance Sheet | Fair Value | Balance Sheet | Fair Value | Balance Sheet | Fair Value | |||||||||||||||
Prepaid expenses and other assets | $ | 3,944 | Prepaid expenses and other assets | $ | 8,113 | — | $ | — | — | $ | — | |||||||||||
NOTE 12 - SUBSEQUENT EVENTS
Suspension of Offering
On April 21, 2017, the Board unanimously approved the suspension of sales of Class A and Class T shares in the primary offering, effective that same day and continuing until such time as the Board may approve the resumption of sales under the primary offering, if ever. The Company anticipates resuming sales under the primary offering in connection with the restructuring of the Company’s initial public offering described below.
Suspension of Distribution Reinvestment Plan ("DRIP")
On April 21, 2017, the Board unanimously approved the suspension of the DRIP. Pursuant to the terms of the DRIP, the suspension went into effect on May 1, 2017 and will continue until such time as the Board may approve the resumption of the DRIP, if ever. The Company anticipates amending and reinstating the DRIP in connection with the restructuring of the Company’s initial public offering described below.
Suspension of Share Repurchase Program
On April 21, 2017, the Board unanimously approved the suspension of the SRP. Pursuant to the terms of the SRP, the suspension will go into effect on May 21, 2017 and will continue until such time as the Board may approve the resumption of the SRP, if ever. The Company anticipates amending and reinstating the SRP in connection with the restructuring of the Company’s initial public offering described below.
Public Offering Restructuring
In order to adapt to current market conditions, the Board has authorized the Company’s management to develop a proposal to be considered by the Board at a future date to restructure the Company's initial public offering in order to allow the Company to achieve the following objectives:
(i) revising the Company’s fee structure in order to reduce the upfront fees paid by investors and reduce compensation to the Advisor;
(ii) creating new share classes of the Company’s common stock to be sold in the Company's initial public offering, which will have a public offering price equal to the NAV per share of each such class plus applicable selling commissions and dealer manager fees, and updating the Company’s NAV daily;
(iii) amending the SRP to provide additional liquidity to the Company’s stockholders;
(iv) amending the Company’s investment guidelines to allow the Company to target additional sectors of real estate assets; and
(v) changing the Company into a perpetual-life entity that has the ability to conduct offerings for an indefinite duration.
On May 5, 2017, the Board approved the proposal that included the above objectives and the Company filed the amended registration statement.
Management’s proposal will be subject to review and approval by the Board. Any actions ultimately taken by the Board based on management’s recommendations will be disclosed in the Company’s future public filings in accordance with applicable regulations.
RESOURCE INCOME & OPPORTUNITY REIT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
MARCH 31, 2017
(unaudited)
Authorization of Tender Offer
On April 21, 2017, the Board authorized management to cause the Company to make a tender offer for all of the Class A and Class T shares issued and outstanding as of a date to be determined by the Company’s management that is subsequent to May 21, 2017, the date on which the suspension of the SRP becomes effective. Specific terms of such tender offer will be disclosed in the Company’s future public filings in accordance with applicable regulations.
Articles of Amendment
On May 5, 2017, the Company filed the Articles of Amendment with SDAT. The Articles of Amendment (1) changed the name of the Company from “Resource Innovation Office REIT, Inc.” to “Resource Income & Opportunity REIT, Inc.” and (2) renamed all of the Company’s Class T shares of common stock as Class AA shares of common stock. The Articles of Amendment took effect immediately upon filing with SDAT.
Amended Registration Statement
On May 5, 2017, the Board approved the proposal that included the above objectives and the Company filed the Amended Registration Statement with the SEC. The Amended Registration Statement contains proposed terms of the restructuring of the Company’s initial public offering and has not been declared effective by the SEC.
The Company has evaluated subsequent events through the filing of these financial statements, including those events described above, and has determined that no events have occurred that would require adjustments to or additional disclosure in the consolidated financial statements.
ITEM 2. | MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION |
AND RESULTS OF OPERATIONS (unaudited)
The following discussion and analysis should be read in conjunction with the accompanying financial statements of Resource Income & Opportunity REIT (formerly Resource Innovation Office REIT, Inc.) and the notes thereto. As used herein, the terms “we,” “our” and “us” refer to Resource Income & Opportunity REIT, Inc., (formerly Resource Innovation Office REIT, Inc.), a Maryland corporation, and, as required by context, Resource Innovation Office OP, LP, a Delaware limited partnership, and to their subsidiaries.
Certain statements included in this Quarterly Report on Form 10-Q are forward-looking statements. Forward-looking statements relate to expectations, beliefs, projections, future plans and strategies, anticipated events or trends and similar expressions concerning matters that are not historical facts. In some cases, you can identify forward-looking statements by terms such as “anticipate,” “believe,” “could,” “estimate,” “expects,” “intend,” “may,” “plan,” “potential,” “project,” “should,” “will” and “would” or the negative of these terms or other comparable terminology. Actual results may differ materially from those contemplated by such forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. We undertake no obligation to publicly revise or update these forward-looking statements to reflect events or circumstances after the date of this report, except as may be required under applicable law.
