UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

 

x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended July 31, 2018

or

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 No. 000-25043

 

 

FIRST REAL ESTATE INVESTMENT TRUST OF NEW JERSEY

(Exact name of registrant as specified in its charter)

 

New Jersey		22-1697095
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)
505 Main Street, Hackensack, New Jersey		07601
(Address of principal executive offices)		(Zip Code)

 

201-488-6400

(Registrant's telephone number, including area code)

 

 

(Former name, former address and former fiscal year, if changed since last report)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x 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 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. (Check one):

Large Accelerated Filer o	Accelerated Filer x	Non-Accelerated Filer o	Smaller Reporting Company o
Emerging growth company o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes o  No x

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. o

As of September 7, 2018, the number of shares of beneficial interest outstanding was 6,756,734.

 

 

 

FIRST REAL ESTATE INVESTMENT TRUST OF NEW JERSEY

 

 

 

INDEX

 

 

Part I:	Financial Information
				Page
	Item 1:	Unaudited Condensed Consolidated Financial Statements
		a.)	Condensed Consolidated Balance Sheets as of July 31, 2018 and October 31, 2017;	3
		b.)	Condensed Consolidated Statements of Income for the  Nine and Three Months Ended July 31, 2018 and 2017;	4
		c.)	Condensed Consolidated Statements of Comprehensive Income for the Nine and Three Months Ended July 31, 2018 and 2017;	5
		d.)	Condensed Consolidated Statement of Equity for the Nine Months Ended July 31, 2018;	6
		e.)	Condensed Consolidated Statements of Cash Flows for the Nine Months Ended July 31, 2018 and 2017;	7
		f.)	Notes to Condensed Consolidated Financial Statements.	8
	Item 2:	Management’s Discussion and Analysis of Financial Condition and Results of Operations		17
	Item 3:	Quantitative and Qualitative Disclosures About Market Risk		29
	Item 4:	Controls and Procedures		29
Part II:	Other Information
	Item 1:	Legal Proceedings		29
	Item 1A:	Risk Factors		29
	Item 6:	Exhibits		30
	Signatures			30

 

  

Part I: Financial Information

 

Item 1: Unaudited Condensed Consolidated Financial Statements

 

 

FIRST REAL ESTATE INVESTMENT TRUST OF NEW JERSEY AND SUBSIDIARIES

 CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited)

 

		July 31,				October 31,
		2018				2017
		(In Thousands of Dollars)
ASSETS
Real estate, at cost, net of accumulated depreciation		$	346,565			$	331,965
Construction in progress			140				129
Cash and cash equivalents			20,744				7,899
Tenants' security accounts			2,186				2,007
Receivables arising from straight-lining of rents			3,714				3,359
Accounts receivable, net of allowance for doubtful accounts of $333 and			2,544				1,767
$175 as of July 31, 2018 and October 31, 2017, respectively
Secured loans receivable			5,451				5,451
Prepaid expenses and other assets			6,368				9,135
Qualified intermediary deposit - 1031 exchange			—				6,965
Deferred charges, net			2,860				2,680
Interest rate cap and swap contracts			3,950				1,600
Total Assets		$	394,522			$	372,957
LIABILITIES AND EQUITY
Liabilities:
Mortgages payable		$	351,569			$	323,435
Less unamortized debt issuance costs			3,778				1,863
Mortgages payable, net			347,791				321,572
Due to affiliate			5,349				5,172
Deferred trustee compensation payable			8,457				9,078
Accounts payable and accrued expenses			3,064				3,870
Dividends payable			338				—
Tenants' security deposits			3,170				2,960
Deferred revenue			890				1,276
Interest rate swap contract			—				439
Total Liabilities			369,059				344,367
Commitments and contingencies
Equity:
Common equity:
Shares of beneficial interest without par value:
8,000,000 shares authorized; 6,993,152 shares issued plus 146,121			28,075				27,651
and 122,092 vested share units granted to trustees at July 31, 2018
and October 31, 2017, respectively
Treasury stock, at cost: 236,418 and 253,083 shares at July 31, 2018
and October 31, 2017, respectively			(4,959	)			(5,273	)
Dividends in excess of net income			(4,464	)			(4,824	)
Accumulated other comprehensive income			2,161				284
Total Common Equity			20,813				17,838
Noncontrolling interests in subsidiaries			4,650				10,752
Total Equity			25,463				28,590
Total Liabilities and Equity		$	394,522			$	372,957

 

See Notes to Condensed Consolidated Financial Statements.  

FIRST REAL ESTATE INVESTMENT TRUST OF NEW JERSEY AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

NINE AND THREE MONTHS ENDED JULY 31, 2018 AND 2017

(Unaudited)

 

		Nine Months Ended July 31,								Three Months Ended July 31,
		2018				2017				2018				2017
		(In Thousands of Dollars, Except Per Share Amounts)								(In Thousands of Dollars, Except Per Share Amounts)
Revenue:
Rental income		$	38,207			$	33,367			$	13,036			$	11,349
Reimbursements			4,428				3,999				1,441				1,226
Sundry income			515				577				154				105
Total revenue			43,150				37,943				14,631				12,680
Expenses:
Operating expenses			12,311				11,964				3,993				4,049
Lease termination fee			—				620				—				—
Management fees			1,893				1,749				633				593
Real estate taxes			5,888				7,362				2,438				2,554
Depreciation			8,573				7,887				3,029				2,709
Total expenses			28,665				29,582				10,093				9,905
Operating income			14,485				8,361				4,538				2,775
Investment income			201				145				89				54
Unrealized gain on interest rate cap contract			40				—				21				—
Gain on sale of property			—				15,395				—				15,395
Loan prepayment costs relating to property sale			—				(1,139	)			—				(1,139	)
Interest expense including amortization
of deferred financing costs			(14,108	)			(11,706	)			(4,537	)			(3,984	)
Net income			618				11,056				111				13,101
Net loss attributable to noncontrolling
interests in subsidiaries			432				2,062				181				653
Net income attributable to common equity		$	1,050			$	13,118			$	292			$	13,754
Earnings per share - basic and diluted		$	0.15			$	1.92			$	0.04			$	2.01
Weighted average shares outstanding:
Basic			6,876				6,828				6,890				6,839
Diluted			6,876				6,831				6,890				6,839

 

See Notes to Condensed Consolidated Financial Statements.  

FIRST REAL ESTATE INVESTMENT TRUST OF NEW JERSEY AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

NINE AND THREE MONTHS ENDED JULY 31, 2018 AND 2017

(Unaudited)

 

		Nine Months Ended July 31,								Three Months Ended July 31,
		2018				2017				2018				2017
		(In Thousands of Dollars)								(In Thousands of Dollars)
Net income		$	618			$	11,056			$	111			$	13,101
Other comprehensive income:
Unrealized gain (loss) on interest rate swap contracts before
reclassifications			2,551				2,077				138				(198	)
Amount reclassified from accumulated other comprehensive income
to interest expense			110				441				(15	)			110
Net unrealized gain (loss) on interest rate swap contracts			2,661				2,518				123				(88	)
Comprehensive income			3,279				13,574				234				13,013
Net loss attributable to noncontrolling interests			432				2,062				181				653
Other comprehensive income (loss):
Unrealized (gain) loss on interest rate swap contracts attributable
to noncontrolling interests			(784	)			(848	)			(9	)			31
Comprehensive income (loss) attributable to noncontrolling interests			(352	)			1,214				172				684
Comprehensive income attributable to common equity		$	2,927			$	14,788			$	406			$	13,697

 

See Notes to Condensed Consolidated Financial Statements.  

 

 

FIRST REAL ESTATE INVESTMENT TRUST OF NEW JERSEY AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENT OF EQUITY

NINE MONTHS ENDED JULY 31, 2018

(Unaudited)

                 

 

		Common Equity
		Shares of Beneficial Interest				Treasury Shares at Cost				Dividends in Excess of Net Income				Accumulated Other Comprehensive Income				Total Common Equity				Noncontrolling Interests				Total Equity
		(In Thousands of Dollars, Except Share and Per Share Amounts)
Balance at October 31, 2017		$	27,651			$	(5,273	)		$	(4,824	)		$	284			$	17,838			$	10,752			$	28,590
Stock based compensation expense			95																95								95
Vested share units granted to trustees and consultant			643																643								643
Vested share units issued to consultant and retired trustee *			(314	)			314												—								—
Distributions to noncontrolling interests																			—				(6,454	)			(6,454	)
Net income (loss)											1,050								1,050				(432	)			618
Dividends declared, including $14 payable in share units ($0.10 per share)											(690	)							(690	)							(690	)
Net unrealized gain on interest rate swaps															1,877				1,877				784				2,661
Balance at July 31, 2018		$	28,075			$	(4,959	)		$	(4,464	)		$	2,161			$	20,813			$	4,650			$	25,463

 

  * Represents the issuance of treasury shares to consultant and retired trustee for share units earned.

 

See Notes to Condensed Consolidated Financial Statements.    

 

FIRST REAL ESTATE INVESTMENT TRUST OF NEW JERSEY AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

NINE MONTHS ENDED JULY 31, 2018 AND 2017

(Unaudited)

 

		Nine Months Ended
		July 31,
		2018				2017
		(In Thousands of Dollars)
Operating activities:
Net income		$	618			$	11,056
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation			8,573				7,887
Amortization			1,253				1,273
Unrealized gain on interest rate cap contract			(40	)			—
Stock based compensation expense			95				92
Trustee fees, consultant fee and related interest paid in stock units			629				607
Gain on sale of property			—				(15,395	)
Deferred rents - straight line rent			(355	)			(552	)
Bad debt expense			233				152
Changes in operating assets and liabilities:
Tenants' security accounts			31				92
Accounts receivable, prepaid expenses and other assets			(2,377	)			(3,065	)
Accounts payable, accrued expenses and deferred
trustee compensation			(767	)			(1,648	)
Deferred revenue			(386	)			349
Net cash provided by operating activities			7,507				848
Investing activities:
Proceeds from sale of property			—				9,144
Capital improvements - existing properties			(4,294	)			(9,348	)
Acquisition of Station Place, net of proceeds released from escrow related to 1031 exchange			(12,585	)			—
Net cash used in investing activities			(16,879	)			(204	)
Financing activities:
Repayment of mortgages and construction loan			(147,615	)			(33,010	)
Proceeds from mortgage loan refinancings			166,520				23,500
Proceeds from acquisition mortgage loan			12,350				—
Refinancing good faith deposit refund			960				—
Restricted loan proceeds released from escrow			1,850				—
Proceeds from construction loan			—				1,349
Proceeds from credit line			—				3,000
Repayment of credit line			(3,121	)			—
Advanced funding for construction loan reserve			647				(1,002	)
Interest rate cap contract cost			(89	)			—
Deferred financing costs			(2,670	)			(359	)
Dividends paid			(338	)			(3,033	)
Due to affiliate			177				4,814
Distributions to noncontrolling interests			(6,454	)			(360	)
Net cash provided by (used in) financing activities			22,217				(5,101	)
Net increase (decrease) in cash and cash equivalents			12,845				(4,457	)
Cash and cash equivalents, beginning of period			7,899				10,906
Cash and cash equivalents, end of period		$	20,744			$	6,449
Supplemental disclosure of cash flow data:
Interest paid, net of amounts capitalized including $1,139 in loan prepayment costs related to property sale in 2017		$	12,936			$	11,605
Supplemental schedule of non cash activities:
Investing activities:
Accrued capital expenditures, construction costs, pre-development costs and interest		$	196			$	253
Proceeds from sale of property, held in escrow pending 1031 exchange		$	—			$	6,956
Financing activities:
Dividends declared but not paid		$	338			$	—
Dividends paid in share units		$	14			$	13

 

See Notes to Condensed Consolidated Financial Statements.        

FIRST REAL ESTATE INVESTMENT TRUST OF NEW JERSEY AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

Note 1 - Basis of presentation:

The accompanying interim condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial statements and pursuant to the rules of the Securities and Exchange Commission (“SEC”). Accordingly, certain information and footnotes required by GAAP for complete financial statements have been omitted. It is the opinion of management that all adjustments considered necessary for a fair presentation have been included, and that all such adjustments are of a normal recurring nature.

The consolidated results of operations for the nine and three-month periods ended July 31, 2018 are not necessarily indicative of the results to be expected for the full year or any other period. The unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes included in the Annual Report on Form 10-K for the year ended October 31, 2017 of First Real Estate Investment Trust of New Jersey (“FREIT”).

 

Note 2 –Recently issued accounting standards:

In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standard Update (“ASU”) No. 2014-09, “Revenue from Contracts with Customers”, which is codified as ASC 606 and effective for fiscal years, and interim periods within those years, beginning on or after December 15, 2017. ASC 606 outlines a new, single comprehensive model for entities to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry specific guidance. Based on the nature of FREIT’s operations and sources of revenue, FREIT does not expect the adoption of this new accounting guidance to have a significant impact on its consolidated financial statements and footnote disclosures.

In February 2016, the FASB issued ASU 2016-02, “Leases (Topic 842)”, which supersedes the existing guidance for lease accounting, “Leases (Topic 840)”. ASU 2016-02 requires lessees to recognize leases on their balance sheets, and leaves lessor accounting largely unchanged. The amendments in this ASU are effective for fiscal years beginning after December 15, 2018 and interim periods within those fiscal years with early adoption permitted. ASU 2016-02 requires a modified retrospective approach for all leases existing at, or entered into after, the date of initial application, with an option to elect to use certain transition relief. Given that this standard has minimal impact on real estate operating lessors, FREIT does not expect the adoption of this new accounting guidance to have a significant impact on its consolidated financial statements and footnote disclosures. Based on this new accounting guidance, the Company will no longer be able to capitalize certain leasing costs, such as legal expenses, as it relates to activities before a lease is entered into.

