201(cid:27)
ANNUAL REPORT
AN AFFILIATE OF
(cid:3)
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(cid:45)(cid:68)(cid:80)(cid:72)(cid:86)(cid:3)(cid:39)(cid:17)(cid:3)(cid:39)(cid:82)(cid:81)(cid:71)(cid:72)(cid:85)(cid:82)(cid:15)(cid:3)(cid:51)(cid:85)(cid:72)(cid:86)(cid:76)(cid:71)(cid:72)(cid:81)(cid:87)(cid:3)
(cid:3)
(cid:3)
(cid:3)
(cid:3)
(cid:3)
(cid:3)
(cid:3)
(cid:20)(cid:3)(cid:44)(cid:81)(cid:71)(cid:88)(cid:86)(cid:87)(cid:85)(cid:92)(cid:3)(cid:79)(cid:72)(cid:68)(cid:71)(cid:76)(cid:81)(cid:74)(cid:3)(cid:76)(cid:86)(cid:3)(cid:69)(cid:68)(cid:86)(cid:72)(cid:71)(cid:3)(cid:82)(cid:81)(cid:3)(cid:87)(cid:82)(cid:87)(cid:68)(cid:79)(cid:3)(cid:85)(cid:72)(cid:87)(cid:88)(cid:85)(cid:81)(cid:3)(cid:89)(cid:86)(cid:3)(cid:49)(cid:59)(cid:53)(cid:55)(cid:182)(cid:86)(cid:3)(cid:83)(cid:72)(cid:72)(cid:85)(cid:3)(cid:74)(cid:85)(cid:82)(cid:88)(cid:83)(cid:17)(cid:3)(cid:49)(cid:59)(cid:53)(cid:55)(cid:182)(cid:86)(cid:3)(cid:83)(cid:72)(cid:72)(cid:85)(cid:3)(cid:74)(cid:85)(cid:82)(cid:88)(cid:83)(cid:3)(cid:76)(cid:81)(cid:70)(cid:79)(cid:88)(cid:71)(cid:72)(cid:86)(cid:3)(cid:87)(cid:75)(cid:72)(cid:3)(cid:73)(cid:82)(cid:79)(cid:79)(cid:82)(cid:90)(cid:76)(cid:81)(cid:74)(cid:3)(cid:49)(cid:60)(cid:54)(cid:40)(cid:16)(cid:79)(cid:76)(cid:86)(cid:87)(cid:72)(cid:71)(cid:3)(cid:80)(cid:88)(cid:79)(cid:87)(cid:76)(cid:73)(cid:68)(cid:80)(cid:76)(cid:79)(cid:92)(cid:3)(cid:53)(cid:40)(cid:44)(cid:55)(cid:86)(cid:29)(cid:3)(cid:36)(cid:51)(cid:55)(cid:54)(cid:15)(cid:3)
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(cid:22)(cid:3)(cid:54)(cid:72)(cid:72)(cid:3)(cid:38)(cid:68)(cid:88)(cid:87)(cid:76)(cid:82)(cid:81)(cid:68)(cid:85)(cid:92)(cid:3)(cid:54)(cid:87)(cid:68)(cid:87)(cid:72)(cid:80)(cid:72)(cid:81)(cid:87)(cid:3)(cid:53)(cid:72)(cid:74)(cid:68)(cid:85)(cid:71)(cid:76)(cid:81)(cid:74)(cid:3)(cid:41)(cid:82)(cid:85)(cid:90)(cid:68)(cid:85)(cid:71)(cid:3)(cid:47)(cid:82)(cid:82)(cid:78)(cid:76)(cid:81)(cid:74)(cid:3)(cid:54)(cid:87)(cid:68)(cid:87)(cid:72)(cid:80)(cid:72)(cid:81)(cid:87)(cid:86)(cid:3)(cid:76)(cid:81)(cid:3)(cid:82)(cid:88)(cid:85)(cid:3)(cid:41)(cid:82)(cid:85)(cid:80)(cid:3)(cid:20)(cid:19)(cid:16)(cid:46)(cid:3)(cid:73)(cid:82)(cid:85)(cid:3)(cid:87)(cid:75)(cid:72)(cid:3)(cid:92)(cid:72)(cid:68)(cid:85)(cid:3)(cid:72)(cid:81)(cid:71)(cid:72)(cid:71)(cid:3)(cid:39)(cid:72)(cid:70)(cid:72)(cid:80)(cid:69)(cid:72)(cid:85)(cid:3)(cid:22)(cid:20)(cid:15)(cid:3)(cid:21)(cid:19)(cid:20)(cid:27)(cid:3)(cid:68)(cid:70)(cid:70)(cid:82)(cid:80)(cid:83)(cid:68)(cid:81)(cid:92)(cid:76)(cid:81)(cid:74)(cid:3)(cid:87)(cid:75)(cid:76)(cid:86)(cid:3)
(cid:79)(cid:72)(cid:87)(cid:87)(cid:72)(cid:85)(cid:3)
(cid:23)(cid:3)(cid:58)(cid:72)(cid:3)(cid:71)(cid:72)(cid:73)(cid:76)(cid:81)(cid:72)(cid:3)(cid:68)(cid:3)(cid:179)(cid:80)(cid:88)(cid:79)(cid:87)(cid:76)(cid:83)(cid:79)(cid:72)(cid:3)(cid:82)(cid:81)(cid:3)(cid:76)(cid:81)(cid:89)(cid:72)(cid:86)(cid:87)(cid:72)(cid:71)(cid:3)(cid:70)(cid:68)(cid:83)(cid:76)(cid:87)(cid:68)(cid:79)(cid:180)(cid:3)(cid:68)(cid:86)(cid:3)(cid:87)(cid:75)(cid:72)(cid:3)(cid:87)(cid:82)(cid:87)(cid:68)(cid:79)(cid:3)(cid:85)(cid:72)(cid:87)(cid:88)(cid:85)(cid:81)(cid:3)(cid:87)(cid:82)(cid:3)(cid:49)(cid:59)(cid:53)(cid:55)(cid:3)(cid:11)(cid:76)(cid:81)(cid:70)(cid:79)(cid:88)(cid:86)(cid:76)(cid:89)(cid:72)(cid:3)(cid:82)(cid:73)(cid:3)(cid:87)(cid:75)(cid:72)(cid:3)(cid:38)(cid:82)(cid:80)(cid:83)(cid:68)(cid:81)(cid:92)(cid:182)(cid:86)(cid:3)(cid:86)(cid:75)(cid:68)(cid:85)(cid:72)(cid:3)(cid:82)(cid:73)(cid:3)(cid:83)(cid:85)(cid:82)(cid:83)(cid:72)(cid:85)(cid:87)(cid:92)(cid:3)(cid:71)(cid:76)(cid:86)(cid:87)(cid:85)(cid:76)(cid:69)(cid:88)(cid:87)(cid:76)(cid:82)(cid:81)(cid:86)(cid:3)(cid:68)(cid:81)(cid:71)(cid:3)(cid:81)(cid:72)(cid:87)(cid:3)(cid:70)(cid:68)(cid:86)(cid:75)(cid:3)