Overview
Resource Income & Opportunity REIT, Inc. (formerly Resource Innovation Office REIT, Inc.). is a Maryland corporation that was organized on June 25, 2014. As of March 31, 2017, we were offering and selling to the public in our public offering up to $1.1 billion in shares of common stock, consisting of up to $1.0 billion of shares in our primary offering in any combination of Class A and Class T shares and up to $100.0 million of shares pursuant to our distribution reinvestment plan ("DRIP") in any combination of Class A and Class T shares. The offering price for shares in the primary offering was $10.00 per share for Class A and $9.47 per share for Class T. The offering price for shares offered pursuant to the DRIP was $9.60 per share for Class A and $9.09 per share for Class T.
On February 16, 2016, we satisfied the $2.0 million minimum offering amount for our initial public offering, excluding shares purchased by residents of Pennsylvania, New York and Washington. As a result, we have broken escrow and issued shares of common stock in our initial public offering. In June 2016, we broke escrow in New York. Subscription payments received from residents of Pennsylvania and Washington will continue to be held in escrow until we receive aggregate subscriptions of at least $50.0 million and $10.0 million, respectively. Having raised the minimum offering amount, offering proceeds were released to us by our escrow agent and are available for the acquisition of properties and other purposes.
On April 21, 2017, our board of directors (“Board”) unanimously approved the suspension of sales of shares in our primary offering and the suspension of our DRIP, effective April 21, 2017 and May 1, 2017, respectively, and continuing until such time as our Board may approve their resumption , if ever. We anticipate resuming sales under our primary offering and amending and reinstating our DRIP in connection with the restructuring of our initial public offering, as described below.
In addition, on April 21, 2017, our Board unanimously (i) approved the suspension of our share repurchase program (“SRP”), effective May 21, 2017; and (ii) authorized management to cause us to make a tender offer for all of the Class A and Class T shares issued and outstanding as of a date to be determined by our management that is subsequent to May 21, 2017, the date on which the suspension of our SRP becomes effective. Specific terms of such tender offer will be disclosed in our future public filings in accordance with applicable regulations.
On May 5, 2017, we filed Articles of Amendment to our Second Articles of Amendment and Restatement (the “Articles of Amendment”) with the State Department of Assessments and Taxation of Maryland (“SDAT”). The Articles of Amendment (1) changed our name from “Resource Innovation Office REIT, Inc.” to “Resource Income & Opportunity REIT, Inc.” and (2) renamed all of our Class T shares of common stock as Class AA shares of common stock. The Articles of Amendment took effect immediately upon filing with SDAT. Also on May 5, 2017, we filed Pre-Effective Amendment No. 1 to Post-Effective Amendment No. 7 to our Registration Statement on Form S-11 (the “Amended Registration Statement”) with the SEC. The Amended Registration Statement contains proposed terms of the restructuring of our initial public offering and has not been declared effective by the SEC.
As of March 31, 2017, we intended to invest in office properties that are located in U.S. cities that attract a young, creative and educated labor pool. Examples of our targeted markets include, but are not limited to, major gateway cities such as the San Francisco Bay Area, Boston and Washington, D.C. as well as midsized cities such as Austin, Seattle and Denver. Within these types of cities, we seek to acquire office buildings that provide a collaborative office space environment to companies competing for talented employees. When needed, we intend to renovate and upgrade the properties we acquire to better serve and appeal to these types of tenants. To a lesser extent, we will also seek to originate and purchase commercial real estate debt secured by office buildings of this type. We do not expect that debt investments will comprise more than 25% of our portfolio, following the investment of all of the net proceeds from this offering. We cannot predict, however, the ultimate allocation of net proceeds from this offering between property acquisitions and debt investments at this time because this allocation will depend, in part, on market conditions and opportunities and on the amount of financing that we are able to obtain with respect to the types of assets in which we seek to invest. If we are only able to raise the minimum offering or an amount substantially less than our maximum offering, our plan of operation will be scaled down considerably, and we would expect to acquire a limited number of assets. We may make adjustments to our target portfolio based on real estate market conditions and investment opportunities. We will not forego a good investment because it does not precisely fit our expected portfolio composition. Thus, to the extent that Resource Innovation Office Advisor, LLC (our "Advisor") presents us with attractive investment opportunities that allow us to meet the real estate investment trust ("REIT") requirements under the Internal Revenue Code, our portfolio composition may vary from what we initially expect.