In November 2016, the FASB issued ASU No. 2016-18, “Statement of Cash Flows (Topic 230): Restricted Cash”, which requires companies to include cash and cash equivalents that have restrictions on withdrawal or use in total cash and cash equivalents on the statement of cash flows. ASU 2016-18 is effective for fiscal years beginning after December 15, 2017 and interim periods within those years and early adoption is permitted including adoption in an interim period. The standard should be applied using a retrospective transition method to each period presented. FREIT does not expect the adoption of this new accounting guidance to have a significant impact on its consolidated financial statements and footnote disclosures.

In January 2017, the FASB issued ASU 2017-01, “Business Combinations: Clarifying the Definition of a Business”, which amends guidance that assists preparers in evaluating whether a transaction will be accounted for as an acquisition of an asset or a business, likely resulting in more acquisitions being accounted for as asset acquisitions. There are certain differences in accounting under these models, including the capitalization of transaction expenses and application of a cost accumulation model in an asset acquisition. The standard is effective for annual periods beginning after December 15, 2017, including interim periods within those periods with early adoption permitted for certain transactions. Early application of this new accounting guidance is allowed for transactions for which the acquisition date occurs before the effective date of the amendment, only when the transaction has not been previously been reported in financial statements. FREIT acquired a new property, Station Place, located in Red Bank, New Jersey on December 7, 2017. As such, FREIT early adopted this new accounting guidance in the first quarter of Fiscal 2018 and accounted for this transaction as an acquisition of an asset capitalizing approximately $550,000 of transaction expenses.

In August 2017, the FASB issued ASU 2017-12, “Targeted Improvements to Accounting for Hedging Activities to ASC Topic 815, Derivatives and Hedging ("ASC 815")” which amends the hedge accounting recognition and presentation requirements in ASC 815. The update is intended to more closely align hedge accounting with companies’ risk management strategies, simplify the application of hedge accounting and increase transparency as to the scope and results of hedge programs. ASU 2017-12 requires subsequent changes in fair value of a hedging instrument that has been designated and qualifies as a cash flow hedge to be recognized as a component of "other comprehensive income (loss)." ASU 2017-12 is effective for interim and annual reporting periods in fiscal years beginning after December 15, 2018, with early adoption permitted. FREIT does not expect the adoption of this new accounting guidance to have a significant impact on its consolidated financial statements and footnote disclosures.

 

Note 3 - Earnings per share:

Basic earnings per share is calculated by dividing net income attributable to common equity (numerator) by the weighted average number of shares and vested share units (See Note 13 to FREIT’s condensed consolidated financials) outstanding during each period (denominator). The calculation of diluted earnings per share is similar to that of basic earnings per share, except that the denominator is increased to include the number of additional shares that would have been outstanding if all potentially dilutive shares, such as those issuable upon the exercise of stock options, were issued during the period using the Treasury Stock method. Under the Treasury Stock method, the assumption is that the proceeds received upon exercise of the options, including the unrecognized stock option compensation expense attributable to future services, are used to repurchase FREIT’s stock at the average market price during the period, thereby reducing the number of shares to be added in computing diluted earnings per share. For the nine and three months ended July 31, 2018 and for the three months ended July 31, 2017, the outstanding stock options were anti-dilutive with no impact on earnings per share. For the nine months ended July 31, 2017, the outstanding stock options increased the average dilutive shares outstanding by approximately 3,000 shares with no impact on earnings per share.

 

Note 4 - Interest rate cap and swap contracts: 

On February 7, 2018, Grande Rotunda, LLC, a consolidated subsidiary, refinanced its $115.3 million construction loan held by Wells Fargo with a new loan held by Aareal Capital Corporation in the amount of approximately $118.5 million with additional funding available for retail tenant improvements and leasing costs in the amount of $3,380,000. This loan bears a floating interest rate at 285 basis points over the one-month LIBOR rate and has a maturity date of February 6, 2021. At July 31, 2018, the total amount outstanding on this loan was approximately $118.5 million. As part of this transaction, Grande Rotunda, LLC purchased an interest rate cap on LIBOR for the full amount that can be drawn on this loan of $121.9 million, capping the one-month LIBOR rate at 3% for the first two years of this loan. At July 31, 2018, the derivative financial instrument has a notional amount of $121.9 million and a maturity date of March 5, 2020.

On December 7, 2017, Station Place on Monmouth, LLC (owned 100% by FREIT) closed on a $12,350,000 mortgage loan with Provident Bank. The loan bears a floating interest rate equal to 180 basis points over the one-month BBA LIBOR with a maturity date of December 15, 2027. At July 31, 2018, the total amount outstanding on this loan was $12,350,000. In order to minimize interest rate volatility during the term of this loan, Station Place on Monmouth, LLC entered into an interest rate swap agreement that, in effect, converted the floating interest rate to a fixed interest rate of 4.35% over the term of the loan. At July 31, 2018, the derivative financial instrument has a notional amount of $12,350,000 and a maturity date of December 2027.

On September 29, 2016, Wayne PSC, LLC, a consolidated subsidiary, refinanced its $24.2 million mortgage loan held by Metropolitan Life Insurance Company, with a new mortgage loan from People’s United Bank in the amount of $25.8 million. The new loan bears a floating interest rate equal to 220 basis points over the one-month BBA LIBOR with a maturity date of October 1, 2026. At July 31, 2018, the total amount outstanding on this loan was approximately $24.6 million. In order to minimize interest rate volatility during the term of the loan, Wayne PSC, LLC entered into an interest rate swap agreement that, in effect, converted the floating interest rate to a fixed interest rate of 3.625% over the term of the loan. At July 31, 2018, the derivative financial instrument has a notional amount of approximately $24.7 million and a maturity date of October 2026.

On December 26, 2012, Damascus Centre, LLC refinanced its construction loan with long-term financing provided by People’s United Bank and the first tranche of the new loan was taken down in the amount of $20 million. Based on leasing and net operating income at the shopping center, People’s United Bank agreed to a take-down of the second tranche of this loan on April 22, 2016 in the amount of $2,320,000. The total amount outstanding for both tranches of this loan held with People’s United Bank as of July 31, 2018 was approximately $20 million. The loan has a maturity date of January 3, 2023 and bears a floating interest rate equal to 210 basis points over the one-month BBA LIBOR. In order to minimize interest rate volatility during the term of this loan, Damascus Centre, LLC entered into an interest rate swap agreement that, in effect, converted the floating interest rate to a fixed interest rate on each tranche of this loan, resulting in a fixed rate of 3.81% over the term of the first tranche of this loan and a fixed rate of 3.53% over the term of the second tranche of this loan. At July 31, 2018, the derivative financial instrument has a notional amount of approximately $20 million and a maturity date of January 2023.

On December 29, 2014, FREIT Regency, LLC closed on a $16.2 million mortgage loan with Provident Bank. The loan bears a floating interest rate equal to 125 basis points over the one-month BBA LIBOR and the loan will mature on December 15, 2024. At July 31, 2018, the total amount outstanding on this loan was approximately $16 million. In order to minimize interest rate volatility during the term of the loan, FREIT Regency, LLC entered into an interest rate swap agreement that, in effect, converted the floating interest rate to a fixed interest rate of 3.75% over the term of the loan. At July 31, 2018, the derivative financial instrument has a notional amount of approximately $16 million and a maturity date of December 2024.

In accordance with ASC 815, “Accounting for Derivative Instruments and Hedging Activities”, FREIT is accounting for the Damascus Centre, LLC, FREIT Regency, LLC, Wayne PSC, LLC and Station Place on Monmouth, LLC interest rate swaps as effective cash flow hedges marking these contracts to market, taking into account present interest rates compared to the contracted fixed rate over the life of the contract and recording the unrealized gain or loss on the swaps in comprehensive income. For the nine months ended July 31, 2018, FREIT recorded an unrealized gain of approximately $2,661,000 in comprehensive income representing the change in the fair value of these cash flow hedges during such period with a corresponding asset of approximately $904,000 for the Damascus Center swaps, $2,317,000 for the Wayne PSC swap, $290,000 for the Regency swap and $311,000 for the Station Place on Monmouth swap as of July 31, 2018. For the nine months ended July 31, 2017, FREIT recorded an unrealized gain of approximately $2,518,000 in comprehensive income representing the change in the fair value of these cash flow hedges during such period. For the three months ended July 31, 2018 and 2017, FREIT recorded an unrealized gain of approximately $123,000 and unrealized loss of approximately $88,000, respectively, in comprehensive income representing the change in the fair value of these cash flow hedges during such period. For the year ended October 31, 2017, FREIT recorded an unrealized gain of $2,952,000 in comprehensive income representing the change in the fair value of these cash flow hedges during such period with a corresponding asset of approximately $275,000 for the Damascus Center swaps, $1,325,000 for the Wayne PSC swap and a corresponding liability of approximately $439,000 for the Regency swap as of October 31, 2017.

The Grande Rotunda, LLC interest rate cap is for accounting purposes deemed to be accounted for as an ineffective cash flow hedge with a corresponding gain or loss being recorded in FREIT’s income statement. For the nine and three months ended July 31, 2018, FREIT recorded an unrealized gain in the condensed consolidated statement of income of approximately $40,000 and $21,000, respectively, for the Grande Rotunda, LLC interest rate cap representing the change in the fair value of this ineffective cash flow hedge during such period with a corresponding asset of approximately $128,000 as of July 31, 2018.

The fair values are based on observable inputs (level 2 in the fair value hierarchy as provided by authoritative guidance).

 

Note 5 – Property sale:

On June 12, 2017, FREIT sold its Hammel Gardens property, a residential property located in Maywood, New Jersey, for a sale price of $17 million. The sale of this property, which had a carrying value of approximately $0.7 million, resulted in a capital gain of approximately $15.4 million net of sales fees and commissions. As a result of this sale, FREIT incurred a loan prepayment cost of approximately $1.1 million and paid off the related mortgage on the Hammel Gardens property in the amount of approximately $8 million from the proceeds of the sale. FREIT structured this sale in a manner that qualified it as a like-kind exchange of real estate pursuant to Section 1031 of the Internal Revenue Code. The 1031 Exchange transaction resulted in a deferral for income tax purposes of the $15.4 million capital gain. The net proceeds from this sale, which were approximately $7 million, were held in escrow until a replacement property was purchased. A replacement property to complete this like-kind exchange was acquired on December 7, 2017, and the sale proceeds held in escrow were applied to the purchase price of such property (See Note 6 to FREIT’s condensed consolidated financials for further details).

As the disposal of the Hammel Gardens property did not represent a strategic shift that would have a major impact on FREIT’s operations or financial results, the property’s operations were not reflected as discontinued operations in the accompanying condensed consolidated financial statements.

 

Note 6 – Property acquisition:

On December 7, 2017, FREIT completed the acquisition of Station Place, a residential apartment complex consisting of one building with 45 units, located in Red Bank, New Jersey through Station Place on Monmouth, LLC (FREIT’s 100% owned consolidated subsidiary). FREIT identified Station Place as the replacement property for the Hammel Gardens property located in Maywood, New Jersey that FREIT sold on June 12, 2017, which completed the like-kind exchange pursuant to Section 1031 of the Internal Revenue Code (See Note 5 to FREIT’s condensed consolidated financial statements). Station Place is part of FREIT’s residential segment. The acquisition cost was $19,550,000 (inclusive of approximately $550,000 of transaction costs capitalized as part of the asset acquisition), which was funded in part with $7 million in net proceeds from the sale of the Hammel Gardens property, and the remaining balance of $12,350,000 (inclusive of the transaction costs) was funded by Station Place on Monmouth, LLC through long-term financing for this property from Provident Bank.

The acquisition cost of $19.6 million has been allocated as follows: $10.8 million to the building and $8.8 million to the land.

 

Note 7 - Management agreement, fees and transactions with related parties:

Hekemian & Co., Inc. (“Hekemian”) currently manages all the properties owned by FREIT and its affiliates, except for the office building at The Rotunda located in Baltimore, Maryland, which is managed by an independent third party management company. The management agreement with Hekemian, effective November 1, 2001, requires the payment of management fees equal to 4% to 5% of rents collected. Such fees, charged to operations, were approximately $1,806,000 and $1,629,000 for the nine months ended July 31, 2018 and 2017, respectively, and $612,000 and $555,000 for the three months ended July 31, 2018 and 2017, respectively. In addition, the management agreement provides for the payment to Hekemian of leasing commissions, as well as the reimbursement of operating expenses incurred on behalf of FREIT. Such commissions and reimbursements amounted to approximately $591,000 and $702,000 for the nine-month periods ended July 31, 2018 and 2017, respectively, and $321,000 and $305,000 for the three-month periods ended July 31, 2018 and 2017, respectively. The management agreement expires on October 31, 2019, and is automatically renewed for successive periods of two years unless either party gives not less than six (6) months prior notice of non-renewal.

FREIT also uses the resources of the Hekemian insurance department to secure various insurance coverages for its properties and subsidiaries. Hekemian is paid a commission for these services. Such commissions were charged to operations and amounted to approximately $161,000 and $171,000 for the nine months ended July 31, 2018 and 2017, respectively, and $112,000 and $116,000 for the three months ended July 31, 2018 and 2017, respectively.

From time to time, FREIT engages Hekemian to provide certain additional services, such as consulting services related to development, property sales and financing activities of FREIT. Separate fee arrangements are negotiated between Hekemian and FREIT with respect to such additional services. Such fees incurred during the nine months ended July 31, 2018 and 2017 were approximately $1,195,000 and $467,500, respectively, and $0 and $467,500 for the three months ended July 31, 2018 and 2017, respectively. Fees incurred during Fiscal 2018 related to commissions to Hekemian for the following: $522,500 for the purchase of the Station Place property; $400,000 for the refinancing of the Grande Rotunda, LLC loan; $240,000 for the refinancing of the Pierre Towers, LLC loan; $32,500 for the renewal of FREIT’s line of credit. Fees incurred in Fiscal 2017 related to commissions to Hekemian relating to the sale of the Hammel Gardens property.