(cid:83)(cid:85)(cid:82)(cid:70)(cid:72)(cid:72)(cid:71)(cid:86)(cid:3)(cid:73)(cid:85)(cid:82)(cid:80)(cid:3)(cid:86)(cid:68)(cid:79)(cid:72)(cid:86)(cid:15)(cid:3)(cid:79)(cid:72)(cid:86)(cid:86)(cid:3)(cid:80)(cid:82)(cid:85)(cid:87)(cid:74)(cid:68)(cid:74)(cid:72)(cid:3)(cid:71)(cid:72)(cid:69)(cid:87)(cid:3)(cid:85)(cid:72)(cid:83)(cid:68)(cid:76)(cid:71)(cid:12)(cid:3)(cid:71)(cid:76)(cid:89)(cid:76)(cid:71)(cid:72)(cid:71)(cid:3)(cid:69)(cid:92)(cid:3)(cid:49)(cid:59)(cid:53)(cid:55)(cid:182)(cid:86)(cid:3)(cid:87)(cid:82)(cid:87)(cid:68)(cid:79)(cid:3)(cid:70)(cid:68)(cid:83)(cid:76)(cid:87)(cid:68)(cid:79)(cid:3)(cid:76)(cid:81)(cid:89)(cid:72)(cid:86)(cid:87)(cid:80)(cid:72)(cid:81)(cid:87)(cid:3)(cid:76)(cid:81)(cid:3)(cid:87)(cid:75)(cid:72)(cid:3)(cid:83)(cid:85)(cid:82)(cid:83)(cid:72)(cid:85)(cid:87)(cid:76)(cid:72)(cid:86)(cid:3)
(cid:3)
(cid:1007)(cid:3)
COMPANY PROFILE
NEXPOINT RESIDENTIAL TRUST, INC.
NexPoint Residential Trust is a publicly traded REIT, with
We believe NXRT is the only pure-play, publicly-traded
its shares listed on the New York Stock Exchange under
REIT on the NYSE, focused on value-add multifamily real
the symbol “NXRT,” and is primarily focused on acquiring,
property. We target markets that we believe have the
owning and operating well-located middle-income
following characteristics:
multifamily properties with “value-add” potential in large
cities, primarily in the Southeastern and Southwestern
•
Attractive job growth and household formation
fundamentals
United States. NXRT is externally advised by NexPoint
• High costs of homeownership or class A
Real Estate Advisors, L.P., an affiliate of Highland Capital
Management, L.P., a leading global alternative asset
manager and an SEC-registered investment adviser.
multifamily rental; and
•
Elevated or increasing construction or
replacement costs for multifamily real property
We pursue investments in multifamily real property,
typically with a value-add component, where we can invest
capital to provide “life style” amenities to “work force” and
Our “value-add” program seeks to provide our residents
with “life-style” amenities found in newly constructed
multifamily property at a reasonable price as well as
middle-income housing. Our value-add strategies seek to
increase shareholder value for our investors.
provide both dramatically-improved communities for our
residents and outsized returns for our shareholders.
As of December 31, 201(cid:27), NXRT owned a portfolio of 3
(cid:27)
(cid:24)
multifamily
communities
consisting
of 1(cid:21)(cid:15)(cid:24)(cid:24)(cid:24)
apartment units in 10 major markets across the SE &
SW U.S.
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington D.C. 20549
FORM 10-K
(Mark One)
(cid:3) ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
(cid:4) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2018
OR
For the transition period from to
Commission File Number 001-36663
NexPoint Residential Trust, Inc.
(Exact Name of Registrant as Specified in Its Charter)
Maryland
(State or other Jurisdiction of
Incorporation or Organization)
300 Crescent Court, Suite 700, Dallas, Texas
(Address of Principal Executive Offices)
47-1881359
(I.R.S. Employer
Identification No.)
75201
(Zip Code)
(972) 628-4100
(Telephone Number, Including Area Code)
Securities registered pursuant to Section 12(b) of the Securities Exchange Act of 1934:
Title of each class
Common Stock, par value $0.01 per share
Name of each exchange on which registered
New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Securities Exchange Act of 1934:
None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes (cid:3) No (cid:4)
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes (cid:4) No (cid:3)
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 (cid:3) No (cid:4)
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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
such files). Yes (cid:3) No (cid:4)
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein,
and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of
this Form 10-K or any amendment to this Form 10-K. (cid:3)
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or
an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging
growth company” in Rule 12b-2 of the Exchange Act.