In order to adapt to current market conditions, in May 2017, our Board has approved the proposal to restructure our initial public offering in order to allow us to achieve the following objectives:
(i) | revising our fee structure in order to reduce the upfront fees paid by investors and reduce compensation to our Advisor; |
(ii) | creating new share classes of our common stock to be sold in our initial public offering, which will have a public offering price equal to the net asset value (“NAV”) per share of each such class plus applicable selling commissions and dealer manager fees, and updating the Company’s NAV daily; |
(iii) | amending the SRP to provide additional liquidity to our stockholders; |
(iv) | amending our investment guidelines to allow us to target additional sectors of real estate assets; and |
(v) | changing into a perpetual-life entity that has the ability to conduct offerings for an indefinite duration. |
Management’s proposal will be subject to review and approval by the Board. Any actions ultimately taken by our Board based on management’s recommendations will be disclosed in our future public filings in accordance with applicable regulations.
Results of Operations
As of March 31, 2017, we owned one commercial building in Chicago, Illinois ("Sunnyside") that was purchased in November 2016. As such, we had limited operations during the three months ended March 31, 2017 and 2016. As of March 31, 2017, Sunnyside, was fully leased.
Three months ended | |||||||
March 31, | |||||||
2017 | 2016 | ||||||
Revenues: | |||||||
Rental income | $ | 158,134 | $ | — | |||
Tenant reimbursements | 14,038 | — | |||||
Total revenues | 172,172 | — | |||||
Expenses: | |||||||
Rental operating | 24,889 | — | |||||
Real estate taxes | 25,005 | — | |||||
Property management fees | 6,000 | — | |||||
Asset management fees- related party | 19,268 | — | |||||
General and administrative | 425,538 | 31,876 | |||||
Depreciation and amortization expense | 111,167 | — | |||||
Total expenses | 611,867 | 31,876 | |||||
Loss before other expense | (439,695 | ) | (31,876 | ) | |||
Other income (expense): | |||||||
Interest income | 364 | 562 | |||||
Interest expense | (46,451 | ) | — | ||||
Total other expense | (46,087 | ) | 562 | ||||
Net loss | $ | (485,782 | ) | $ | (31,314 | ) | |
During the three and three months ended March 31, 2017 and 2016, we incurred the following general and administrative expenses:
Three Months Ended | |||||||
March 31, 2017 | March 31, 2016 | ||||||
Payroll and benefits | $ | 151,937 | $ | 22,325 | |||
Professional fees | 113,775 | — | |||||
Directors fees | 43,952 | — | |||||
Insurance | 40,673 | — | |||||
IT related | 28,405 | — | |||||
Travel and entertainment | 14,115 | — | |||||
Other | 32,681 | 9,551 | |||||
$ | 425,538 | $ | 31,876 | ||||
Liquidity and Capital Resources
We anticipate deriving the capital required to purchase real estate investments and conduct our operations from the proceeds of our initial public offering and any future offerings we may conduct, from secured or unsecured financings from banks or other lenders and from proceeds from the sale of assets. In addition, our Advisor has and will advance funds to us for certain organization and offering costs. As of March 31, 2017, we had purchased one property using both offering proceeds from our initial public offering and debt proceeds. As described above, on April 21, 2017, our Board unanimously approved the suspension of sales of shares in our primary offering and the suspension of our DRIP, effective April 21, 2017 and May 1, 2017, respectively, and continuing until such time as our Board may approve their resumption, if ever.
We anticipate resuming sales under our primary offering and amending and reinstating our DRIP in connection with the restructuring of our initial public offering, as described below. If we do not resume our public offering or DRIP, or are unable to raise substantially more funds following their resumption, we will make fewer investments resulting in less diversification in terms of the type, number and size of investments we make and the value of an investment in us will fluctuate with the performance of the specific assets we acquire. Further, we will have certain fixed operating costs, including certain expenses as a publicly offered REIT, regardless of whether we are able to raise substantial funds in our offering. Our inability to raise substantial funds would increase our fixed operating expenses as a percentage of gross income, reducing our net income and limiting our ability to make distributions.
On April 21, 2017, our Board authorized management to cause us to make a tender offer for all of the Class A and Class T shares issued and outstanding as of a date to be determined by our management that is subsequent to May 21, 2017, the date on which the suspension of our SRP, becomes effective. Specific terms of such tender offer will be disclosed in our future public filings in accordance with applicable regulations.
We intend to make reserve allocations as necessary to aid our objective of preserving capital for our investors by supporting the maintenance and viability of properties we acquire in the future. If reserves and any other available income become insufficient to cover our operating expenses and liabilities, it may be necessary to obtain additional funds by borrowing, refinancing properties or liquidating our investment in one or more properties, debt investments or other assets we may hold. We cannot assure you that we will be able to access additional funds when we need them or upon acceptable terms.