In Fiscal 2007, FREIT’s Board of Trustees approved and FREIT executed a development fee agreement for the Rotunda redevelopment project for the development services to be provided by Hekemian Development Resources, LLC (“Resources”), a wholly-owned subsidiary of Hekemian. As part of this agreement, the Board approved the payment of a fee to Resources in the amount of $1.4 million in connection with the revision to the scope of the Rotunda redevelopment project. Grande Rotunda, LLC paid $500,000 of this fee to Resources in Fiscal 2013 and the balance of $900,000 became due upon the issuance of a certificate of occupancy for the multi-family portion of this project. A final certificate of occupancy was issued in Fiscal 2016; however Resources agreed to defer the payment of the $900,000 balance of this fee (the $900,000 was included in accounts payable on FREIT’s condensed consolidated balance sheet at October 31, 2017). Grande Rotunda, LLC paid the $900,000 portion of this fee to Resources in February 2018 in connection with the refinancing of the Wells Fargo construction loan for the Rotunda property with a new construction loan from Aareal Capital Corporation. Additionally, Grande Rotunda, LLC paid Resources the amount of approximately $45,000 representing a mutually agreed upon amount of interest on the $900,000 portion of the fee for the period during which Hekemian Resources had agreed to defer payment thereof.

Robert S. Hekemian, the Chairman of the Board and Chief Executive Officer of Hekemian, is the former Chairman and Chief Executive Officer of FREIT. Mr. Hekemian retired as Chairman and Chief Executive Officer of FREIT effective upon the conclusion of FREIT’s 2018 Annual Meeting of Shareholders held on April 5, 2018 (the “2018 Annual Meeting”). Robert S. Hekemian, Jr., the President of Hekemian, is a Trustee of FREIT, and succeeded Robert S. Hekemian as Chief Executive Officer of FREIT effective upon the conclusion of the 2018 Annual Meeting. David Hekemian, a Principal of Hekemian, was elected as a Trustee of FREIT at the 2018 Annual Meeting.

Trustee fee expense (including interest) incurred by FREIT for the nine months ended July 31, 2018 and 2017 was approximately $309,000 and $405,000, respectively, for Robert S. Hekemian, $96,000 and $50,000, respectively, for Robert S. Hekemian, Jr. and $16,000 and $0, respectively, for David Hekemian and for the three months ended July 31, 2018 and 2017 was approximately $54,000 and $132,000, respectively, for Robert S. Hekemian, $54,000 and $16,000, respectively, for Robert S. Hekemian, Jr. and $13,000 and $0, respectively, for David Hekemian (See Note 13 to FREIT’s condensed consolidated financial statements).

Pursuant to the terms of a Consulting Agreement between Robert S. Hekemian and the Trust, Mr. Hekemian will continue to serve the Trust in a consulting capacity effective upon conclusion of FREIT’s 2018 Annual Meeting. The Consulting Agreement has a term of four years and obliges Mr. Hekemian to provide advice and consultation with respect to matters pertaining to FREIT and its subsidiaries, affiliates, assets and business for no fewer than 30 hours per month during the term of the agreement. FREIT will pay Mr. Hekemian a consulting fee of $5,000 per month during the term of the Consulting Agreement, which shall be payable in the form of Shares on a quarterly basis (i.e. in quarterly installments of $15,000). The number of Shares to be issued for each quarterly installment of the consulting fee will be determined by dividing the dollar amount of the consulting fee by the closing price of one Share on the OTC Pink Open Market as of the close of trading on the last trading day of the calendar quarter with respect to which such consulting fee is payable. For the nine and three months ended July 31, 2018, consulting fee expense for Robert S. Hekemian was approximately $19,200 and $15,000, respectively.

Rotunda 100, LLC owns a 40% minority equity interest in Grande Rotunda, LLC and FREIT owns a 60% equity interest in Grande Rotunda, LLC. Damascus 100, LLC owns a 30% minority equity interest in Damascus Centre, LLC and FREIT owns a 70% equity interest in Damascus Centre, LLC. The equity owners of Rotunda 100, LLC and Damascus 100, LLC are principally employees of Hekemian. To incentivize the employees of Hekemian, FREIT advanced, only to employees of Hekemian, up to 50% of the amount of the equity contributions that the Hekemian employees were required to invest in Rotunda 100, LLC and Damascus 100, LLC. These advances, which amounted to $5,451,000 at both July 31, 2018 and October 31, 2017, were in the form of secured loans that bear interest that float at 225 basis points over the ninety (90) day LIBOR, as adjusted each November 1, February 1, May 1 and August 1. These loans are secured by the Hekemian employees’ interests in Rotunda 100 and Damascus 100, and are full recourse loans. The notes originally had maturity dates at the earlier of (a) ten (10) years after issue (Grande Rotunda, LLC – 6/19/2015, Damascus Centre, LLC – 9/30/2016), or, (b) at the election of FREIT, ninety (90) days after the borrower terminates employment with Hekemian, at which time all outstanding unpaid principal and interest is due. On June 4, 2015, the Board approved an extension of the maturity date of the secured loans to occur the earlier of (a) June 19, 2018 or (b) five days after the closing of a permanent mortgage loan secured by the Rotunda property. On December 7, 2017, the Board approved a further extension of the maturity dates of these loans to the date or dates upon which distributions of cash are made by Grande Rotunda, LLC to its members as a result of a refinancing or sale of Grande Rotunda, LLC or the Rotunda property.

In Fiscal 2017, Grande Rotunda, LLC incurred substantial expenditures at the Rotunda property related to retail tenant improvements, leasing costs and operating expenditures which, in the aggregate, exceeded revenues as the property was still in the rent up phase and the construction loan previously held with Wells Fargo was at its maximum level resulting in no additional funding available to draw. Accordingly, the equity owners in Grande Rotunda, LLC contributed their respective pro-rata share of any cash needs through loans to Grande Rotunda, LLC. As of July 31, 2018 and October 31, 2017, Rotunda 100, LLC has funded Grande Rotunda, LLC with approximately $5.3 million and $5.2 million (including interest), respectively, which is included in “Due to affiliate” on the accompanying condensed consolidated balance sheets.

 

Note 8 – Mortgage financings:

The loan on the Patchogue, New York property in the amount of approximately $5.2 million became due on March 1, 2018. FREIT is currently operating under the same terms and conditions of the existing agreement while working with the lender, Oritani Bank, to extend the maturity date of the loan and to provide for monthly payments of principal and interest. Until such time as a definitive agreement providing for an extension of the loan is entered into, there can be no assurance the loan will be extended.

The original Rotunda acquisition loan for $22.5 million, which was subsequently reduced to $19.5 million on February 1, 2010, was acquired by FREIT on May 28, 2013. FREIT subsequently sold this loan to Wells Fargo Bank. On December 9, 2013, Grande Rotunda, LLC, a consolidated subsidiary, closed with Wells Fargo Bank on a construction loan of up to $120 million to be used to redevelop and expand the Rotunda property in Baltimore, Maryland with a term of four (4) years, with one twelve-month extension, at a rate of 225 basis points over the monthly LIBOR. On November 23, 2016, the following terms and conditions of this loan were modified: (i) the total amount that could have been drawn on this loan was decreased from $120 million to $116.1 million, allowing for an additional draw of $2.1 million over the then existing balance of approximately $114 million to be used for retail tenant improvements and leasing commissions; (ii) leasing benchmarks were no longer required to be met including the waiver of the leasing benchmarks FREIT was not in compliance with as of June 30, 2016; (iii) Grande Rotunda, LLC provided an interest reserve to Wells Fargo Bank in the amount of $2 million for the purpose of funding interest payments, and was obliged to replenish the account balance to $1 million if it should fall below $500,000; (iv) the maturity date of the loan was changed from December 31, 2017 to October 31, 2017 with no option to extend; and (v) the interest rate on the amount outstanding on the loan was increased by 25 basis points to 250 basis points over the monthly LIBOR. The following terms and conditions of this loan were modified and effective as of October 31, 2017: (i) the maturity date of the loan was extended 120 days from October 31, 2017 to February 28, 2018; (ii) the interest rate on the amount outstanding on the loan was increased by 35 basis points to 285 basis points over the monthly LIBOR through December 31, 2017; and (iii) the interest rate on the amount outstanding on the loan was increased by 65 basis points to 315 basis points over the monthly LIBOR from January 1, 2018 through February 28, 2018.

On February 7, 2018, Grande Rotunda, LLC refinanced its $115.3 million construction loan held by Wells Fargo with a new loan held by Aareal Capital Corporation in the amount of approximately $118.5 million with additional funding available for retail tenant improvements and leasing costs in the amount of $3,380,000. This refinancing paid off the loan previously held by Wells Fargo, funded loan closing costs and paid the amount due to Hekemian Development Resources for a development fee of $900,000 plus accrued interest of approximately $45,000 (See Note 7 to FREIT’s condensed consolidated financial statements for further details on this fee). This loan, secured by the Rotunda property, bears a floating interest rate at 285 basis points over the one-month LIBOR rate and has a maturity date of February 6, 2021 with two one-year renewal options. As part of this transaction, Grande Rotunda, LLC purchased an interest rate cap on LIBOR for the full amount that can be drawn on this loan of $121.9 million, capping the one-month LIBOR rate at 3% for the first two years of this loan. As of July 31, 2018, approximately $118.5 million of this loan was drawn down and the interest rate was approximately 4.94%.

On January 8, 2018, Pierre Towers, LLC (“Pierre”), owned by S And A Commercial Associates Limited Partnership (“S&A”), which is a consolidated subsidiary, refinanced its $29.1 million loan held by State Farm with a new mortgage loan from New York Life Insurance in the amount of $48 million. Pierre paid New York Life Insurance a good faith deposit in the amount of $960,000 (which was included in prepaid expenses and other assets on the accompanying condensed consolidated balance sheet as of October 31, 2017) and was reimbursed by New York Life when the loan was closed in January 2018. The new loan has a term of ten years and bears a fixed interest rate equal to 3.88%. Interest-only payments are required each month for the first five years of the term and thereafter, principal payments plus accrued interest will be required each month through maturity. This refinancing resulted in: (i) a reduction in the annual interest rate from a fixed rate of 5.38% to a fixed rate of 3.88%; and (ii) net refinancing proceeds of approximately $17.2 million (after giving effect to a $1.2 million loan prepayment cost to pay-off the loan held by State Farm) that were distributed to the partners in S&A with FREIT receiving approximately $11.2 million, based on its 65% membership interest in S&A which can be used for capital expenditures and general corporate purposes.

On December 7, 2017, Station Place on Monmouth, LLC (owned 100% by FREIT) closed on a mortgage loan in the amount of $12,350,000 held by Provident Bank to purchase the Station Place property in Red Bank, New Jersey (see Note 6 to FREIT’s condensed consolidated financial statements). Interest-only payments are required each month for the first two years of the term and thereafter, principal payments plus accrued interest will be required each month through maturity. The loan bears a floating interest rate equal to 180 basis points over the one-month BBA LIBOR with a maturity date of December 15, 2027. In order to minimize interest rate volatility during the term of the loan, Station Place on Monmouth, LLC entered into an interest rate swap agreement that, in effect, converted the floating interest rate to a fixed interest rate of 4.35% over the term of the loan.

On October 27, 2017, FREIT’s revolving line of credit provided by the Provident Bank was renewed for a three-year term ending on October 27, 2020 at which point no further advances shall be permitted and provided the line of credit is not renewed by the lender, the outstanding principal balance of the line of credit shall convert to a commercial term loan maturing on October 31, 2022. Draws against the credit line can be used for working capital needs and standby letters of credit. Draws against the credit line are secured by mortgages on FREIT’s Franklin Crossing Shopping Center in Franklin Lakes, New Jersey and retail space in Glen Rock, New Jersey. The total line of credit was increased from $12.8 million to $13 million and the interest rate on the amount outstanding will be at a floating rate of 275 basis points over the 30-day LIBOR with a floor of 3.75%. During Fiscal 2017, FREIT utilized $3 million of its credit line to fund tenant improvements for new retail tenants at the Rotunda property. As of October 31, 2017, approximately $3.1 million was outstanding (including closing costs of approximately $0.1 million related to the renewal of the line). In February 2018, FREIT repaid the line of credit in the amount of $3.1 million. As of July 31, 2018, there was no amount outstanding and $13 million was available under the line of credit.

On April 28, 2017, WestFREIT Corp., a consolidated subsidiary, refinanced its $22 million mortgage loan held by Wells Fargo Bank, with a new mortgage loan from Manufacturer’s and Traders Trust Company in the amount of $23.5 million. The new loan bears a floating interest rate equal to 275 basis points over the one-month LIBOR and has a maturity date of April 28, 2019 with the option to extend for 12 months. This refinancing resulted in: (i) a reduction in the annual interest rate from a fixed rate of 5.55% to a variable rate and (ii) net refinancing proceeds of approximately $1.1 million which have been used for general corporate purposes.

 

Note 9 – Fair value of long-term debt:

The following table shows the estimated fair value and carrying value of FREIT’s long-term debt at July 31, 2018 and October 31, 2017:

 

($ in Millions)		July 31, 2018		October 31, 2017
Fair Value		$340.9		$317.8
Carrying Value		$347.8		$321.6

 

Fair values are estimated based on market interest rates at July 31, 2018 and October 31, 2017 and on discounted cash flow analysis. Changes in assumptions or estimation methods may significantly affect these fair value estimates. The fair value is based on observable inputs (level 2 in the fair value hierarchy as provided by authoritative guidance).