Large Accelerated Filer
Non-Accelerated Filer
Emerging growth company
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. (cid:4)
Accelerated Filer
Smaller reporting company
(cid:4)
(cid:4)
(cid:3)
(cid:3)
(cid:4)
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes (cid:4) No (cid:3)
The aggregate market value of the shares of common stock of the registrant held by non-affiliates of the registrant, based upon the closing price of
such shares on June 29, 2018, was approximately $459,930,000.
As of February 15, 2019, the registrant had 23,575,826 shares of its common stock, par value $0.01 per share, outstanding.
Portions of the proxy statement for the registrant’s 2019 Annual Meeting of Stockholders are incorporated by reference in Part III of this Form 10-K.
DOCUMENTS INCORPORATED BY REFERENCE
NEXPOINT RESIDENTIAL TRUST, INC.
Form 10-K
Year Ended December 31, 2018
Cautionary Statement Regarding Forward-Looking Statements
Item 1.
Item 1A.
Item 1B.
Item 2.
Item 3.
Item 4.
Business
Risk Factors
Unresolved Staff Comments
Properties
Legal Proceedings
Mine Safety Disclosures
INDEX
PART I
PART II
Item 5.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity
Securities
Item 6.
Item 7.
Item 7A.
Item 8.
Item 9.
Item 9A.
Item 9B.
Selected Financial Data
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Quantitative and Qualitative Disclosures About Market Risk
Financial Statements and Supplementary Data
Changes in and Disagreements With Accountants on Accounting and Financial Disclosure
Controls and Procedures
Other Information
PART III
Item 10.
Item 11.
Item 12.
Item 13.
Item 14.
Directors, Executive Officers and Corporate Governance
Executive Compensation
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Certain Relationships and Related Transactions, and Director Independence
Principal Accountant Fees and Services
Item 15.
Exhibits and Financial Statement Schedules
Index to Consolidated Financial Statements
PART IV
Page
ii
5
19
40
41
42
42
43
46
48
74
75
75
75
76
77
77
77
77
77
78
F-1
i
Cautionary Statement Regarding Forward-Looking Statements
This annual report contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of
1995 that are subject to risks and uncertainties. In particular, statements relating to our liquidity and capital resources, the performance
of our properties and results of operations contain forward-looking statements. Furthermore, all of the statements regarding future
financial performance (including market conditions and demographics) are forward-looking statements. We caution investors that any
forward-looking statements presented in this annual report are based on management’s current beliefs and assumptions made by, and
information currently available to, management. When used, the words “anticipate,” “believe,” “expect,” “intend,” “may,” “might,”
“plan,” “estimate,” “project,” “should,” “will,” “would,” “result” and similar expressions that do not relate solely to historical matters
are intended to identify forward-looking statements. You can also identify forward-looking statements by discussions of strategy,
plans or intentions.
Forward-looking statements are subject to risks, uncertainties and assumptions and may be affected by known and unknown
risks, trends, uncertainties and factors that are beyond our control. Should one or more of these risks or uncertainties materialize, or
should underlying assumptions prove incorrect, actual results may vary materially from those anticipated, estimated or projected. We
caution you therefore against relying on any of these forward-looking statements.
Some of the risks and uncertainties that may cause our actual results, performance, liquidity or achievements to differ materially
from those expressed or implied by forward-looking statements include, among others, the following:
•
•
•
•
•
•
•
•
•
•
•
•
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•
•
unfavorable changes in market and economic conditions in the United States and globally and in the specific markets
where our properties are located;
risks associated with ownership of real estate;
limited ability to dispose of assets because of the relative illiquidity of real estate investments;
our multifamily properties are concentrated in certain geographic markets in the Southeastern and Southwestern United
States, which makes us more susceptible to adverse developments in those markets;
increased risks associated with our strategy of acquiring value-enhancement multifamily properties rather than more
conservative investment strategies;
potential reforms to the Federal Home Loan Mortgage Corporation (“Freddie Mac”) and the Federal National Mortgage
Association (“Fannie Mae”);
competition could limit our ability to acquire attractive investment opportunities, which could adversely affect our
profitability and impede our growth;
competition and any increased affordability of residential homes could limit our ability to lease our apartments or increase
or maintain rents;
the relatively low residential mortgage rates may result in potential renters purchasing residences rather than leasing them,
and as a result, cause a decline in our occupancy rates;
the risk that we may fail to consummate future property acquisitions;
failure of acquisitions to yield anticipated results;
risks associated with increases in interest rates and our ability to issue additional debt or equity securities in the future;
risks associated with selling apartment communities, which could limit our operational and financial flexibility;
contingent or unknown liabilities related to properties or businesses that we have acquired or may acquire;
lack of or insufficient amounts of insurance;
the risk that our environmental assessments may not identify all potential environmental liabilities and our remediation
actions may be insufficient;
high costs associated with the investigation or remediation of environmental contamination, including asbestos, lead-
based paint, chemical vapor, subsurface contamination and mold growth;
high costs associated with the compliance with various accessibility, environmental, building and health and safety laws
and regulations, such as the Americans with Disabilities Act of 1990 (the “ADA”) and the Fair Housing Act (the “FHA”);
risks associated with limited warranties we may obtain when purchasing properties;
ii
•
•
•
•
•
•
•
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exposure to decreases in market rents due to our short-term leases;
risks associated with operating through joint ventures and funds;
our dependence on information systems;
risks associated with breaches of our data security;
risks associated with our reduced public company reporting requirements as an “emerging growth company”;
costs associated with being a public company, including compliance with securities laws;
the risk that our business could be adversely impacted if there are deficiencies in our disclosure controls and procedures or
internal control over financial reporting;
risks associated with our substantial current indebtedness and indebtedness we may incur in the future;