As of March 31, 2017, we had $4.7 million of outstanding debt under one mortgage. Although there is no limit on the amount we can borrow to acquire a single real estate investment, we may not leverage our assets with debt financing such that our borrowings are in excess of 300% of our net assets unless a majority of our independent directors find substantial justification for borrowing a greater amount. Examples of such a substantial justification include, without limitation, obtaining funds for the following: (i) to repay existing obligations, (ii) to pay sufficient distributions to maintain REIT status, or (iii) to buy an asset where an exceptional acquisition opportunity presents itself and the terms of the debt agreement and the nature of the asset are such that the debt does not increase the risk that we would become unable to meet our financial obligations as they became due. On a total portfolio basis, however, based on current lending market conditions, we anticipate that we will not leverage our assets with debt financing such that our total liabilities are in excess of 50% of our assets.
We may finance the acquisition costs of individual real estate investments, as well as the acquisition costs of all or a group of real estate investments acquired by us, by causing our subsidiaries to borrow directly from third-party financial institutions or other commercial lenders. Under these circumstances, our Advisor anticipates that certain properties acquired will serve as collateral for the debt we incur to acquire those particular properties and that we will seek to obtain nonrecourse financing for the acquisition of the properties. However, there is no guarantee that our Advisor will be successful in obtaining financing arrangements on a property-by-property basis and that the loans would be nonrecourse to us. Additionally, we may obtain corporate-level financing through a line of credit from third-party financial institutions or other commercial lenders. Our assets will serve as collateral for this type of debt incurred to acquire real estate investments. We may also obtain seller financing with respect to specific assets that we acquire.
In addition to making investments in accordance with our investment objectives, which, as described above may be broadened in connection with the restructuring of our initial public offering, we expect to use our capital resources to make payments to our Advisor and the dealer manager of our public offering, which is an affiliate of our Advisor. During our organization and offering stage, these payments will include payments to the dealer manager for selling commissions and the dealer manager fee and payments to the dealer manager and our Advisor for reimbursement of organization and offering expenses. However, our Advisor has agreed to reimburse us to the extent that selling commissions, the dealer manager fee and other organization and offering expenses incurred by us exceed 15% of our gross offering proceeds. During our acquisition and development stage, we expect to make payments to our Advisor in connection with the selection or purchase of real estate investments, the management of our assets and costs incurred by our Advisor in providing services to us.
Distributions
For the three months ended March 31, 2017, we paid aggregate distributions of $20,430 which were paid from offering proceeds as follows:
Declaration Date | Record Date | Per Common Share | Distribution Date | Distributions Reinvested in Shares of Common Stock | Net Cash Distributions | Total Aggregate Distributions | ||||||||||||
Class A Shares: | ||||||||||||||||||
November 21, 2016 | 12/30/16 through 1/30/17 | $0.000547945 per day | 1/31/2017 | $ | 956 | $ | 4,441 | $ | 5,397 | |||||||||
November 21, 2016 | 1/31/17 through 2/27/17 | $0.000547945 per day | 2/28/2017 | 976 | 3,931 | 4,907 | ||||||||||||
February 16, 2017 | 2/28/17 through 3/30/17 | $0.000547945 per day | 3/31/2017 | 1,094 | 4,395 | 5,489 | ||||||||||||
Subtotal- Class A shares: | 3,026 | 12,767 | 15,793 | |||||||||||||||
Class T Shares | ||||||||||||||||||
November 21, 2016 | 12/30/16 through 1/30/17 | $0.0002739725 per day | 1/31/2017 | 729 | 753 | 1,482 | ||||||||||||
November 21, 2016 | 1/31/17 through 2/27/17 | $0.0002739725 per day | 2/28/2017 | 801 | 628 | 1,429 | ||||||||||||
February 16, 2017 | 2/28/17 through 3/30/17 | $0.0002739725 per day | 3/31/2017 | 1,022 | 704 | 1,726 | ||||||||||||
Subtotal- Class T shares: | 2,552 | 2,085 | 4,637 | |||||||||||||||
Total Class A and T shares: | $ | 5,578 | $ | 14,852 | $ | 20,430 | ||||||||||||
The Company has accrued $14,914 for the cash distributions to be paid on April 28, 2017 and May 31, 2017 which are not reflected in the table above.
Distributions declared, distributions paid and cash flows used in operating activities were as follows for the three months ended March 31, 2017:
Distributions Paid | Distributions Declared | |||||||||||||||
2017 | Cash | Distributions Reinvested (DRIP) | Total | Cash Used in Operating Activities | Total | Per Share | Amounts Paid from Operating Activities/Percent of Total Distributions Paid | Amounts Paid from Offering Proceeds/Percent of Total Distributions Paid | ||||||||
First Quarter- A shares | $12,767 | $3,026 | $15,793 | $16,735 | $0.05 | |||||||||||
First Quarter- T Shares | $2,085 | $2,552 | $4,637 | $5,681 | $0.025 | |||||||||||
First Quarter- Total | $14,852 | $5,578 | $20,430 | $(20,022) | $22,416 | $0/0% | $20,430/$100% | |||||||||
Organization and Offering Costs
We expect to incur organization and offering costs in pursuit of our financing. Our organization and offering costs (other than selling commissions and dealer manager fees) are initially being paid by the Advisor on our behalf. Organization costs include all expenses that we incur in connection with our formation, including but not limited to legal fees and other costs to incorporate.