 

Note 10 - Segment information:

FREIT has determined that it has two reportable segments: commercial properties and residential properties. These reportable segments offer different types of space, have different types of tenants, and are managed separately because each requires different operating strategies and management expertise. The commercial segment is comprised of nine (9) properties and the residential segment is comprised of eight (8) properties inclusive of the property acquired in Fiscal 2018 (Station Place).

The accounting policies of the segments are the same as those described in Note 1 in FREIT’s Annual Report on Form 10-K for the fiscal year ended October 31, 2017. The chief operating and decision-making group of FREIT's commercial segment, residential segment and corporate/other is comprised of FREIT’s Board of Trustees (“Board”).

FREIT assesses and measures segment operating results based on net operating income ("NOI"). NOI, a standard used by real estate professionals, is based on operating revenue and expenses directly associated with the operations of the real estate properties, but excludes: deferred rents (straight lining), depreciation, financing costs and other items. NOI is not a measure of operating results or cash flows from operating activities as measured by GAAP, and is not necessarily indicative of cash available to fund cash needs and should not be considered an alternative to cash flows as a measure of liquidity.

 

Real estate rental revenue, operating expenses, NOI and recurring capital improvements for the reportable segments are summarized below and reconciled to condensed consolidated net income attributable to common equity for the nine and three-month periods ended July 31, 2018 and 2017. Asset information is not reported since FREIT does not use this measure to assess performance.

 

 

		Nine Months Ended								Three Months Ended
		July 31,								July 31,
		2018				2017				2018				2017
		(In Thousands of Dollars)								(In Thousands of Dollars)
Real estate rental revenue:
Commercial		$	18,990			$	17,764			$	6,424			$	5,694
Residential			23,805				19,627				8,025				6,745
Total real estate rental revenue			42,795				37,391				14,449				12,439
Real estate operating expenses:
Commercial			8,857				8,754				2,888				2,919
Residential			9,487				10,649				3,620				3,762
Total real estate operating expenses			18,344				19,403				6,508				6,681
Net operating income:
Commercial			10,133				9,010				3,536				2,775
Residential			14,318				8,978				4,405				2,983
Total net operating income		$	24,451			$	17,988			$	7,941			$	5,758
Recurring capital improvements - residential		$	(575	)		$	(630	)		$	(337	)		$	(251	)
Reconciliation to condensed consolidated net income attributable to common equity:
Segment NOI		$	24,451			$	17,988			$	7,941			$	5,758
Gain on sale  of property			—				15,395				—				15,395
Loan prepayment costs relating to property sale			—				(1,139	)			—				(1,139	)
Deferred rents - straight lining			355				552				182				241
Lease termination fee			—				(620	)			—				—
Investment income			201				145				89				54
Unrealized gain on interest rate cap contract			40				—				21				—
General and administrative expenses			(1,748	)			(1,672	)			(556	)			(515	)
Depreciation			(8,573	)			(7,887	)			(3,029	)			(2,709	)
Financing costs			(14,108	)			(11,706	)			(4,537	)			(3,984	)
Net income			618				11,056				111				13,101
Net loss attributable to noncontrolling interests in subsidiaries			432				2,062				181				653
Net income attributable to common equity		$	1,050			$	13,118			$	292			$	13,754

 

         

Note 11 – Income taxes:

FREIT intends to distribute 100% of its ordinary taxable income to its shareholders as dividends for the fiscal year ending October 31, 2018. Accordingly, no provision for federal or state income taxes related to such ordinary taxable income was recorded in FREIT’s condensed consolidated financial statements.

There was no ordinary taxable income for the fiscal year ended October 31, 2017 for FREIT to distribute to its shareholders. As described in Notes 5 and 6 to FREIT’s condensed consolidated financial statements, FREIT completed a like-kind exchange with respect to the sale of the Maywood, New Jersey property, which was sold on June 12, 2017 resulting in a capital gain of approximately $15.4 million. The tax basis of Station Place in Red Bank, New Jersey, which was the replacement property in the like-kind exchange, is approximately $18.9 million lower than the acquisition cost of approximately $19.6 million recorded for financial reporting purposes. Accordingly, no provision for federal or state income taxes related to such gain was recorded in FREIT’s condensed consolidated financial statements.

As of July 31, 2018, FREIT had no material uncertain income tax positions. The tax years subsequent to and including the fiscal year ended October 31, 2016 remain open to examination by the major taxing jurisdictions to which FREIT is subject.

 

Note 12 – Stock option plan:

On September 4, 2014, the Board approved the grant of a total of 246,000 non-qualified share options under FREIT’s Equity Incentive Plan to certain FREIT Executive Officers, the members of the Board and certain employees of Hekemian, FREIT’s managing agent. The options have an exercise price of $18.45 per share, will vest in equal annual installments over a 5-year period and will expire 10 years from the date of grant, which will be September 3, 2024.

On November 10, 2016, the Board approved the grant of a total of 38,000 non-qualified share options under the Equity Incentive Plan to two members of the Board who were appointed to the Board during Fiscal 2016. The options have an exercise price of $21.00 per share, will vest in equal annual installments over a 5-year period, and will expire 10 years from the date of grant, which will be November 9, 2026.

On May 3, 2018, the Board approved the grant of a total of 38,000 non-qualified share options under the Equity Incentive Plan to two members of the Board who were appointed to the Board during Fiscal 2018. The options have an exercise price of $15.50 per share, will vest in equal annual installments over a 5-year period, and will expire 10 years from the date of grant, which will be May 2, 2028.

On April 5, 2018, FREIT shareholders approved an amendment to FREIT’s Equity Incentive Plan reserving an additional 300,000 shares for issuance under the Plan. As of July 31, 2018, 485,020 shares are available for issuance under the Plan after giving effect to the amendment.

The following table summarizes stock option activity for the nine-month period ended July 31, 2018:

 

		No. of Options				Weighted Average
		Outstanding				Exercise Price
Options outstanding beginning of period			267,780			$	18.81
Options granted during period			38,000				15.50
Options forfeited/cancelled during period			—				—
Options outstanding end of period			305,780			$	18.40
Options vested and expected to vest			299,140
Options exercisable at end of period			147,940

 

The estimated fair value of options granted during Fiscal 2018 was $2.09 per option. Such value was estimated on the grant date using a binomial lattice option pricing model using the following assumptions:

 

·

Expected volatility – 27.6%

·

Risk-free interest rate – 2.94%

·

Imputed option life – 6.6 years

·

Expected dividend yield – 4.7%

 

 

The estimated fair value of options granted during Fiscal 2017 was $3.54 per option. Such value was estimated on the grant date using a binomial lattice option pricing model using the following assumptions:

 

·

Expected volatility – 30.30%

·

Risk-free interest rate – 2.23%

·

Imputed option life – 6.3 years

·

Expected dividend yield – 4.66%

 

The expected volatility over the options’ expected life was based on the historical volatility of the weekly closing price of the Company’s stock over a five (5) year period. The risk-free interest rate was based on the annual yield on the grant date of a zero-coupon U.S. Treasury Bond the maturity of which equals the option’s expected life. The imputed option life was based on the simplified expected term calculation permitted by the SEC, which defines the expected life as the average of the contractual term of the options and the weighted-average vesting period for all option tranches. The expected dividend yield was based on the Company’s historical dividend yield, exclusive of capital gain dividends.

For the nine-month periods ended July 31, 2018 and 2017, compensation expense related to stock options granted amounted to approximately $95,000 and $92,000, respectively. For the three-month periods ended July 31, 2018 and 2017, compensation expense related to stock options granted amounted to approximately $34,000 and $31,000, respectively. At July 31, 2018, there was approximately $263,000 of unrecognized compensation cost relating to outstanding non-vested stock options to be recognized over the remaining weighted average vesting period of approximately 2.4 years.

The aggregate intrinsic value of options vested and expected to vest at July 31, 2018 was approximately $55,000. There was no aggregate intrinsic value of options exercisable at July 31, 2018 as the exercise price of the vested options was greater than the market or average share price.

 

Note 13 – Deferred fee plan:

On September 4, 2014, the Board approved amendments, effective November 1, 2014, to the FREIT Deferred Fee Plan for its Executive Officers and Trustees, one of which provides for the issuance of share units payable in FREIT shares in respect of (i) deferred amounts of all Trustee fees on a prospective basis; (ii) interest on Trustee fees deferred prior to November 1, 2014 (payable at a floating rate, adjusted quarterly, based on the average 10-year Treasury Bond interest rate plus 150 basis points); and (iii) dividends payable in respect of share units allocated to participants in the Deferred Fee Plan as a result of deferrals described above. The number of share units credited to a participant’s account will be determined by the closing price of FREIT shares on the date as set forth in the Deferred Fee Plan. All fees payable to Trustees for the nine and three-month periods ended July 31, 2018 were deferred under the Deferred Fee Plan except for fees payable to three Trustees, who elected to receive such fees in cash. All fees payable to Trustees for the nine and three-month periods ended July 31, 2017 were deferred under the Deferred Fee Plan except for fees payable to one Trustee, who elected to receive such fees in cash. As a result of the amendment to the Deferred Fee Plan described above, for the nine-month periods ended July 31, 2018 and 2017, the aggregate amounts of deferred Trustee fees together with related interest and dividends were approximately $623,000 and $620,800, respectively, which have been paid through the issuance of 39,835 and 32,136 vested FREIT share units, respectively, based on the closing price of FREIT shares on the dates as set forth in the Deferred Fee Plan.

For the nine-month periods ended July 31, 2018 and 2017, FREIT has charged as expense approximately $609,000 and $607,800, respectively, representing deferred Trustee fees and interest, and the balance of approximately $14,000 and $13,000, respectively, representing dividends payable in respect of share units allocated to Plan participants, has been charged to equity.

 

Note 14 – Anchor tenant termination and modification of lease:

FREIT owns and operates an 87,661 square foot shopping center located in Franklin Lakes, New Jersey, the anchor tenant of which is The Stop & Shop Supermarket Company, LLC (“Stop & Shop”). On July 26, 2017, Stop & Shop entered into a lease modification with FREIT whereby the tenant exercised its option to renew the lease for a ten year period with a right of the tenant to terminate the lease at any time during the fifth year if the store does not meet certain sales volume levels set forth in the modification. This lease modification, which provided for a $250,000 reduction in annual rent, has adversely affected and will adversely affect FREIT’s future operating results.

On January 4, 2017, Macy’s, Inc. announced its intention to close several of its department stores across the United States, including the approximately 81,160 square foot Macy’s anchor store located at the Preakness Shopping Center in Wayne, New Jersey. Wayne PSC, LLC (“Wayne PSC”), a 40% owned consolidated affiliate of FREIT, owns and operates this shopping center in which Macy’s operated its store under a long-term lease and was paying annual rent of approximately $234,000 ($2.88 per square foot) with no future rent escalations for the remaining term and option periods of the lease. On April 25, 2017, Wayne PSC announced it had agreed to a termination of Macy’s lease effective as of April 15, 2017. To terminate the lease and take possession of the space, Wayne PSC paid Macy’s a termination fee of $620,000, which was fully expensed in the second quarter of Fiscal 2017. Wayne PSC expects to re-position this space and re-lease it to a new tenant (or multiple tenants) at market rents, which are currently higher than the rent provided for under the terminated Macy’s lease. FREIT will lose total consolidated rental income, including reimbursements, of approximately $0.2 million until such time as the space is fully re-leased. FREIT anticipates increased revenue from the space when it is fully re-leased.

 

 

 

Item 2: Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

 

 

OVERVIEW

FREIT is an equity real estate investment trust (“REIT”) that is self-administered and externally managed. FREIT owns a portfolio of residential apartment and commercial properties. FREIT’s revenues consist primarily of rental income and other related revenues from its residential and commercial properties and additional rent in the form of expense reimbursements derived from operating commercial properties. FREIT’s properties are primarily located in northern New Jersey, Maryland and New York. FREIT acquires existing properties for investment and properties that FREIT believes have redevelopment potential through changes and capital improvements to these properties. FREIT develops and constructs properties on its vacant land. FREIT’s policy is to acquire and develop real property for long-term investment.

The economic and financial environment: The U.S. economy grew an average annualized rate of 4.1% in the second quarter of 2018, which is the strongest growth rate since the third quarter of 2014. Employment remains healthy with an unemployment rate at 3.9% in July 2018, the lowest rate since 2000, and real income continues to grow at a solid pace. If the U.S. economy continues to improve, the Federal Reserve may continue to increase lending rates which may affect refinancing of mortgages coming due in the short-term.

Residential Properties: FREIT has aggressively increased rental rates on its stabilized properties. As a result, FREIT’s rental rates continue to show year-over-year increases. FREIT expects increases in rental rates to taper; however, the increased rental rates that are in place should positively impact future revenues.

Commercial Properties: There continues to be uncertainty in the retail environment that could have an adverse impact on FREIT’s retail tenants, which could have an adverse impact on FREIT.

Development Projects and Capital Expenditures: FREIT continues to make only those capital expenditures that are absolutely necessary. The construction at the Rotunda development project began in September 2013 and, with the exception of retail tenant improvements, the redevelopment was substantially completed in the third quarter of Fiscal 2016. By the end of the third quarter of Fiscal 2018, the residential section reached a stabilized level of occupancy. The retail space continues to lease-up and is approximately 82.9% leased as of July 31, 2018. FREIT expects Rotunda’s operations to stabilize in 2019.