risks associated with derivatives or hedging activity;
the relative lack of experience of NexPoint Real Estate Advisors, L.P. (our “Adviser”) and property manager in operating
under the constraints imposed on us as a real estate investment trust (“REIT”) may hinder the achievement of our
investment objectives;
loss of key personnel of Highland Capital Management, L.P. (our “Sponsor” or “Highland”), our Adviser and our property
manager;
the risk that we may not replicate the historical results achieved by other entities managed or sponsored by affiliates of our
Adviser, members of our Adviser’s management team or by our Sponsor or its affiliates;
risks associated with our Adviser’s ability to terminate the Advisory Agreement (as defined below);
our ability to change our major policies, operations and targeted investments without stockholder consent;
the substantial fees and expenses we pay to our Adviser and its affiliates;
risks associated with any potential internalization of our management functions;
conflicts of interest and competing demands for time faced by our Adviser, our Sponsor and their officers and employees;
the risk that we may compete with other entities affiliated with our Sponsor or property manager for properties and
tenants;
failure to maintain our status as a REIT;
failure of our operating partnership to be taxable as a partnership for federal income tax purposes, possibly causing us to
fail to qualify for or to maintain REIT status;
compliance with REIT requirements, which may limit our ability to hedge our liabilities effectively and cause us to forgo
otherwise attractive opportunities, liquidate certain of our investments or incur tax liabilities;
risks associated with our ownership of interests in taxable REIT subsidiaries;
the recognition of taxable gains from the sale of properties as a result of the inability to complete certain like-kind
exchanges (“1031 Exchanges”) in accordance with Section 1031 of the Internal Revenue Code of 1986, as amended (the
“Code”);
the risk that the Internal Revenue Service (the “IRS”) may consider certain sales of properties to be prohibited
transactions, resulting in a 100% penalty tax on any taxable gain;
the ineligibility of dividends payable by REITs for the reduced tax rates available for some dividends;
risks associated with the stock ownership restrictions of the Code for REITs and the stock ownership limit imposed by our
charter;
the ability of our board of directors (the “Board”) to revoke our REIT qualification without stockholder approval;
recent and potential legislative or regulatory tax changes or other actions affecting REITs;
risks associated with the market for our common stock and the general volatility of the capital and credit markets;
failure to generate sufficient cash flows to service our outstanding indebtedness or pay distributions at expected levels;
iii
•
•
risks associated with limitations of liability for and our indemnification of our directors and officers; and
any other risks included under the heading “Risk Factors” in this annual report.
While forward-looking statements reflect our good faith beliefs, they are not guarantees of future performance. They are based
on estimates and assumptions only as of the date of this annual report. We undertake no obligation to update or revise any forward-
looking statement to reflect changes in underlying assumptions or factors, new information, data or methods, future events or other
changes, except as required by law.
iv
ITEM 1. BUSINESS
General
PART I
NexPoint Residential Trust, Inc. (the “Company”, “we”, “our”) was incorporated in Maryland on September 19, 2014, and has
elected to be taxed as a REIT. The Company is focused on “value-add” multifamily investments primarily located in the Southeastern
and Southwestern United States. Substantially all of the Company’s business is conducted through NexPoint Residential Trust
Operating Partnership, L.P. (the “OP”), the Company’s operating partnership. The Company owns its properties (the “Portfolio”)
through the OP and its wholly owned taxable REIT subsidiary (“TRS”). The OP owns approximately 99.9% of the Portfolio; the TRS
owns approximately 0.1% of the Portfolio. The Company’s wholly owned subsidiary, NexPoint Residential Trust Operating
Partnership GP, LLC (the “OP GP”), is the sole general partner of the OP. As of December 31, 2018, there were 23,819,402 common
units in the OP (“OP Units”) outstanding, of which 23,746,169, or 99.7%, were owned by the Company and 73,233, or 0.3%, were
owned by a noncontrolling limited partner (see Note 10 to our consolidated financial statements).
The Company began operations on March 31, 2015 as a result of the transfer and contribution by NexPoint Strategic
Opportunities Fund (fka NexPoint Credit Strategies Fund) (“NHF”) of all but one of the multifamily properties owned by NHF
through its wholly owned subsidiary NexPoint Real Estate Opportunities, LLC (fka Freedom REIT, LLC) (“NREO”). We use the term
“predecessor” to mean the carve-out business of NREO. On March 31, 2015, NHF distributed all of the outstanding shares of the
Company’s common stock held by NHF to holders of NHF common shares. We refer to the distribution of our common stock by NHF
as the “Spin-Off.”
The Company is externally managed by the Adviser through an agreement dated March 16, 2015, as amended, and renewed on
February 13, 2019 for a one-year term set to expire on March 16, 2020 (the “Advisory Agreement”), by and among the Company, the
OP and the Adviser. The Adviser conducts substantially all of the Company’s operations and provides asset management services for
its real estate investments. The Company expects it will only have accounting employees while the Advisory Agreement is in effect.
All of the Company’s investment decisions are made by the Adviser, subject to general oversight by the Adviser’s investment
committee and the Board. The Adviser is wholly owned by NexPoint Advisors, L.P., which is an affiliate of the Sponsor.
The Company’s investment objectives are to maximize the cash flow and value of properties owned, acquire properties with
cash flow growth potential, provide quarterly cash distributions and achieve long-term capital appreciation for its stockholders through
targeted management and a value-add program. Consistent with the Company’s policy to acquire assets for both income and capital
gain, the Company intends to hold at least majority interests in its properties for long-term appreciation and to engage in the business
of directly or indirectly acquiring, owning, and operating well-located multifamily properties with a value-add component in large
cities and suburban submarkets of large cities primarily in the Southeastern and Southwestern United States consistent with its
investment objectives. Economic and market conditions may influence the Company to hold properties for different periods of time.
From time to time, the Company may sell a property if, among other deciding factors, the sale would be in the best interest of its
stockholders.