Pursuant to the Advisory Agreement, we will be obligated to reimburse the Advisor for selling commissions, dealer manager fees, and organization and offering costs paid by the Advisor on our behalf, up to an amount equal to 15% of gross offering proceeds.
Through March 31, 2017, we have charged $486,232 to equity for the payment of offering costs consisting of accounting, advertising, allocated payroll, due diligence, marketing, legal, printing and similar costs. As of March 31, 2017, our Advisor has advanced $4.9 million of these costs on our behalf, of which $4.5 million has been deferred as of March 31, 2017. A portion of deferred offering costs will be charged to equity upon the sale of each share of common stock sold under the public offering. Such costs will only become a liability of the Advisor to the extent that selling commissions, dealer manager fees and organization and offering costs incurred by us exceed 15% of the gross proceeds of the initial public offering. If, however,we raise the maximum offering amount in the primary offering and under the DRIP, organization and offering expenses (excluding selling commissions and the dealer manager fee) are estimated to be approximately 1% of the gross proceeds of the initial public offering. When recorded by us, organization costs are expensed as incurred, which include all expenses incurred by us in connection with our formation, including but not limited to legal fees and other costs to incorporate. There can be no assurance that our plans to raise capital will be successful.
Outstanding Class T shares issued in our primary offering are subject to a 0.083% (one-twelfth of 1%) of the share purchase price monthly distribution and shareholder servicing fee for five years from the date on which such share is issued. We will cease paying the distribution and shareholder servicing fee on each Class T share prior to the fifth anniversary of its issuance on the earliest of the following, should any of these events occur: (i) the date at which, in the aggregate, underwriting compensation from all sources equals 10% of the gross proceeds from the our primary offering (i.e., excluding proceeds from sales pursuant to our DRIP); (ii) the date on which we list our common stock on a national securities exchange; and (iii) the date of a merger or other extraordinary transaction in which we are a party and in which our common stock is exchanged for cash or other securities. We cannot predict if or when any of these events will occur. For issued Class T shares, we have accrued an estimate of the total distribution and shareholder servicing fee for the full five year period ending March 31, 2017 of $99,100 excluding amounts previously paid.
Critical Accounting Policies
For a discussion on our critical accounting policies and estimates, see the discussion in our Annual Report on Form 10-K for the year ended December 31, 2016 under "Item 7. Management's Discussion and Analysis of financial Condition and Results of Operations - Critical Accounting Policies," which is hereby incorporated herein by reference.
Funds from Operations, Modified Funds from Operations
Funds from operations, or FFO, is a non-GAAP financial performance measure that is widely recognized as a measure of REIT operating performance. We use FFO as defined by the National Association of Real Estate Investment Trusts to be net income (loss), computed in accordance with GAAP excluding extraordinary items, as defined by GAAP, and gains (or losses) from sales of property (including deemed sales and settlements of pre-existing relationships), plus depreciation and amortization on real estate assets, and after related adjustments for unconsolidated partnerships, joint ventures and subsidiaries. We believe that FFO is helpful to our investors and our management as a measure of operating performance because it excludes real estate-related depreciation and amortization, gains and losses from property dispositions, and extraordinary items, and as a result, when compared year to year, reflects the impact on operations from trends in occupancy rates, rental rates, operating costs, development activities, general and administrative expenses, and interest costs, which are not immediately apparent from net income. Historical cost accounting for real estate assets in accordance with GAAP implicitly assumes that the value of real estate and intangibles diminishes predictably over time. Since real estate values have historically risen or fallen with market conditions, many industry investors and analysts have considered the presentation of operating results for real estate companies that use historical cost accounting alone to be insufficient. As a result, our management believes that the use of FFO, together with the required GAAP presentations, is helpful for our investors in understanding our performance. Factors that impact FFO include start-up costs, fixed costs, delay in buying assets, lower yields on cash held in accounts, income from portfolio properties and other portfolio assets, interest rates on acquisition financing and operating expenses.
Since FFO was promulgated, GAAP has adopted several new accounting pronouncements, such that management and many investors and analysts have considered the presentation of FFO alone to be insufficient. Accordingly, in addition to FFO, we use modified funds from operations, or MFFO, as defined by the Investment Program Association, or IPA. MFFO excludes from FFO the following items:
(1)acquisition fees and expenses;
(2)straight-line rent amounts, both income and expense;
(3)amortization of above- or below-market intangible lease assets and liabilities;
(4)amortization of discounts and premiums on debt investments;
(5)impairment charges;
(6)gains or losses from the early extinguishment of debt;
(7)gains or losses on the extinguishment or sales of hedges, foreign exchange, securities and other derivatives holdings except where the trading of such instruments is a fundamental attribute of our operations;
(8)gains or losses related to fair-value adjustments for derivatives not qualifying for hedge accounting, including interest rate and foreign exchange derivatives;
(9)gains or losses related to consolidation from, or deconsolidation to, equity accounting;
(10)gains or losses related to contingent purchase price adjustments; and
(11)adjustments related to the above items for unconsolidated entities in the application of equity accounting.