Debt Financing Availability: Financing has been available to FREIT and its affiliates. On February 7, 2018, Grande Rotunda, LLC refinanced its $115.3 million construction loan held by Wells Fargo with a new loan held by Aareal Capital Corporation in the amount of approximately $118.5 million with additional funding available for retail tenant improvements and leasing costs in the amount of $3,380,000. This refinancing paid off the loan previously held by Wells Fargo, funded loan closing costs and paid the amount due to Hekemian Development Resources for a development fee of $900,000 plus accrued interest of approximately $45,000 (See Note 7 to FREIT’s condensed consolidated financial statements for further details on this fee). This loan, secured by the Rotunda property, bears a floating interest rate at 285 basis points over the one-month LIBOR rate and has a maturity date of February 6, 2021 with two one-year renewal options. As part of this transaction, Grande Rotunda, LLC purchased an interest rate cap on LIBOR for the full amount that can be drawn on this loan of $121.9 million, capping the one-month LIBOR rate at 3% for the first two years of this loan. As of July 31, 2018, approximately $118.5 million of this loan was drawn down and the interest rate was approximately 4.94%.

On January 8, 2018, Pierre Towers, LLC (“Pierre”), owned by S And A Commercial Associates Limited Partnership (“S&A”), which is a consolidated subsidiary, refinanced its $29.1 million loan held by State Farm with a new mortgage loan from New York Life Insurance in the amount of $48 million. Pierre paid New York Life Insurance a good faith deposit in the amount of $960,000 (which was included in prepaid expenses and other assets on the accompanying condensed consolidated balance sheet as of October 31, 2017) and was reimbursed by New York Life when the loan was closed in January 2018. The new loan has a term of ten years and bears a fixed interest rate equal to 3.88%. Interest-only payments are required each month for the first five years of the term and thereafter, principal payments plus accrued interest will be required each month through maturity. This refinancing resulted in: (i) a reduction in the annual interest rate from a fixed rate of 5.38% to a fixed rate of 3.88%; and (ii) net refinancing proceeds of approximately $17.2 million (after giving effect to a $1.2 million loan prepayment cost to pay-off the loan held by State Farm) that were distributed to the partners in S&A with FREIT receiving approximately $11.2 million, based on its 65% membership interest in S&A which can be used for capital expenditures and general corporate purposes.

On December 7, 2017, Station Place on Monmouth, LLC (owned 100% by FREIT) closed on a mortgage loan in the amount of $12,350,000 held by Provident Bank to purchase the Station Place property in Red Bank, New Jersey. Interest-only payments are required each month for the first two years of the term and thereafter, principal payments plus accrued interest will be required each month through maturity. The loan bears a floating interest rate equal to 180 basis points over the one-month BBA LIBOR with a maturity date of December 15, 2027. In order to minimize interest rate volatility during the term of the loan, Station Place on Monmouth, LLC entered into an interest rate swap agreement that, in effect, converted the floating interest rate to a fixed interest rate of 4.35% over the term of the loan.

On October 27, 2017, FREIT’s revolving line of credit provided by the Provident Bank was renewed for a three-year term ending on October 27, 2020 at which point no further advances shall be permitted and provided the line of credit is not renewed by the lender, the outstanding principal balance of the line of credit shall convert to a commercial term loan maturing on October 31, 2022. Draws against the credit line can be used for working capital needs and standby letters of credit. Draws against the credit line are secured by mortgages on FREIT’s Franklin Crossing Shopping Center in Franklin Lakes, New Jersey and retail space in Glen Rock, New Jersey. The total line of credit was increased from $12.8 million to $13 million and the interest rate on the amount outstanding will be at a floating rate of 275 basis points over the 30-day LIBOR with a floor of 3.75%. During Fiscal 2017, FREIT utilized $3 million of its credit line to fund tenant improvements for new retail tenants at the Rotunda property. As of October 31, 2017, approximately $3.1 million was outstanding (including closing costs of approximately $0.1 million related to the renewal of the line). In February 2018, FREIT repaid the line of credit in the amount of $3.1 million. As of July 31, 2018, there was no amount outstanding and $13 million was available under the line of credit.

On April 28, 2017, WestFREIT Corp., a consolidated subsidiary, refinanced its $22 million mortgage loan held by Wells Fargo Bank, with a new mortgage loan from Manufacturer’s and Traders Trust Company in the amount of $23.5 million. The new loan bears a floating interest rate equal to 275 basis points over the one-month LIBOR and has a maturity date of April 28, 2019 with the option to extend for 12 months. This refinancing resulted in: (i) a reduction in the annual interest rate from a fixed rate of 5.55% to a variable rate and (ii) net refinancing proceeds of approximately $1.1 million which have been used for general corporate purposes.

The loan on the Patchogue, New York property in the amount of approximately $5.2 million became due on March 1, 2018. FREIT is currently operating under the same terms and conditions of the existing agreement while working with the lender, Oritani Bank, to extend the maturity date of the loan and to provide for monthly payments of principal and interest. Until such time as a definitive agreement providing for an extension of the loan is entered into, there can be no assurance the loan will be extended.

In accordance with the loan agreement for each of the loans described above, FREIT may be required to meet or maintain certain financial covenants throughout the term of the loan.

Operating Cash Flow: FREIT expects that cash provided by operating activities and cash reserves will be adequate to cover mandatory debt service payments (including payments of interest, but excluding balloon payments), real estate taxes, recurring capital improvements at properties and other needs to maintain its status as a REIT for at least a period of one year from the date of filing of this quarterly report on Form 10-Q.

 

 

SIGNIFICANT ACCOUNTING POLICIES AND ESTIMATES

Pursuant to the SEC disclosure guidance for "Critical Accounting Policies," the SEC defines Critical Accounting Policies as those that require the application of management's most difficult, subjective, or complex judgments, often because of the need to make estimates about the effect of matters that are inherently uncertain and may change in subsequent periods.

Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, the preparation of which takes into account estimates based on judgments and assumptions that affect certain amounts and disclosures. Accordingly, actual results could differ from these estimates. The accounting policies and estimates used, which are outlined in Note 1 to our Consolidated Financial Statements included in our Annual Report on Form 10-K for the fiscal year ended October 31, 2017, have been applied consistently as at July 31, 2018, and for the nine and three months ended July 31, 2018 and 2017. We believe that the following accounting policies or estimates require the application of management's most difficult, subjective, or complex judgments:

Revenue Recognition: Base rents, additional rents based on tenants' sales volume and reimbursement of the tenants' share of certain operating expenses are generally recognized when due from tenants. The straight-line basis is used to recognize base rents under leases if they provide for varying rents over the lease terms. Straight-line rents represent unbilled rents receivable to the extent straight-line rents exceed current rents billed in accordance with lease agreements. Before FREIT can recognize revenue, it is required to assess, among other things, its collectability.

Valuation of Long-Lived Assets: We assess the carrying value of long-lived assets periodically, or whenever events or changes in circumstances indicate that the carrying amounts of certain assets may not be recoverable. When FREIT determines that the carrying value of long-lived assets may be impaired, the measurement of any impairment is based on a projected discounted cash flow method determined by FREIT's management. While we believe that our discounted cash flow methods are reasonable, different assumptions regarding such cash flows may significantly affect the measurement of impairment.

Real Estate Development Costs: It is FREIT’s policy to capitalize pre-development costs, which generally include legal and professional fees and other directly related third-party costs. Real estate taxes and interest costs incurred during the development and construction phases are also capitalized. FREIT ceases capitalization of these costs when the project or portion thereof becomes operational, or when construction has been postponed. In the event of postponement, capitalization of these costs will recommence once construction on the project resumes.

See Note 2 to the condensed consolidated financial statements for recently issued accounting standards.

RESULTS OF OPERATIONS

Real estate revenue for the nine months ended July 31, 2018 (“Current Nine Months”) increased 13.7% to $43,150,000, compared to $37,943,000 for the nine months ended July 31, 2017 (“Prior Year’s Nine Months”). For the three months ended July 31, 2018 (“Current Quarter”), real estate revenue increased 15.4% to $14,631,000, compared to $12,680,000 for the three months ended July 31, 2017 (“Prior Year’s Quarter”). The increase in revenue was primarily attributable to an increase in the average occupancy rate at the Rotunda property resulting from the lease-up of the new residential units and retail space at the property.

Net income attributable to common equity (“net income-common equity”) for the Current Nine Months and Current Quarter was $1,050,000 or $0.15 per share basic and diluted and $292,000 or $0.04 per share basic and diluted, compared to $13,118,000 or $1.92 per share basic and diluted and $13,754,000 or $2.01 per share basic and diluted for the Prior Year’s comparable periods, respectively.

Adjusted net income/(loss) for the Current Nine Months and Current Quarter was $618,000 or $0.09 per share basic and diluted and $111,000 or $0.02 per share basic and diluted, compared to a loss of $2,580,000 or ($0.38) per share basic and diluted and a loss of $1,155,000 or ($0.17) per share basic and diluted for the Prior Year’s comparable periods, respectively. Adjusted income is a non-GAAP measure, which management believes is a useful and meaningful gauge to investors of our operating performance, since it excludes the impact of unusual and infrequent items specifically: a gain and loan prepayment costs related to the sale of Hammel Gardens in Maywood, New Jersey in Fiscal 2017; a lease termination fee paid in Fiscal 2017.

Included in adjusted net income for the Current Nine Months was the following: a consolidated net loss of $1.2 million at the Rotunda property as the property continues to lease-up the new retail space and residential units (inclusive of a $1.8 million real estate tax credit attributed to the residential development at the Rotunda Icon property with a consolidated impact to FREIT of approximately $1.1 million based on FREIT’s 60% ownership); a loan prepayment cost of $1.2 million related to the Pierre Towers, LLC loan refinancing (which is included in interest expense on the accompanying condensed consolidated statement of income for the nine months ended July 31, 2018) with a consolidated impact to FREIT of approximately $0.8 million based on FREIT’s 65% ownership. Included in adjusted net income for the Prior Year’s Nine Months was the following: a consolidated net loss of $3.8 million at the Rotunda property driven by higher operational costs as the property was leasing up the new retail space and residential units and increased real estate taxes related to the reassessment resulting from completion of the project. (Refer to the segment disclosure below for a more detailed discussion on the financial performance of FREIT’s commercial and residential segments.)

The schedule below provides a detailed analysis of the major changes that impacted net income-common equity for the nine and three months ended July 31, 2018 and 2017:

 

		Nine Months Ended												Three Months Ended
		July 31,												July 31,
		2018				2017				Change				2018				2017				Change
		(In Thousands of Dollars)												(In Thousands of Dollars)
Income from real estate operations:
Commercial properties		$	10,548			$	9,580			$	968			$	3,738			$	3,008			$	730
Residential properties			14,258				8,960				5,298				4,385				2,991				1,394
Total income from real estate operations			24,806				18,540				6,266				8,123				5,999				2,124
Financing costs:
Fixed rate mortgages			(7,933	)			(7,314	)			(619	)			(2,325	)			(2,198	)			(127	)
Floating rate mortgages			(3,579	)			(239	)			(3,340	)			(1,767	)			(231	)			(1,536	)
Floating rate - Rotunda construction loan			(1,321	)			(2,913	)			1,592				—				(1,057	)			1,057
Credit line			(28	)			(35	)			7				—				(25	)			25
Other - Corporate interest			(491	)			(313	)			(178	)			(155	)			(119	)			(36	)
Mortgage cost amortization			(756	)			(892	)			136				(290	)			(354	)			64
Total financing costs			(14,108	)			(11,706	)			(2,402	)			(4,537	)			(3,984	)			(553	)
Investment income			201				145				56				89				54				35
Unrealized gain on interest rate cap contract			40				—				40				21				—				21
General & administrative expenses:
Accounting fees			(400	)			(403	)			3				(123	)			(128	)			5
Legal & professional fees			(108	)			(61	)			(47	)			(20	)			(14	)			(6	)
Trustees and consultant fees			(754	)			(719	)			(35	)			(259	)			(234	)			(25	)
Stock option expense			(95	)			(92	)			(3	)			(34	)			(31	)			(3	)
Corporate expenses			(391	)			(397	)			6				(120	)			(108	)			(12	)
Total general & administrative expenses			(1,748	)			(1,672	)			(76	)			(556	)			(515	)			(41	)
Depreciation			(8,573	)			(7,887	)			(686	)			(3,029	)			(2,709	)			(320	)
Adjusted net income (loss)			618				(2,580	)			3,198				111				(1,155	)			1,266
Gain on sale of property			—				15,395				(15,395	)			—				15,395				(15,395	)
Loan prepayment costs relating to property sale			—				(1,139	)			1,139				—				(1,139	)			1,139
Lease termination fee			—				(620	)			620				—				—				—
Net income			618				11,056				(10,438	)			111				13,101				(12,990	)
Net loss attributable to noncontrolling interests in subsidiaries			432				2,062				(1,630	)			181				653				(472	)
Net income attributable to common equity		$	1,050			$	13,118			$	(12,068	)		$	292			$	13,754			$	(13,462	)

 

The condensed consolidated results of operations for the Current Nine Months and Current Quarter are not necessarily indicative of the results to be expected for the full year or any other period.