The entities through which we own the properties in the Portfolio have entered into management agreements with BH
Management Services, LLC (“BH”). Pursuant to these agreements, BH operates and leases the underlying properties in the Portfolio
and provides construction management services. BH has significant experience operating and leasing multifamily properties, having
begun business in 1993 and currently operating and leasing approximately 90,000 multifamily units across the country. The Company
pays BH a management fee of approximately 3% of the monthly gross income from each property managed, as well as construction
supervision fees and certain other fees. BH is an affiliate of the noncontrolling limited partner of the OP. See Notes 10 and 11 to our
consolidated financial statements for additional information.
The Company may also participate with third parties in property ownership through limited liability companies (“LLCs”), funds
or other types of co-ownership or acquire real estate or interests in real estate in exchange for the issuance of common stock, OP
Units, preferred stock or options to purchase stock. These types of investments may permit the Company to own interests in larger
assets without unduly restricting diversification, which provides flexibility in structuring the Company’s portfolio.
The Company may allocate up to 30% of the portfolio to investments in real estate-related debt and securities with the potential
for high current income or total returns. These allocations may include first and second mortgages and subordinated, bridge,
mezzanine, construction and other loans, as well as debt securities related to or secured by multifamily real estate and common and
preferred equity securities, which may include securities of other REITs or real estate companies.
As of December 31, 2018, the Company, through the OP and the wholly owned TRS, owned 35 properties representing 12,555
units in seven states, as further described under Item 2, “Properties” and Notes 3, 4 and 5 to our consolidated financial statements.
5
2018 Highlights
Key highlights and transactions completed in 2018 include the following:
•
2018 Offering: On November 14, 2018, we issued 2,702,500 shares of common stock, par value $0.01 per share, at a public
offering price of $33.00 per share (before underwriters’ discounts and offering costs) for gross proceeds of approximately $89.2
million (the “2018 Offering”). We contributed the net proceeds from the 2018 Offering to the OP in exchange for 2,702,500 OP
Units, and the OP in turn used a majority of the net proceeds to repay the $50.0 million outstanding under a credit facility with
KeyBank National Association (“KeyBank”) (the “$60 Million Credit Facility”) and the $30.0 million outstanding under a
bridge facility with KeyBank (the “$30 Million Bridge Facility”). The following table contains summary information of the
2018 Offering:
Gross proceeds
Common shares sold (1)
Public offering price per share
Offering costs
Underwriters' discounts
Net proceeds
Average price per share
$
$
$
89,182,500
2,702,500
33.00
876,800
3,523,500
84,782,200
31.37
(1) Affiliates of our Adviser purchased 207,971 shares in the 2018 Offering. No underwriters’ discount applied to the purchase of
such shares.
•
Acquisitions: We completed three acquisitions, which increased our presence in two markets. Details of the acquisitions are in
the table below (dollars in thousands):
Property Name
Location
Cedar Pointe
Antioch, Tennessee
Crestmont Reserve
Brandywine I & II
Dallas, Texas
Nashville,
Tennessee
(2)
Date of
Acquisition
August 24,
2018
September 26,
2018
September 26,
2018
Purchase Price
Mortgage Debt (1)
# Units
Effective
Ownership
$
26,500
$
17,300
24,680
79,800
130,980
$
$
12,061
43,835
73,196
210
242
632
1,084
100%
100%
100%
(1)
For additional information regarding our debt, see Note 6 to our consolidated financial statements.
(2) Brandywine I & II are two separate properties that we combined and operate as a single property.
•
Disposition: We sold one property totaling 304 units. Details of the disposition are in the table below (in thousands):
Property Name
Location
Date of Sale
Sales Price
Outstanding
Principal (1)
Timberglen
(3)Dallas, Texas January 31, 2018
$
30,000
$
17,226
Net Cash
Proceeds (2)
$
29,553 $
Gain on Sale
of Real Estate
13,742
(1) Represents the outstanding principal balance when the loan was repaid.
(2) Represents sales price, net of closing costs.
(3) We completed the reverse portion of the 1031 Exchange of Atera Apartments with the sale of Timberglen, at which time legal
title to Atera Apartments transferred to us.
•
Renovations: For the properties in our Portfolio as of December 31, 2018, we completed full and partial renovations on 1,432
units at an average cost of $4,703 per renovated unit. Since inception, for the properties in our Portfolio as of December 31,
2018, we have completed full and partial renovations on 5,661 units at an average cost of $4,909 per renovated unit that has
been leased as of December 31, 2018. We have achieved average rent growth of 10.6%, or a $93 average monthly rental
increase per unit, on all units renovated and leased as of December 31, 2018, resulting in a return on investment on capital
expended for interior renovations of 22.7%.
6
•
•
Dividends: We declared dividends totaling $22.6 million, or $1.025 per share. During the fourth quarter of 2018, we increased
our quarterly dividend for the third time since the Spin-Off to $0.275 per share, which was an increase of $0.025 per share, or a
10.0% increase, over our previous quarterly dividends declared in 2018. The increase in our quarterly dividend to $0.275 per
share is an increase of $0.069 per share, or a 33.5% increase, over our historical quarterly dividends declared since the Spin-Off
through the third quarter of 2016. Our fourth quarter dividend equates to a 3.1% annualized yield based on our closing share
price of $35.05 on December 31, 2018.
Results of Operations and Non-GAAP Measures: We reported the following increases (decreases) in net income (loss), net
operating income (“NOI”), funds from operations (“FFO”), core funds from operations (“Core FFO”) and adjusted funds from
operations (“AFFO”) for the year ended December 31, 2018 as compared to the year ended December 31, 2017 (dollars in
thousands):
For the Year Ended December 31,
2018
2017
$ Change
% Change
$
Net income (loss)
(2)
NOI
FFO attributable to common stockholders
(2)
Core FFO attributable to common stockholders (2)
(2)
AFFO attributable to common stockholders
(1,614) $
80,175
32,018
35,081
40,753
56,359 $
76,578
25,051
30,147
34,772
(57,973) (1)
3,597
6,967
4,934
5,981
-102.9%
4.7%
27.8%
16.4%
17.2%
(1)
(2)
•
The change in our net income (loss) between the periods primarily relates to a decrease in gain on sales of real estate of $64.6
million, and was partially offset by an increase in total revenues of $2.4 million and decreases in total property operating
expenses of $1.4 million, depreciation and amortization expense of $1.3 million and loss on extinguishment of debt and
modification costs of $2.1 million.