We believe that MFFO is helpful in assisting management assess the sustainability of operating performance in future periods and, in particular, after our acquisition stage is complete, primarily because it excludes acquisition expenses that affect property operations only in the period in which the property is acquired. Thus, MFFO provides helpful information relevant to evaluating our operating performance in periods in which there is no acquisition activity.
As explained below, management’s evaluation of our operating performance excludes the items considered in the calculation based on the following economic considerations. Many of the adjustments in arriving at MFFO are not applicable to us. Nevertheless, we explain below the reasons for each of the adjustments made in arriving at our MFFO definition:
•Acquisition expenses. In evaluating investments in real estate, including both business combinations and investments accounted for under the equity method of accounting, management’s investment models and analysis differentiate costs to acquire the investment from the operations derived from the investment. Prior to 2009, acquisition costs for both of these types of investments were capitalized under GAAP; however, beginning in 2009, acquisition costs related to business combinations are expensed. We believe by excluding expensed acquisition costs, MFFO provides useful supplemental information that is comparable for each type of real estate investment and is consistent with management’s analysis of the investing and operating performance of our properties. Acquisition expenses include those paid to our Advisor or third parties.
•Adjustments for straight-line rents and amortization of discounts and premiums on debt investments. In the application of GAAP, rental receipts and discounts and premiums on debt investments are allocated to periods using various systematic methodologies. This application will result in income recognition that could be significantly different than underlying contract terms. By adjusting for these items, MFFO provides useful supplemental information on the realized economic impact of lease terms and debt investments and aligns results with management’s analysis of operating performance.
•Adjustments for amortization of above or below market intangible lease assets. Similar to depreciation and amortization of other real estate related assets that are excluded from FFO, GAAP implicitly assumes that the value of intangibles diminishes predictably over time and that these charges be recognized currently in revenue. Since real estate values and market lease rates
in the aggregate have historically risen or fallen with market conditions, management believes that by excluding these charges, MFFO provides useful supplemental information on the performance of the real estate.
•Impairment charges, gains or losses related to fair-value adjustments for derivatives not qualifying for hedge accounting and gains or losses related to contingent purchase price adjustments. Each of these items relates to a fair value adjustment, which is based on the impact of current market fluctuations and underlying assessments of general market conditions and specific performance of the holding which may not be directly attributable to current operating performance. As these gains or losses relate to underlying long-term assets and liabilities, management believes MFFO provides useful supplemental information by focusing on the changes in our core operating fundamentals rather than changes that may reflect anticipated gains or losses. In particular, because GAAP impairment charges are not allowed to be reversed if the underlying fair values improve or because the timing of impairment charges may lag the onset of certain operating consequences, we believe MFFO provides useful supplemental information related to current consequences, benefits and sustainability related to rental rate, occupancy and other core operating fundamentals.
•Adjustment for gains or losses related to early extinguishment of hedges, debt, consolidation or deconsolidation and contingent purchase price. Similar to extraordinary items excluded from FFO, these adjustments are not related to continuing operations. By excluding these items, management believes that MFFO provides supplemental information related to sustainable operations that will be more comparable between other reporting periods and to other real estate operators.
By providing MFFO, we believe we are presenting useful information that also assists investors and analysts in the assessment of the sustainability of our operating performance after our acquisition stage is completed. We also believe that MFFO is a recognized measure of sustainable operating performance by the real estate industry. MFFO is useful in comparing the sustainability of our operating performance after our acquisition stage is completed with the sustainability of the operating performance of other real estate companies that are not as involved in acquisition activities or as affected by other MFFO adjustments. However, investors are cautioned that MFFO should only be used to assess the sustainability of our operating performance after our acquisition stage is completed, as it excludes acquisition costs that have a negative effect on our operating performance and the reported book value of our common stock and stockholders’ equity during the periods in which properties are acquired.
Neither FFO nor MFFO should be considered as an alternative to net (loss) income, nor as an indication of our liquidity, nor are any of these measures indicative of funds available to fund our cash needs, including our ability to fund distributions. In particular, as we may continue to acquire properties as part of our ongoing operations, acquisition costs and other adjustments that are increases to MFFO are, and may continue to be, a significant use of cash. Accordingly, FFO and MFFO should be reviewed in connection with other GAAP measurements. Our FFO and MFFO as presented may not be comparable to amounts calculated by other REITs.