 

SEGMENT INFORMATION

The following table sets forth comparative net operating income ("NOI") data for FREIT’s real estate segments and reconciles the NOI to condensed consolidated net income-common equity for the Current Nine Months and Current Quarter as compared to the Prior Year’s comparable periods (See below for definition of NOI):

 

		Commercial																Residential																Combined
		Nine Months Ended																Nine Months Ended																Nine Months Ended
		July 31,								Increase (Decrease)								July 31,								Increase (Decrease)								July 31,
		2018				2017				$				%				2018				2017				$				%				2018				2017
		(In Thousands)																(In Thousands)																(In Thousands)
Rental income		$	14,540			$	13,481			$	1,059				7.9%			$	23,312			$	19,334			$	3,978				20.6%			$	37,852			$	32,815
Reimbursements			4,361				3,971				390				9.8%				67				28				39				139.3%				4,428				3,999
Other			89				312				(223	)			-71.5%				426				265				161				60.8%				515				577
Total revenue			18,990				17,764				1,226				6.9%				23,805				19,627				4,178				21.3%				42,795				37,391
Operating expenses			8,857				8,754				103				1.2%				9,487				10,649				(1,162	)			-10.9%				18,344				19,403
Net operating income		$	10,133			$	9,010			$	1,123				12.5%			$	14,318			$	8,978			$	5,340				59.5%				24,451				17,988
Gain on sale of property		$	—			$	—			$	—				0.0%			$	—			$	15,395			$	(15,395	)			-100.0%				—				15,395
Loan prepayment costs relating to property sale		$	—			$	—			$	—				0.0%			$	—			$	(1,139	)		$	1,139				100.0%				—				(1,139	)
Average Occupancy %			76.5%				76.1%								0.4%				94.0%				81.0%	*							13.0%

 

 

	Reconciliation to condensed consolidated net income-common equity:
	Deferred rents - straight lining			355				552
	Lease termination fee			—				(620	)
	Investment income			201				145
	Unrealized gain on interest rate cap contract			40				—
	General and administrative expenses			(1,748	)			(1,672	)
	Depreciation			(8,573	)			(7,887	)
	Financing costs			(14,108	)			(11,706	)
	Net income			618				11,056
	Net loss attributable to noncontrolling interests in subsidiaries			432				2,062
	Net income attributable to common equity		$	1,050			$	13,118

 

 

		Commercial																Residential																Combined
		Three Months Ended																Three Months Ended																Three Months Ended
		July 31,								Increase (Decrease)								July 31,								Increase (Decrease)								July 31,
		2018				2017				$				%				2018				2017				$				%				2018				2017
		(In Thousands)																(In Thousands)																(In Thousands)
Rental income		$	4,968			$	4,462			$	506				11.3%			$	7,886			$	6,646			$	1,240				18.7%			$	12,854			$	11,108
Reimbursements			1,411				1,217				194				15.9%				30				9				21				233.3%				1,441				1,226
Other			45				15				30				200.0%				109				90				19				21.1%				154				105
Total revenue			6,424				5,694				730				12.8%				8,025				6,745				1,280				19.0%				14,449				12,439
Operating expenses			2,888				2,919				(31	)			-1.1%				3,620				3,762				(142	)			-3.8%				6,508				6,681
Net operating income		$	3,536			$	2,775			$	761				27.4%			$	4,405			$	2,983			$	1,422				47.7%				7,941				5,758
Gain on sale of property		$	—			$	—			$	—				0.0%			$	—			$	15,395			$	(15,395	)			-100.0%				—				15,395
Loan prepayment costs relating to property sale		$	—			$	—			$	—				0.0%			$	—			$	(1,139	)		$	1,139				100.0%				—				(1,139	)
Average Occupancy %			77.5%				74.8%								2.7%				94.6%				85.7%	*							8.9%

 

 

	Reconciliation to condensed consolidated net income-common equity:
	Deferred rents - straight lining			182				241
	Investment income			89				54
	Unrealized gain on interest rate cap contract			21				—
	General and administrative expenses			(556	)			(515	)
	Depreciation			(3,029	)			(2,709	)
	Financing costs			(4,537	)			(3,984	)
	Net income			111				13,101
	Net loss attributable to noncontrolling interests in subsidiaries			181				653
	Net income attributable to common equity		$	292			$	13,754

 

* Average occupancy rate excludes the Maywood, New Jersey ("Hammel Gardens") property as the property was sold in June 2017.  

 

NOI is based on operating revenue and expenses directly associated with the operations of the real estate properties, but excludes deferred rents (straight lining), depreciation, financing costs and other items. FREIT assesses and measures segment operating results based on NOI.

Same Property NOI: FREIT considers same property net operating income (“Same Property NOI”) to be a useful supplemental non-GAAP measure of its operating performance. FREIT defines same property within both the commercial and residential segments to be those properties that FREIT has owned and operated for both the current and prior periods presented, excluding those properties that FREIT acquired or redeveloped during those periods. Any newly acquired property that has been in operation for less than a year, any property that is undergoing a major redevelopment but may still be in operation at less than full capacity, and/or any property that has been sold is not considered same property.

NOI and Same Property NOI are non-GAAP financial measures and are not measures of operating results or cash flow as measured by GAAP, and are not necessarily indicative of cash available to fund cash needs and should not be considered an alternative to cash flows as a measure of liquidity.

 

COMMERCIAL SEGMENT

The commercial segment contains nine (9) separate properties. Seven are multi-tenanted retail or office centers, and two are single tenanted – a building formerly occupied as a supermarket and land located in Rockaway, New Jersey owned by FREIT from which it receives monthly rental income from a tenant who has built and operates a bank branch on the land.

As indicated in the table above under the caption Segment Information, total revenue from FREIT’s commercial segment for the Current Nine Months and Current Quarter increased by 6.9% and 12.8%, respectively, and NOI increased by 12.5% and 27.4%, respectively, as compared to the Prior Year’s comparable periods. Average occupancy for all commercial properties increased by 0.4% and 2.7%, respectively, as compared to the Prior Year’s comparable periods. The increase in revenue and NOI was primarily attributable to an increase in occupancy at the Rotunda property resulting from the lease-up of the new retail space from an average annual occupancy of 72.3% in the Current Nine Months compared to 43.1% in the Prior Year’s Nine Months and 75.7% in the Current Quarter compared to 54.6% in the Prior Year’s Quarter offset partially by the loss of revenue from Macy’s vacating the Preakness Shopping Center in Wayne, New Jersey in April 2017.

Same Property Operating Results: FREIT’s commercial segment currently contains nine (9) same properties. (See definition of same property under Segment Information above.) Since all of FREIT’s commercial properties are considered same properties in the current fiscal year, refer to the preceding paragraph for discussion of changes in same property results.

Leasing: The following tables reflect leasing activity at FREIT’s commercial properties for comparable leases (leases executed for spaces in which there was a tenant at some point during the previous twelve-month period) and non-comparable leases for the Current Nine Months:

 

 

RETAIL:		Number of Leases				Lease Area (Sq. Ft.)				Weighted Average Lease Rate (per Sq. Ft.)				Weighted Average Prior Lease Rate (per Sq. Ft.)				% Increase (Decrease)				Tenant Improvement Allowance (per Sq. Ft.)  (a)				Lease Commissions (per Sq. Ft.)  (a)
Comparable leases (b)			12				58,765			$	23.26			$	23.35				-0.4%			$	0.26			$	0.49
Non-comparable leases			6				10,351			$	39.70				N/A				N/A			$	5.17			$	1.98
Total leasing activity			18				69,116

 

OFFICE:		Number of Leases				Lease Area (Sq. Ft.)				Weighted Average Lease Rate (per Sq. Ft.)				Weighted Average Prior Lease Rate (per Sq. Ft.)				% Increase (Decrease)				Tenant Improvement Allowance (per Sq. Ft.)  (a)				Lease Commissions (per Sq. Ft.)  (a)
Comparable leases (b)			2				3,683			$	25.63			$	23.35				9.8%			$	0.58			$	0.31
Non-comparable leases			—				—			$	—				N/A				N/A			$	—			$	—
Total leasing activity			2				3,683

 

(a) These leasing costs are presented as annualized costs per square foot and are allocated uniformly over the initial lease term.

(b) This includes new tenant leases and/or modifications/extensions/renewals of existing tenant leases.        

 

 

ROTUNDA

The Rotunda property in Baltimore, Maryland (owned by FREIT’s 60% owned consolidated affiliate Grande Rotunda, LLC) is an 11.5 acre site containing a building with approximately 135,000 sq. ft. of office space and approximately 84,000 sq. ft. of retail space on the lower level of the building. In September 2013, FREIT began construction to redevelop and expand this property and, with the exception of retail tenant improvements, the redevelopment was substantially completed in the third quarter of Fiscal 2016. The redevelopment and expansion plans included a modernization of the office building and smaller adjacent buildings, construction of 379 residential apartment rental units, an additional 75,000 square feet of new retail space, and 864 above level parking spaces. By the end of the third quarter of Fiscal 2018, the residential section reached a stabilized level of occupancy. The retail space continues to lease-up and is approximately 82.9% leased and 75.9% occupied as of July 31, 2018. FREIT expects Rotunda’s operations to stabilize in 2019.

On February 7, 2018, Grande Rotunda, LLC refinanced its $115.3 million construction loan held by Wells Fargo with a new loan held by Aareal Capital Corporation in the amount of approximately $118.5 million with additional funding available for retail tenant improvements and leasing costs in the amount of $3,380,000. This refinancing paid off the loan previously held by Wells Fargo, funded loan closing costs and paid the amount due to Hekemian Development Resources for a development fee of $900,000 plus accrued interest of approximately $45,000 (See Note 7 to FREIT’s condensed consolidated financial statements for further details on this fee). This loan, secured by the Rotunda property, bears a floating interest rate at 285 basis points over the one-month LIBOR rate and has a maturity date of February 6, 2021 with two one-year renewal options. As part of this transaction, Grande Rotunda, LLC purchased an interest rate cap on LIBOR for the full amount that can be drawn on this loan of $121.9 million, capping the one-month LIBOR rate at 3% for the first two years of this loan. As of July 31, 2018, approximately $118.5 million of this loan was drawn down and the interest rate was approximately 4.94%.

In Fiscal 2017, Grande Rotunda, LLC incurred substantial expenditures at the Rotunda property related to retail tenant improvements, leasing costs and operating expenditures which, in the aggregate, exceeded revenues as the property was still in the rent up phase and the construction loan previously held with Wells Fargo was at its maximum level resulting in no additional funding available to draw. Accordingly, the equity owners in Grande Rotunda, LLC (FREIT with a 60% ownership and Rotunda 100, LLC with a 40% ownership) contributed their respective pro-rata share of any cash needs through loans to Grande Rotunda, LLC. As of July 31, 2018 and October 31, 2017, Rotunda 100, LLC has funded Grande Rotunda, LLC with approximately $5.3 million and $5.2 million (including interest), respectively, which is included in “Due to affiliate” on the accompanying condensed consolidated balance sheets.

 

RESIDENTIAL SEGMENT

FREIT currently operates eight (8) multi-family apartment buildings or complexes totaling 1,437 apartment units, which is inclusive of the Station Place property in Red Bank, New Jersey, which was acquired in December 2017. On June 12, 2017, FREIT sold its Hammel Gardens property, a residential property located in Maywood, New Jersey, for a sale price of $17 million. The sale of this property, which had a carrying value of approximately $0.7 million, resulted in a capital gain of approximately $15.4 million net of sales fees and commissions. As a result of this sale, FREIT incurred a loan prepayment cost of approximately $1.1 million and paid off the related mortgage on the Hammel Gardens property in the amount of approximately $8 million from the proceeds of the sale. FREIT structured this sale in a manner that qualified it as a like-kind exchange of real estate pursuant to Section 1031 of the Internal Revenue Code. The 1031 Exchange transaction resulted in a deferral for income tax purposes of the $15.4 million capital gain. The net proceeds from this sale, which were approximately $7 million, were held in escrow until a replacement property was purchased. A replacement property to complete this like-kind exchange (Station Place) was acquired on December 7, 2017, and the sale proceeds held in escrow were applied to the purchase price of such property (See Notes 5 and 6 to FREIT’s condensed consolidated financials for further details).

As indicated in the table above under the caption Segment Information, total revenue from FREIT’s residential segment for the Current Nine Months and Current Quarter increased by 21.3% and 19%, respectively, and NOI for the Current Nine Months and Current Quarter increased by 59.5% and 47.7%, respectively, as compared to the Prior Year’s comparable periods. Average occupancy for all residential properties for the Current Nine Months and Current Quarter increased approximately 13% and 8.9%, respectively, over the Prior Year’s comparable periods. The increase in revenue and NOI for the Current Nine Months and Current Quarter was primarily driven by an increase in the average annual occupancy at the Icon (the residential portion of the Rotunda property in Baltimore, Maryland) to 90.3% in the Current Nine Months compared to 42.1% in the Prior Year’s Nine Months and 93.8% in the Current Quarter as compared to 57.3% in the Prior Year’s Quarter. Also contributing to the increase in NOI for the Current Nine Months and Current Quarter was the real estate tax credits from tax year 2017 in the amount of $1.8 million attributed to the residential development at the Rotunda Icon property with a consolidated impact to FREIT of approximately $1.1 million based on FREIT’s 60% ownership.

Same Property Operating Results: FREIT’s residential segment currently contains seven (7) same properties. (See definition of same property under Segment Information above.) The Station Place property is not included as same property, since it is a newly acquired property that has been in operation for less than a year. The Hammel Gardens property was excluded from same property results for all periods presented because this property was sold in the prior fiscal year. For the Current Nine Months and Current Quarter, same property revenue increased by 21.5% and 16.1%, respectively, and same property NOI increased by 59.2% and 40.9%, respectively, as compared to the Prior Year’s comparable periods. The changes resulted from the factors discussed in the immediately preceding paragraph.

FREIT’s residential revenue is principally composed of monthly apartment rental income. Total rental income is a factor of occupancy and monthly apartment rents. Monthly average residential rents (excluding from both periods presented for comparability purposes, the Station Place property which was a newly acquired property that has been in operation for less than a year and the Icon which reached a stabilized occupancy rate in the third quarter of Fiscal 2018) at the end of the Current Quarter and the Prior Year’s Quarter were $1,894 and $1,860, respectively. A 1% decline in annual average occupancy, or a 1% decline in average rents from current levels, results in an annual revenue decline of approximately $230,000 and $219,000, respectively.