See Item 7, “Management's Discussion and Analysis of Financial Condition and Results of Operations” for a discussion
regarding the non-GAAP measures of NOI, FFO, Core FFO and AFFO provided above, including reconciliations to net income
(loss) in accordance with U.S. generally accepted accounting principles (“GAAP”).
Same Store Growth: There are 29 properties encompassing 10,123 units of apartment space in our same store pool for the
years ended December 31, 2018 and 2017 (our “2017-2018 Same Store” properties). For our 2017-2018 Same Store properties,
we recorded the following operating metrics for the year ended December 31, 2018 as compared to the year ended December
31, 2017:
Operating Metric
2018
2017
% Change
Occupancy
Average Effective Monthly Rent Per Unit
Rental income (in thousands)
Other income (in thousands)
(1)
(2)$
$
$
94.5%
$
963
$
107,312
$
16,273
93.9%
925
102,643
15,827
0.6%
4.1%
4.5%
2.8%
(1) Occupancy is calculated as the number of units occupied as of December 31 for the respective year, divided by the total number
of units, expressed as a percentage.
(2) Average effective monthly rent per unit is equal to the average of the contractual rent for commenced leases as of December 31
for the respective year minus any tenant concessions over the term of the lease, divided by the number of units under
commenced leases as of December 31 for the respective year.
•
Cash Position: At December 31, 2018, we had $43.1 million of cash on our balance sheet, of which $2.0 million was reserved
for future renovations, $3.2 million for green improvements (see Note 6 to our consolidated financial statements) and $18.1
million for lender required escrows and security deposits. We believe we have adequate cash on hand, in addition to our
expected excess cash flows from operations, to meet our near term obligations, service our debt, pay distributions and make
opportunistic acquisitions.
7
•
Refinancings: We refinanced mortgages on seven properties, as detailed in the table below (dollars in thousands). See Note 6 to
our consolidated financial statements for additional information.
Date of
Accounting
Treatment
Refinance
Property Name
Belmont at Duck Creek
6/1/2018 Extinguishment $
Sabal Palm at Lake Buena Vista 8/20/2018 Extinguishment
8/21/2018 Extinguishment
Abbington Heights
8/31/2018 Extinguishment
Beechwood Terrace
9/28/2018 Extinguishment
Timber Creek
9/28/2018 Extinguishment
Radbourne Lake
9/28/2018 Modification
Hollister Place
$
Write-off of
Deferred
Financing
Costs (1)
Capitalized
Deferred
Financing
Costs
Prepayment
Penalties
and
Defeasance
Costs (1)
Debt
Modification
and Other
Extinguishment
Costs (1)
Reduction in
Spread
(in basis
points) (2)
— (3)$
228
—
405
151
144
—
928 $
293 $
442
105
100
296
266
141
1,643 $
— $
371
446
202
191
189
135
1,534 $
—
—
202
196
—
—
87
485
79 (4)
51
4 (4)
24
56
52
90
50 (5)
(1)
(2)
(3)
Included in loss on extinguishment of debt and modification costs on the accompanying consolidated statements of operations
and comprehensive income.
For previous floating rate mortgages, represents the reduction in the borrowing spread from the previous mortgage to the current
mortgage. For previous fixed-rate mortgages, represents the reduction in the borrowing rate from the previous mortgage to the
current mortgage (using one-month LIBOR as of December 31, 2018).
There were no existing deferred financing costs related to the prior fixed rate mortgage. We wrote-off the unamortized fair
market value adjustment as of June 1, 2018, a premium of less than $0.1 million, related to the prior fixed rate mortgage, which
is recorded in loss on extinguishment of debt and modification costs on the accompanying consolidated statements of operations
and comprehensive income.
Previous mortgage was an assumed fixed-rate loan.
(4)
(5) Represents the weighted average reduction in the borrowing spreads.
Our Real Estate Portfolio
As of December 31, 2018, we owned 35 properties representing 12,555 units in seven states that were approximately 94.6%
occupied with a weighted average monthly effective rent per occupied apartment unit of $985. For additional information regarding
our Portfolio, see Item 2, “Properties” and Notes 3, 4 and 5 to our consolidated financial statements.
We evaluate our operating performance on an individual property level and view our real estate assets as one industry segment
and, accordingly, our properties are aggregated into one reportable segment.
Our Business Objectives and Strategies
Our primary business objectives are to:
•
•
•
•
•
•
deliver stable, attractive yields and long-term capital appreciation to our stockholders;
acquire multifamily properties in markets with attractive job growth and household formation fundamentals primarily in
the Southeastern and Southwestern United States;
acquire assets at discounts to replacement cost;
implement a value-add program to increase returns to our stockholders;
own assets that provide lifestyle amenities and upgraded living spaces to low and moderate income renters; and
recycle capital from dispositions when economic and market conditions present opportunities that we believe are in the
best interest of our stockholders.
We intend to accomplish these objectives by:
•
Focusing on Acquiring Class B Properties in Our Core Markets. We will continue to seek opportunities to acquire
primarily Class B multifamily properties at prices that we believe represent discounts to replacement cost, provide the
potential for significant long-term value appreciation and that we expect will generate attractive yields for our
stockholders. We will focus on these types of opportunities in our core markets, which we consider to be primarily major
metropolitan areas in the Southeastern and Southwestern United States.