The following section presents our calculation of FFO and MFFO and provides additional information related to our operations:
Three Months Ended | ||||||||
March 31, | ||||||||
2017 | 2016 | |||||||
Net loss - GAAP | $ | (485,782 | ) | $ | (31,314 | ) | ||
Depreciation expense | 59,244 | — | ||||||
FFO | (426,538 | ) | (31,314 | ) | ||||
Adjustments for above and below market lease intangibles | 6,413 | — | ||||||
Adjustments for straight-line rents | (20,850 | ) | — | |||||
Amortization of intangible lease assets | 51,923 | — | ||||||
MFFO | $ | (389,052 | ) | $ | (31,314 | ) | ||
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Omitted as permitted under rules applicable to smaller reporting companies.
ITEM 4. CONTROLS AND PROCEDURES
Disclosure Controls and Procedures
As of the end of the period covered by this report, management, including our chief executive officer and chief financial officer, has evaluated the effectiveness of the design and operation of our disclosure controls and procedures. Based upon, and as of the date of, the evaluation, our chief executive officer and chief financial officer have concluded that the disclosure controls and procedures were effective as of the end of the period covered by this report to ensure that information required to be disclosed in the reports we file and submit under the Securities Exchange Act of 1934, as amended, (i) is recorded, processed, summarized and reported as and when required and (ii) is accumulated and communicated to our management, including our chief executive officer and our chief financial officer, as appropriate to allow timely decisions regarding required disclosure.
Changes in Internal Control over Financial Reporting
There has been no change in our internal control over financial reporting that occurred during the three months ended March 31, 2017 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
From time to time, we may become party to legal proceedings, which arise in the ordinary course of our business. We are not currently involved in any legal proceedings of which the outcome is reasonably likely to have a material adverse effect on our results of operations or financial condition, nor are we aware of any such legal proceedings contemplated by governmental authorities.
ITEM 1A. RISK FACTORS
There have been no material changes from the risk factors set forth in our Annual Report on Form 10-K for the year ended December 31, 2016, filed with the Securities and Exchange Commission on March 29, 2017, except as set forth below.
We suspended our primary offering effective April 21, 2017, and if we do not resume selling shares of our common stock we may not be able to obtain the additional capital we require to acquire additional investments and pay distributions to our stockholders.
On April 21, 2017, our board of directors unanimously approved the suspension of sales of shares in our offering, effective that same date. On May 5, 2017, we filed our Amended Registration Statement which has not yet been declared effective. There can be no assurance that we will resume our primary offering or be able to generate capital from alternative sources to fund our operating and capital needs. We have also funded a substantial portion of the distributions to our stockholders from proceeds from our primary offering. There is no assurance that we will be able to generate sufficient capital from alternative sources to pay distributions to our stockholders. Moreover, if we are required to sell assets to generate needed cash, our ability to generate future cash flow from operations will be adversely impacted.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Unregistered Sales of Equity Securities
During the period covered by this report we did not sell any unregistered securities.
Use of Proceeds
On June 10, 2015, our Registration Statement on Form S-11 (File No. 333-201842), covering our initial public offering of up to $1.1 billion in shares of common stock, consisting of up to $1.0 billion of shares in our primary offering and up to $100.0 million of shares of common stock under our DRIP, was declared effective under the Securities Act of 1933. We retained Resource Securities, an affiliate of our Advisor, as the dealer manager for our offering.
As of March 31, 2017, we were offering up to $1.1 billion of shares of our common stock, consisting of up to $1.0 billion of shares in our primary offering in any combination of Class A and Class T shares and up to $100.0 million of shares pursuant to our DRIP in any combination of Class A and Class T shares. The offering price for Class A shares in the primary offering was $10.00 per share and the initial offering price of Class T shares in the primary offering is $9.47 per share. The offering price for Class A shares offered pursuant to the DRIP was $9.60 per share and the initial offering price for Class T shares offered pursuant to the DRIP was $9.09 per share. As of March 31, 2017, our Advisor has incurred offering costs on our behalf of approximately $4.9 million.
From the commencement of our offering through March 31, 2017, we incurred $77,489 in selling commissions, $83,042 in dealer manager fees, $486,232 of other offering costs and $105,784 in distribution and shareholder service fees in connection with the issuance and distribution of our registered securities.
We expect to use substantially all of the net proceeds from our initial public offering to invest in and manage a diverse portfolio of commercial real estate assets. On February 16, 2016, we satisfied the $2.0 million minimum offering amount for our initial public offering. As a result, we have broken escrow and issued shares of common stock in the offering. As of the date of this report, we had purchased one commercial real estate property.
Share Repurchase Program
Our common stock is currently not listed on a national securities exchange and we will not seek to list our common stock unless and until such time as our Board determines that the listing of our common stock would be in the best interests of our stockholders. In order to provide stockholders with the benefit of some interim liquidity, our Board has adopted the SRP that enables our stockholders to sell their shares back to us after they have held them for at least one year, subject to significant conditions and limitations. The terms of our SRP are more flexible in cases involving the death or disability of a stockholder. We may reject any request for repurchase of shares.