Capital expenditures: Since all of FREIT’s apartment communities, with the exception of the Boulders, Regency, Icon and Station Place properties, were constructed more than 25 years ago, FREIT tends to spend more in any given year on maintenance and capital improvements than may be spent on newer properties. Funds for these capital projects will be available from cash flow from the property's operations and cash reserves. In April 2018, Pierre Towers, LLC (“Pierre”), a consolidated subsidiary, entered into an agreement with Public Service Electric & Gas Company (“PSE&G”), whereby PSE&G would fund a project to make certain upgrades at the Pierre property located in Hackensack, New Jersey which include boiler replacement, lighting replacement of interior and exterior fixtures and minor lighting controls in apartment lighting. PSE&G will initially fund 100% of this project at an estimated cost of $924,000. As of July 31, 2018, PSE&G has funded Pierre with approximately $601,000 of the total project cost. Upon completion of the project which is targeted in late December 2018, Pierre Towers, LLC will be required to reimburse PSE&G for approximately $391,000 of this cost, to be paid monthly over a five year term with no interest.

 

FINANCING COSTS

 

		Nine Months Ended July 31,								Three Months Ended July 31,
		2018				2017				2018				2017
		(In Thousands of Dollars)								(In Thousands of Dollars)
Fixed rate mortgages (a):
1st Mortgages
Existing		$	6,638			$	7,314			$	1,720			$	2,198
New			1,295				—				605				—
Variable rate mortgages:
1st Mortgages
Existing			783				—				280				—
New			2,796				239				1,487				231
Construction loan-Rotunda			1,321				2,913				—				1,057
Credit line			28				35				—				25
Other			491				313				155				119
Total financing costs, gross			13,352				10,814				4,247				3,630
Amortization of mortgage costs			756				892				290				354
Total financing costs, net		$	14,108			$	11,706			$	4,537			$	3,984
(a) Includes the effect of interest rate swap contracts which effectively convert the floating interest rate to a fixed interest rate over the term of the loan.

 

 

Total net financing costs for the Current Nine Months increased approximately $2,402,000 or 20.5% as compared to the Prior Year’s comparable period which was primarily attributable to a $1.2 million loan prepayment cost related to the Pierre Towers, LLC loan refinancing with a consolidated impact to FREIT of approximately $0.8 million and the refinancing of Grande Rotunda LLC’s loan on the Rotunda property. Total net financing costs for the Current Quarter increased approximately $553,000 or 13.9% as compared to the Prior Year’s comparable period primarily driven by the increase in interest associated with the refinancing of Grande Rotunda LLC’s loan on the Rotunda property. (See Note 8 to FREIT’s condensed consolidated financial statements for further details.)

 

GENERAL AND ADMINISTRATIVE EXPENSES (“G & A”)

G&A expense for the Current Nine Months and Current Quarter was $1,748,000 and $556,000, respectively, compared to $1,672,000 and $515,000, respectively, for the Prior Year’s comparable periods. The primary components of G&A are accounting fees, legal & professional fees and Trustee and consulting fees.

 

DEPRECIATION

Depreciation expense from operations for the Current Nine Months and Current Quarter was $8,573,000 and $3,029,000, respectively, as compared to $7,887,000 and $2,709,000, respectively, for the Prior Year’s comparable periods. The increase in depreciation was primarily attributable to additional retail tenant improvements at the Rotunda property being placed into service as the property continues to lease-up.

 

LIQUIDITY AND CAPITAL RESOURCES

Net cash provided by operating activities was $7.5 million for the Current Nine Months compared to $0.8 million for the Prior Year’s Nine Months. FREIT expects that cash provided by operating activities and cash reserves will be adequate to cover mandatory debt service payments (including payments of interest, but excluding balloon payments), real estate taxes, recurring capital improvements at properties and other needs to maintain its status as a REIT for at least a period of one year from the date of filing of this quarterly report on Form 10-Q.

As at July 31, 2018, FREIT had cash and cash equivalents totaling $20.7 million, compared to $7.9 million at October 31, 2017. The increase in cash for the Current Nine Months is primarily attributable to $22.2 million in net cash provided by financing activities and $7.5 million in net cash provided by operating activities, offset by $16.9 million in net cash used in investing activities including capital expenditures.

On April 25, 2017, Wayne PSC announced it had agreed to a termination of Macy’s lease for the 81,160 square foot Macy’s store at the Preakness Shopping Center, effective as of April 15, 2017. To terminate the lease and take possession of the space, Wayne PSC paid Macy’s a termination fee of $620,000. Wayne PSC expects to re-position this space and re-lease to a new tenant (or multiple tenants) at market rents, which are currently higher than the rent provided for under the terminated Macy’s lease. FREIT will lose total consolidated annual rental income, including reimbursements, of approximately $0.2 million until such time as the space is fully re-leased. FREIT anticipates increased revenue from the space when it is fully re-leased.

On June 12, 2017, FREIT sold its Hammel Gardens property, a residential property located in Maywood, New Jersey, for a sale price of $17 million. The sale of this property, which had a carrying value of approximately $0.7 million, resulted in a capital gain of approximately $15.4 million net of sales fees and commissions. As a result of this sale, FREIT incurred a loan prepayment cost of approximately $1.1 million and paid off the related mortgage on the Hammel Gardens property in the amount of approximately $8 million from the proceeds of the sale. FREIT structured this sale in a manner that qualified it as a like-kind exchange of real estate pursuant to Section 1031 of the Internal Revenue Code. The 1031 Exchange transaction resulted in a deferral for income tax purposes of the $15.4 million capital gain. The net proceeds from this sale, which were approximately $7 million, were held in escrow until a replacement property was purchased.

On December 7, 2017, FREIT completed the acquisition of Station Place, a residential apartment complex consisting of one building with 45 units, located in Red Bank, New Jersey through Station Place on Monmouth, LLC (FREIT’s 100% owned consolidated subsidiary). FREIT identified Station Place as a replacement property for the Hammel Gardens property that FREIT sold on June 12, 2017. Station Place is part of FREIT’s residential segment. The acquisition cost was $19,550,000 (inclusive of approximately $550,000 of transaction costs capitalized as part of the asset acquisition), which was funded in part with $7 million in net proceeds from the sale of the Hammel Gardens property, and the remaining balance of $12,350,000 (inclusive of the transaction costs) was funded by Station Place on Monmouth, LLC through long-term financing for this property from Provident Bank.

FREIT owns and operates an 87,661 square foot shopping center located in Franklin Lakes, New Jersey, the anchor tenant of which is Stop & Shop. On July 26, 2017, Stop & Shop entered into a lease modification with FREIT whereby the tenant exercised its option to renew the lease for a ten year period with a right of the tenant to terminate the lease at any time during the fifth year if the store does not meet certain sales volume levels set forth in the modification. This lease modification, which provided for a $250,000 reduction in annual rent, has adversely affected and will adversely affect FREIT’s future operating results.

In Fiscal 2017, Grande Rotunda, LLC incurred substantial expenditures at the Rotunda property related to retail tenant improvements, leasing costs and operating expenditures which, in the aggregate, exceeded revenues as the property was still in the rent up phase and the construction loan previously held with Wells Fargo was at its maximum level resulting in no additional funding available to draw. Accordingly, the equity owners in Grande Rotunda, LLC (FREIT with a 60% ownership and Rotunda 100, LLC with a 40% ownership) contributed their respective pro-rata share of any cash needs through loans to Grande Rotunda, LLC. As of July 31, 2018 and October 31, 2017, Rotunda 100, LLC has funded Grande Rotunda, LLC with approximately $5.3 million and $5.2 million (including interest), respectively, which is included in “Due to affiliate” on the accompanying condensed consolidated balance sheets.

On April 22, 2016, Damascus Centre, LLC was able to take-down a second tranche of its loan held with People’s United Bank in the amount of $2,320,000, of which approximately $470,000 was readily available and the remaining $1,850,000 was held in escrow (included in prepaid expenses and other assets in the condensed consolidated balance sheet as of October 31, 2017) and would be available to Damascus Centre, LLC once certain tenants opened and began paying rent. In July 2018, these funds totaling $1,850,000 were released from escrow by the bank and became readily available to Damascus, Centre LLC.

After careful consideration of FREIT’s projected operating results and cash needs, the Board of Trustees declared a third quarter dividend of $0.05 per share which will be paid on September 14, 2018 to shareholders of record on September 1, 2018. The Board will continue to evaluate the dividend on a quarterly basis.

Credit Line: On October 27, 2017, FREIT’s revolving line of credit provided by the Provident Bank was renewed for a three-year term ending on October 27, 2020 at which point no further advances shall be permitted and provided the line of credit is not renewed by the lender, the outstanding principal balance of the line of credit shall convert to a commercial term loan maturing on October 31, 2022. Draws against the credit line can be used for working capital needs and standby letters of credit. Draws against the credit line are secured by mortgages on FREIT’s Franklin Crossing Shopping Center in Franklin Lakes, New Jersey and retail space in Glen Rock, New Jersey. The total line of credit was increased from $12.8 million to $13 million and the interest rate on the amount outstanding will be at a floating rate of 275 basis points over the 30-day LIBOR with a floor of 3.75%. During Fiscal 2017, FREIT utilized $3 million of its credit line to fund tenant improvements for new retail tenants at the Rotunda property. As of October 31, 2017, approximately $3.1 million was outstanding (including closing costs of approximately $0.1 million related to the renewal of the line). In February 2018, FREIT repaid the line of credit in the amount of $3.1 million. As of July 31, 2018, there was no amount outstanding and $13 million was available under the line of credit.

As at July 31, 2018, FREIT’s aggregate outstanding mortgage debt was $351.6 million, which bears a weighted average interest rate of 3.99% and an average life of approximately 4.5 years. FREIT’s fixed rate mortgages are subject to amortization schedules that are longer than the terms of the mortgages. As such, balloon payments (unpaid principal amounts at mortgage due date) for all mortgage debt will be required as follows:

 

Fiscal Year	2019	2021	2022	2023	2024	2025	2026	2028
($ in millions)
Mortgage "Balloon" Payments	$44.6	$137.6*	$14.4	$34.4	$9.0	$13.9	$18.2	$53.9

   *Includes Rotunda loan in the amount of $118.5 million refinanced with Aareal Capital Corporation on February 7, 2018.  

The following table shows the estimated fair value and carrying value of FREIT’s long-term debt at July 31, 2018 and October 31, 2017:

 

($ in Millions)		July 31, 2018		October 31, 2017
Fair Value		$340.9		$317.8
Carrying Value		$347.8		$321.6

 

Fair values are estimated based on market interest rates at July 31, 2018 and October 31, 2017 and on discounted cash flow analysis. Changes in assumptions or estimation methods may significantly affect these fair value estimates. The fair value is based on observable inputs (level 2 in the fair value hierarchy as provided by authoritative guidance).

FREIT expects to refinance the individual mortgages with new mortgages when their terms expire. To this extent FREIT has exposure to interest rate risk. If interest rates, at the time any individual mortgage note is due, are higher than the current fixed interest rate, higher debt service may be required, and/or refinancing proceeds may be less than the amount of mortgage debt being retired. For example, at July 31, 2018, a 1% interest rate increase would reduce the fair value of FREIT’s debt by $9 million, and a 1% decrease would increase the fair value by $9.7 million.

FREIT believes that the values of its properties will be adequate to command refinancing proceeds equal to or higher than the mortgage debt to be refinanced. FREIT continually reviews its debt levels to determine if additional debt can prudently be utilized for property acquisitions for its real estate portfolio that will increase income and cash flow to shareholders.

The loan on the Patchogue, New York property in the amount of approximately $5.2 million became due on March 1, 2018. FREIT is currently operating under the same terms and conditions of the existing agreement while working with the lender, Oritani Bank, to extend the maturity date of the loan and to provide for monthly payments of principal and interest. Until such time as a definitive agreement providing for an extension of the loan is entered into, there can be no assurance the loan will be extended.

On February 7, 2018, Grande Rotunda, LLC refinanced its $115.3 million construction loan held by Wells Fargo with a new loan held by Aareal Capital Corporation in the amount of approximately $118.5 million with additional funding available for retail tenant improvements and leasing costs in the amount of $3,380,000. This refinancing paid off the loan previously held by Wells Fargo, funded loan closing costs and paid the amount due to Hekemian Development Resources for a development fee of $900,000 plus accrued interest of approximately $45,000 (See Note 7 to FREIT’s condensed consolidated financial statements for further details on this fee). This loan, secured by the Rotunda property, bears a floating interest rate at 285 basis points over the one-month LIBOR rate and has a maturity date of February 6, 2021 with two one-year renewal options. As part of this transaction, Grande Rotunda, LLC purchased an interest rate cap on LIBOR for the full amount that can be drawn on this loan of $121.9 million, capping the one-month LIBOR rate at 3% for the first two years of this loan. As of July 31, 2018, approximately $118.5 million of this loan was drawn down and the interest rate was approximately 4.94%.

On January 8, 2018, Pierre, owned by S&A, which is a consolidated subsidiary, refinanced its $29.1 million loan held by State Farm with a new mortgage loan from New York Life Insurance in the amount of $48 million. Pierre paid New York Life Insurance a good faith deposit in the amount of $960,000 (which was included in prepaid expenses and other assets on the accompanying condensed consolidated balance sheet as of October 31, 2017) and was reimbursed by New York Life when the loan was closed in January 2018. The new loan has a term of ten years and bears a fixed interest rate equal to 3.88%. Interest-only payments are required each month for the first five years of the term and thereafter, principal payments plus accrued interest will be required each month through maturity. This refinancing resulted in: (i) a reduction in the annual interest rate from a fixed rate of 5.38% to a fixed rate of 3.88%; and (ii) net refinancing proceeds of approximately $17.2 million (after giving effect to a $1.2 million loan prepayment cost to pay-off the loan held by State Farm) that were distributed to the partners in S&A with FREIT receiving approximately $11.2 million, based on its 65% membership interest in S&A which can be used for capital expenditures and general corporate purposes.