8
•
•
Focusing on Multifamily Properties with a Value-Add Component. We will continue to seek opportunities to acquire
multifamily properties that have a value-add component. Due to a lack of reinvestment by many prior owners, we believe
these types of properties provide us the opportunity to make relatively modest capital expenditures that result in a
significant increase in rents, thereby generating NOI growth, and thus higher yields and capital appreciation for our
stockholders.
Prudently Using Leverage to Increase Stockholder Value. We will typically finance new property acquisitions at a
target leverage level of approximately 50-60% loan-to-value (outstanding principal balance to enterprise value). Given
that we intend for the majority of our acquisitions to have a value-add component in the first three years of ownership, we
will generally seek leverage with the optionality to refinance (such as floating rate debt). In the management team’s
experience, this leverage strategy allows for the opportunity to maximize returns for our stockholders while providing
maximum flexibility. We are currently targeting to reduce our leverage to 40-45% loan-to-value (outstanding principal
balance to enterprise value) over time by increasing the value of our properties, refinancing properties we intend to hold
longer term and strategically paying down debt with excess cash flows from operations or future equity offerings.
Our Adviser’s investment approach combines its management team’s experience with a structure that emphasizes thorough
market research, local market knowledge, underwriting discipline and risk management in evaluating potential investments with a goal
of maximizing long-term stockholder value and a philosophy of thoughtful capital allocation and balance sheet management.
Acquisition and Operating Strategy
We seek primarily Class B multifamily properties that are priced at a discount to replacement cost. We believe that through the
implementation of our value-add program we will be able to grow the NOI of these types of properties significantly in the first three
years of ownership and thus these types of acquisitions will be accretive over the long-term to our FFO, Core FFO and AFFO. As we
progress through the real estate life cycle, these opportunities will become more difficult to find. However, we will continue to take a
disciplined approach to acquisitions by primarily pursuing these types of opportunities. Our Adviser’s investment approach includes
active management of each property acquired. Our Adviser believes that active management is critical to creating value. Prior to the
purchase of a property, BH and our Adviser generally tour each property and develop a business strategy for the property. This
includes a forecast of the action items to be taken and the capital needed to achieve the anticipated returns. Our Adviser reviews such
property-level business strategies on an ongoing basis to anticipate changes or opportunities in the market. In an effort to keep
properties in compliance with our underwriting standards and management strategies, our Adviser remains involved throughout the
investment life cycle of each acquired property and actively consults with BH throughout the holding period.
We may also allocate up to 30% of our Portfolio to investments in real estate-related debt, mezzanine and other loans and
preferred equity and other securities in situations where the risk-return profile is more attractive than investments in common equity.
This strategy would be focused on the multifamily property type and would be designed to minimize potential losses during market
downturns and maximize risk adjusted total returns to our stockholders in all market cycles.
Value-Add Strategy
We will continue to implement our value-add strategy at our properties where we believe we can achieve a significant increase
in rents above what would otherwise be the case with purely organic market increases. Our value-add program has three components:
1) improvement of exteriors and common areas, 2) improvement of interiors and 3) management and cost improvements.
We invest in exterior and common areas improvements at our properties in an effort to enhance asset quality, to improve “curb
appeal”/market positioning, and expand or enhance our amenity offerings, all of which we believe will improve tenant retention and
modestly drive rent and NOI growth. Renovations to the exteriors and common areas include structural improvements that enhance
the physical condition, value and/or useful life of our properties, as well as aesthetic improvements to, among others, landscape and
signage. We also seek to improve our competitive positioning by adding to, redecorating or otherwise enhancing our common areas
and amenity offerings. As of December 31, 2018, with the exception of the properties we acquired in 2018, we have renovated the
exteriors and common areas at a majority of the properties in our Portfolio.
We expect interior renovations, along with organic growth in rents, to be the primary drivers of rent and NOI growth at our
properties. Our interior renovations include: 1) aesthetic design enhancements such as kitchen and/or bath remodeling, 2) replacement
of outdated appliances, equipment and fixtures, 3) addition of washer/dryer appliances, 4) private yards and 5) smart technologies
such as Bluetooth locks, networked climate control systems and USB electrical outlets. We also seek to achieve cost improvements
through investment in longer-lived materials, energy conservation projects, and other strategic initiatives. For the properties in our
Portfolio as of December 31, 2018, we have completed full and partial renovations on 5,661 units out of our 12,555 total units with an
average monthly rental increase per unit of $93 and an average cost of $4,909 per renovated unit that has been leased as of December
31, 2018. In cases where we believe rents will grow significantly in a market organically, we will implement the value-add program
9
more strategically in order to capture significant rent and NOI growth without expending additional capital. Additionally, to the extent
we believe rents at a property are maximized regardless of the level of additional renovations, we may opt not to further renovate units
at that property. As of December 31, 2018, we had reserved approximately $2.0 million for our planned capital expenditures and other
expenses to implement our value-add program, which will complete approximately 325 planned interior rehabs, eliminating the need
for us to raise additional capital in order to carry out our currently planned value-add program.
Disposition Strategy
In general, we intend to hold our multifamily properties for production of rental income for a period of at least three years from
the date of acquisition. Economic and market conditions may influence us to hold our investments for different periods of time. From
time to time, we may sell an asset before the end of the expected holding period, particularly if we receive a bona fide unsolicited offer
with attractive terms, have an upcoming liquidity need, such as a debt maturing, are strategically exiting a certain market or sub-
market or the sale of the asset would otherwise be in the best interest of our stockholders. When reviewing whether a sale is in the best
interest of our stockholders, we take into consideration whether market conditions and asset positioning have maximized the value of
the property to us and any potential adverse tax consequences of a sale.
Financing Strategy
We intend to use leverage in making our investments with an objective of maintaining a strong balance sheet and providing
liquidity to grow our Portfolio. We are currently targeting to reduce our leverage to 40-45% loan-to-value (outstanding principal
balance to enterprise value) over time by increasing the value of our properties and refinancing properties we intend to hold longer-
term. However, we are not subject to any limitations on the amount of leverage we may use, and, accordingly, the amount of leverage
we use may be significantly less or greater than what we currently anticipate. We are currently meeting our short-term liquidity needs
through our cash and cash equivalents and cash flows from operations.