Repurchases of shares of our common stock, when requested, generally will be made quarterly. We will limit the number of shares repurchased during any calendar year to 5.0% of the number of shares of our common stock outstanding on December 31 of the previous calendar year. In addition, we are only authorized to repurchase shares using proceeds from our DRIP plus 1.0% of the operating cash flow from the previous fiscal year (to the extent positive) and any additional operating funds, if any, as our Board in its sole discretion may reserve for this purpose. Due to these limitations, we cannot guarantee that we will be able to accommodate all repurchase requests.
Unless the shares of our common stock are being repurchased in connection with a stockholder’s death or qualifying disability, the purchase price for shares repurchased under our SRP will be as set forth below until the date on which we determine our NAV(the "NAV pricing date"), which shall be no later than July 12, 2018, which is two years and 150 days after we satisfied the minimum offering requirement. Prior to the NAV pricing date, and unless the shares are being repurchased in connection with a stockholder’s death or qualifying disability, we will initially repurchase shares at a price equal to, or at a discount from, the purchase price paid for the shares being repurchased as follows:
Share Purchase Anniversary | Repurchase Price as a Percentage of Purchase Price | |
Less than 1 year | No Repurchase Allowed | |
1 year | 92.5% | |
2 years | 95.0% | |
Notwithstanding the foregoing, until the NAV pricing date, shares received as a stock distribution will be redeemed at a purchase price of $0.00. In addition, the purchase price per share will be adjusted for any stock combinations, splits, recapitalizations and the like with respect to the shares of common stock and reduced by the aggregate amount of net sale or refinance proceeds per share, if any, distributed to the stockholder prior to the repurchase date.
Shares repurchased in connection with a stockholder’s death or qualifying disability will be repurchased at a price per share equal to 100% of the amount the stockholder paid for each share, or, once we have established an estimated NAV per share, 100% of such amount, as determined by our Board, subject to any special distributions previously made to our stockholders. Shares repurchased in connection with a stockholder’s other exigent circumstances, such as bankruptcy, within one year from the purchase date, will be repurchased at a price per share equal to the price per share we would pay had the stockholder held the shares for one year from the purchase date, and at all other times in accordance with the terms described above. A stockholder must have beneficially held the shares for at least one year prior to offering them for sale to us through our SRP, unless the shares are being repurchased in connection with a stockholder’s death, qualifying disability, or certain other exigent circumstances. Our Board reserves the right, in its sole discretion, at any time and from time to time, to waive the one-year holding period requirement in the event of the death or qualifying disability of a stockholder, other involuntary exigent circumstances such as bankruptcy, or a mandatory distribution requirement under a stockholder’s individual retirement account.
Pursuant to the terms of our SRP, our Board, in its sole discretion, may amend, suspend, reduce, terminate or otherwise change the SRP upon 30 days’ prior notice to our stockholders, which notice may be provided by including such information (i) in a Current Report on Form 8-K or in the Company’s annual or quarterly reports, all as publicly filed with the SEC, or (ii) in a separate mailing to our stockholders.
On April 21, 2017, our Board unanimously approved the suspension of our SRP. Pursuant to the terms of the SRP, the suspension will go into effect on May 21, 2017 and will continue until such time as the Board may approve the resumption of the SRP, if ever. We anticipate amending and reinstating the SRP in connection with the restructuring of our initial public offering, as described herein.
On April 21, 2017, our Board authorized management to cause us to make a tender offer for all of the Class A and Class T shares issued and outstanding as of a date to be determined by our management that is subsequent to May 21, 2017, the date on which the suspension of our SRP, becomes effective. Specific terms of such tender offer will be disclosed in our future public filings in accordance with applicable regulations.
During the three months ended March 31, 2017, we did not receive any repurchase requests and did not repurchase any shares of our common stock.
ITEM 6. EXHIBITS
Exhibit No. | Description | |
10.1 | Promissory Note by RRE Sunnyside Holdings, LLC in favor of MB Financial Bank (incorporated by reference to Exhibit 10.2 to our Current Report on Form 8-K/A as filed with the SEC on January 18, 2017) | |
10.2 | Independent Directors Restricted Stock Award Certificate (incorporated by reference to Exhibit 10.11 to Post-Effective Amendment No. 5 to our Registration Statement on Form S-11 (No. 333-201842) as filed with the SEC on February 21, 2017) | |
31.1 | Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 | |
31.2 | Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 | |
32.1 | Certification of Chief Executive Officer pursuant to Section 1350 18 U.S.C., as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 | |
32.2 | Certification of Chief Financial Officer pursuant to Section 1350 18 U.S.C., as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 | |
101.1 | Interactive Data Files | |
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
RESOURCE INCOME & OPPORTUNITY REIT, INC. | |
May 11, 2017 | By: /s/ Alan F. Feldman |
Alan F. Feldman | |
Chief Executive Officer | |
(Principal Executive Officer) | |
May 11, 2017 | By: /s/ Steven R. Saltzman |
Steven R. Saltzman | |
Chief Financial Officer | |
(Principal Financial and Accounting Officer) | |