On December 7, 2017, Station Place on Monmouth, LLC (owned 100% by FREIT) closed on a mortgage loan in the amount of $12,350,000 held by Provident Bank to purchase the Station Place property in Red Bank, New Jersey. Interest-only payments are required each month for the first two years of the term and thereafter, principal payments plus accrued interest will be required each month through maturity. The loan bears a floating interest rate equal to 180 basis points over the one-month BBA LIBOR with a maturity date of December 15, 2027. In order to minimize interest rate volatility during the term of the loan, Station Place on Monmouth, LLC entered into an interest rate swap agreement that, in effect, converted the floating interest rate to a fixed interest rate of 4.35% over the term of the loan.

On April 28, 2017, WestFREIT Corp., a consolidated subsidiary, refinanced its $22 million mortgage loan held by Wells Fargo Bank, with a new mortgage loan from Manufacturer’s and Traders Trust Company in the amount of $23.5 million. The new loan bears a floating interest rate equal to 275 basis points over the one-month LIBOR and has a maturity date of April 28, 2019 with the option to extend for 12 months. This refinancing resulted in: (i) a reduction in the annual interest rate from a fixed rate of 5.55% to a variable rate and (ii) net refinancing proceeds of approximately $1.1 million which have been used for general corporate purposes.

Interest rate swap contracts: To reduce interest rate volatility, FREIT uses a “pay fixed, receive floating” interest rate swap to convert floating interest rates to fixed interest rates over the term of a certain loan. FREIT enters into these swap contracts with a counterparty that is usually a high-quality commercial bank. In essence, FREIT agrees to pay its counterparties a fixed rate of interest on a dollar amount of notional principal (which corresponds to FREIT’s mortgage debt) over a term equal to the term of the mortgage notes. FREIT’s counterparties, in return, agree to pay FREIT a short-term rate of interest - generally LIBOR - on that same notional amount over the same term as the mortgage notes.

FREIT has variable interest rate mortgages securing its Damascus Center, Regency, Wayne PSC and Station Place properties. To reduce interest rate fluctuations, FREIT entered into interest rate swap contracts for each of these loans. These interest rate swap contracts effectively converted variable interest rate payments to fixed interest rate payments. The contracts were based on a notional amount of approximately $22,320,000 ($20,028,000 at July 31, 2018) for the Damascus Center swaps, a notional amount of approximately $16,200,000 ($16,005,000 at July 31, 2018) for the Regency swap, a notional amount of approximately $25,800,000 ($24,654,000 at July 31, 2018) for the Wayne PSC swap and a notional amount of approximately $12,350,000 ($12,350,000 at July 31, 2018) for the Station Place swap.

Interest rate cap contract: To limit exposure on interest rate volatility, FREIT uses an interest rate cap contract to cap a floating interest rate at a set pre-determined rate. FREIT enters into cap contracts with a counterparty that is usually a high-quality commercial bank. In essence, so long as the floating interest rate is below the cap rate, FREIT agrees to pay its counterparties a variable rate of interest on a dollar amount of notional principal (which corresponds to FREIT’s mortgage debt). Once the floating interest rate rises above the cap rate, FREIT’s counterparties, in return, agree to pay FREIT a short-term rate of interest above the cap on that same notional amount.

FREIT has a variable interest rate loan securing its Rotunda property. As part of the refinancing of Grande Rotunda, LLC’s construction loan previously held by Wells Fargo with a new loan from Aareal Capital Corporation, Grande Rotunda, LLC purchased an interest rate cap on LIBOR for the full amount that can be drawn on this loan of $121.9 million, capping the one-month LIBOR rate at 3% for the first two years of this loan. The cap contract was based on a notional amount of approximately $121,900,000 ($121,900,000 at July 31, 2018) and a term of two years with the loan being hedged against having a balance of approximately $118,520,000 and a term of three years.

Current GAAP requires FREIT to mark-to-market its interest rate swap and cap contracts. As the floating interest rate varies from time-to-time over the term of the contract, the value of the contract will change upward or downward. If the floating rate is higher than the fixed rate, the value of the contract goes up and there is a gain and an asset. If the floating rate is less than the fixed rate, there is a loss and a liability. The interest rate swaps are accounted for as effective cash flow hedges with the corresponding gains or losses on these contracts not affecting FREIT’s income statement; changes in the fair value of these cash flow hedges will be reported in other comprehensive income and appear in the equity section of the balance sheet. The interest rate cap is for accounting purposes deemed to be accounted for as an ineffective cash flow hedge with a corresponding gain or loss being recorded in FREIT’s income statement. This gain or loss represents the economic consequence of liquidating fixed rate swaps or cap contract and replacing them with like-duration funding at current market rates, something we would likely never do. Periodic cash settlements of these contracts will be accounted for as an adjustment to interest expense.

FREIT has the following derivative-related risks with its swap and cap contracts (“contract”): 1) early termination risk, and 2) counterparty credit risk.

Early Termination Risk: If FREIT wants to terminate its contract before maturity, it would be bought out or terminated at market value; i.e., the difference in the present value of the anticipated net cash flows from each of the contract’s parties. If current variable interest rates are significantly below FREIT’s fixed interest rate payments, this could be costly. Conversely, if interest rates rise above FREIT’s fixed interest payments and FREIT elected early termination, FREIT would realize a gain on termination. At July 31, 2018, the interest rate cap contract for the Rotunda property and the swap contracts for the Damascus Centre, Regency, Wayne PSC and Station Place properties were in FREIT’s favor. If FREIT had terminated these contracts at that date it would have realized gains of approximately $2,317,000 for the Wayne PSC swap, $904,000 for the Damascus Centre swaps, $290,000 for the Regency swap, $311,000 for the Station Place swap and $128,000 for the Grande Rotunda LLC cap, all of which have been included as an asset in FREIT’s condensed consolidated balance sheet as at July 31, 2018. The change in the fair value for the interest rate swap contracts (gain or loss) during such period has been included in comprehensive income and for the nine and three months ended July 31, 2018, FREIT recorded an unrealized gain of $2,661,000 and $123,000, respectively, in comprehensive income. The change in the fair value of the Grande Rotunda, LLC interest rate cap contract (gain or loss) during such period has been included in the condensed consolidated statements of income and for the nine and three months ended July 31, 2018, FREIT recorded an unrealized gain of approximately $40,000 and $21,000, respectively. For the nine and three months ended July 31, 2017, FREIT recorded an unrealized gain of $2,518,000 and unrealized loss of $88,000, respectively, in comprehensive income representing the change in fair value of the swaps during such period. For the year ended October 31, 2017, FREIT recorded an unrealized gain of $2,952,000 in comprehensive income representing the change in fair value of the swaps during such period with a corresponding asset of approximately $1,325,000 for the Wayne PSC swap and $275,000 for the Damascus Centre swaps and a corresponding liability of $439,000 for the Regency swap as at October 31, 2017.

Counterparty Credit Risk: Each party to a cap or swap contract bears the risk that its counterparty will default on its obligation to make a periodic payment. FREIT reduces this risk by entering into swap or cap contracts only with major financial institutions that are experienced market makers in the derivatives market.

 

STOCK OPTION PLAN

On April 5, 2018, FREIT shareholders approved an amendment to FREIT’s Equity Incentive Plan reserving an additional 300,000 shares for issuance under the Plan. As of July 31, 2018, 485,020 shares are available for issuance under the Plan after giving effect to the amendment.

On May 3, 2018, the Board approved the grant of a total of 38,000 non-qualified share options under the Equity Incentive Plan to two members of the Board who were appointed to the Board during Fiscal 2018. The options have an exercise price of $15.50 per share, will vest in equal annual installments over a 5-year period, and will expire 10 years from the date of grant, which will be May 2, 2028.

 

ADJUSTED FUNDS FROM OPERATIONS

Funds From Operations (“FFO”) is a non-GAAP measure defined by the National Association of Real Estate Investment Trusts (“NAREIT”). FREIT does not include distributions from equity/debt sources in its computation of FFO. Although many consider FFO as the standard measurement of a REIT’s performance, FREIT modified the NAREIT computation of FFO to include other adjustments to GAAP net income that are not considered by management to be the primary drivers of its decision making process. These adjustments to GAAP net income are straight-line rents, recurring capital improvements on FREIT’s residential apartments and lease termination fees paid to buyout a lease. The modified FFO computation is referred to as Adjusted Funds From Operations (“AFFO”). FREIT believes that AFFO is a superior measure of its operating performance. FREIT computes FFO and AFFO as follows:

 

		For the Nine Months Ended July 31,								For the Three Months Ended July 31,
		2018				2017				2018				2017
		(In Thousands, Except Per Share)								(In Thousands, Except Per Share)
Funds From Operations ("FFO") (a)
Net income		$	618			$	11,056			$	111			$	13,101
Depreciation of consolidated properties			8,573				7,887				3,029				2,709
Amortization of deferred leasing costs			497				381				197				158
Distributions to minority interests			(430	)(b)			(360	)			(90	)			(90	)
Gain on sale of property			—				(15,395	)			—				(15,395	)
Loan prepayment costs relating to property sale			—				1,139				—				1,139
FFO		$	9,258			$	4,708			$	3,247			$	1,622
Per Share - Basic and Diluted		$	1.35			$	0.69			$	0.47			$	0.24

 

(a) As prescribed by NAREIT.

(b) FFO excludes the distribution of proceeds to minority interest in the amount of approximately $6 million related to the refinancing of the loan for Pierre Towers, LLC, owned by S And A Commercial Associates Limited Partnership which is a consolidated subsidiary. See Note 8 to the condensed consolidated financial statements for further details.

                     

 

Adjusted Funds From Operations ("AFFO")
FFO		$	9,258			$	4,708			$	3,247			$	1,622
Deferred rents (Straight lining)			(355	)			(552	)			(182	)			(241	)
Capital Improvements - Apartments			(575	)			(630	)			(337	)			(251	)
Lease termination fee			—				620				—				—
AFFO		$	8,328			$	4,146			$	2,728			$	1,130
Per Share - Basic and Diluted		$	1.21			$	0.61			$	0.40			$	0.17
Weighted Average Shares Outstanding:
Basic			6,876				6,828				6,890				6,839
Diluted			6,876				6,831				6,890				6,839

 

FFO and AFFO do not represent cash generated from operating activities in accordance with GAAP, and therefore should not be considered a substitute for net income as a measure of results of operations or for cash flow from operations as a measure of liquidity. Additionally, the application and calculation of FFO and AFFO by certain other REITs may vary materially from that of FREIT, and therefore FREIT’s FFO and AFFO may not be directly comparable to those of other REITs.

 

INFLATION

Inflation can impact the financial performance of FREIT in various ways. FREIT’s commercial tenant leases normally provide that the tenants bear all or a portion of most operating expenses, which can reduce the impact of inflationary increases on FREIT. Apartment leases are normally for a one-year term, which may allow FREIT to seek increased rents as leases renew or when new tenants are obtained, subject to prevailing market conditions.

 

Item 3: Quantitative and Qualitative Disclosures About Market Risk

See “Commercial Segment”, “Residential Segment” and “Liquidity and Capital Resources” under Item 2 above for a detailed discussion of FREIT’s quantitative and qualitative market risk disclosures.

 

Item 4: Controls and Procedures

At the end of the period covered by this report, we carried out an evaluation of the effectiveness of the design and operation of FREIT’s disclosure controls and procedures. This evaluation was carried out under the supervision and with participation of FREIT’s management, including FREIT’s Chief Executive Officer and Chief Financial Officer, who concluded that FREIT’s disclosure controls and procedures are effective as of July 31, 2018. There has been no change in FREIT’s internal control over financial reporting during the period covered by this report that has materially affected, or is reasonably likely to materially affect, FREIT’s internal control over financial reporting.

Disclosure controls and procedures are controls and other procedures that are designed to ensure that information required to be disclosed in FREIT’s reports filed or submitted under the Exchange Act is recorded, processed, summarized, and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed in FREIT’s reports filed under the Exchange Act is accumulated and communicated to management, including FREIT’s Chief Executive Officer and Chief Financial Officer as appropriate, to allow timely decisions regarding required disclosure.

 

Part II: Other Information

 

Item 1: Legal Proceedings

None.

 

Item 1A: Risk Factors

There were no material changes in any risk factors previously disclosed in FREIT’s Annual Report on Form 10-K for the year ended October 31, 2017, that was filed with the Securities and Exchange Commission on January 12, 2018.

 

 

Item 6: Exhibits

Exhibit Index

 

Exhibit 31.1 - Section 302 Certification of Chief Executive Officer

Exhibit 31.2 - Section 302 Certification of Chief Financial Officer

Exhibit 32.1 - Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350

Exhibit 32.2 - Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350

 

Exhibit 101 - The following materials from FREIT’s quarterly report on Form 10-Q for the period ended July 31, 2018, are formatted in Extensible Business Reporting Language (“XBRL”): (i) condensed consolidated balance sheets; (ii) condensed consolidated statements of income; (iii) condensed consolidated statements of comprehensive income; (iv) condensed consolidated statement of equity; (v) condensed consolidated statements of cash flows; and (vi) notes to condensed consolidated financial statements.

 

 

 

 

 

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.

 

 

	FIRST REAL ESTATE INVESTMENT
	TRUST OF NEW JERSEY
	(Registrant)
Date: September 7, 2018
	/s/ Robert S. Hekemian, Jr.
	(Signature)
	Robert S. Hekemian, Jr.
	Chief Executive Officer
	(Principal Executive Officer)
	/s/ Donald W. Barney
	(Signature)
	Donald W. Barney
	President, Treasurer and Chief Financial Officer
	(Principal Financial/Accounting Officer)