When interest rates are high or financing is otherwise unavailable on a timely basis, we may purchase certain properties and
other assets for cash with the intention of obtaining a loan for a portion of the purchase price at a later time. We will refinance
properties during the term of a loan only under certain circumstances, such as when a decline in interest rates makes it beneficial to
prepay an existing mortgage, an existing mortgage matures, the value of the property has increased significantly and we can obtain
more attractive terms through refinancing the property, or an attractive investment becomes available and the proceeds from the
refinancing can be used to purchase such investment.
We typically use floating rate debt with interest rate swaps and interest rate caps as opposed to using fixed rate debt. We believe
this is a more sensible and flexible way to utilize leverage, while limiting our interest rate risk in our strategy as we attempt to increase
the value of each property over the course of three years after acquisition through our value-add program. Fixed rate financing is
typically more expensive and less flexible since there are typically high prepayment penalties, yield maintenance payments and/or
defeasance penalties when refinancing the debt prior to maturity. To the extent we intend to hold a property long-term, we will
reassess the use of refinancing with fixed rate debt.
Property Management Strategy
We seek to achieve long-term earnings growth through superior property management. To achieve this, we have partnered with
BH to manage all of our properties as an external manager. In order to align our property manager’s interests with those of our
stockholders, BH (through an affiliate) is a noncontrolling limited partner of the OP. We believe BH provides the following benefits:
•
•
•
•
•
•
•
manages approximately 90,000 multifamily units in 20 states and has managed multifamily communities for 26 years;
brings a scale of operations we could not otherwise achieve for approximately 3% of gross income, which is the
contracted amount we pay for its property management services;
has operations in all of our current and desired markets, allowing us greater scale when entering new markets or make
investments in non-core markets without making substantial investments in management infrastructure in those markets;
has a construction management operation and substantial experience in renovating Class B multifamily units;
its scale allows it to obtain highly competitive pricing as it pertains to the costs of our value-add program, increasing our
return on investment for renovations;
helps us source and underwrite opportunities as well as assist in due diligence of properties prior to closing;
assists in locating potential buyers for our properties;
10
•
•
its size, scale and experience allows it to keep costs low and maximize rents and occupancy; and
has proved successful in driving other revenue growth at properties it manages.
Our Structure
The following chart shows our ownership structure.
Public Stockholders
Common Shares
(100%)
NexPoint Residential Trust, Inc.
Sole Member
Advisory
Services
NexPoint Real Estate
Advisors, L.P.
Sole Member
NexPoint Residential
Trust Operating
Partnership GP, LLC
Limited Partner
(99.6% Ownership)
General Partner
(0.1% Ownership)
BH Equities, LLC*
TRS
NexPoint Residential Trust
Operating Partnership, L.P.
Noncontrolling
Limited Partner
(0.3% Ownership)
0.1%
99.9%
100%
LLC Subsidiaries
LLC Subsidiaries
11 Properties*
24 Properties*
∗
An affiliate of BH Equities, LLC is the property manager for all of our properties.
Our Adviser
We are externally managed by our Adviser pursuant to the Advisory Agreement, by and among the OP, our Adviser, and us.
Our Adviser was organized on September 5, 2014 and is an affiliate of Highland. Our Adviser has contractual and fiduciary
responsibilities to us and our stockholders as further described under “—Our Advisory Agreement” below. The members of our
Adviser’s management team are Jim Dondero, Brian Mitts, Matt McGraner and Matthew Goetz, all of whom are employed by our
Adviser or its affiliates.
Our Adviser has also entered into a shared services agreement with Highland, pursuant to which Highland or its affiliates
provide research and operational support to our Adviser, including services in connection with the due diligence of actual or potential
investments, the execution of investment transactions approved by our Adviser and certain back office and administrative services.
11
Our Advisory Agreement
Below is a summary of the terms of our Advisory Agreement:
Duties of Our Adviser. Our Advisory Agreement provides that our Adviser manage our business and affairs in accordance with
the policies and guidelines established by our Board and that our Adviser be under the supervision of our Board. The agreement
requires our Adviser to provide us with all services necessary or appropriate to conduct our business, including the following:
•
•
•
•
•
•
•
•
•
locating, presenting and recommending to us real estate investment opportunities consistent with our investment policies,
acquisition and disposition strategies and objectives, including our conflicts of interest policies;
structuring the terms and conditions of transactions pursuant to which acquisitions and dispositions of properties will be
made;
acquiring and disposing properties on our behalf in compliance with our investment objectives, strategies and applicable
tax regulations;
arranging for the financing and refinancing of properties;
administering our bookkeeping and accounting functions;
serving as our consultant in connection with policy decisions to be made by our Board, managing our properties or
causing our properties to be managed by another party;
monitoring our compliance with regulatory requirements, including the Securities Act of 1933, as amended, and the
Securities Exchange Act of 1934, as amended (the “Exchange Act”), and the rules and regulations promulgated
thereunder, New York Stock Exchange (“NYSE”) rules and regulations of the Code to maintain our status as a REIT;
performing administrative services; and
rendering other services as our Board deems appropriate.
Our Adviser is required to obtain the prior approval of our Board in connection with:
•
•
•
any investment for which the portion of the consideration paid out of our equity equals or exceeds $50,000,000;
any investment that is inconsistent with the publicly disclosed investment guidelines as in effect from time to time, or, if
none are then publicly disclosed, as otherwise adopted by our Board from time to time; or
any engagement of affiliated service providers on behalf of us or the OP, which engagement terms will be negotiated on
an arm’s length basis.
For these purposes, “equity” means the purchase price of the investment, exclusive of the proceeds of any debt financing
incurred or to be incurred in connection with the relevant investment and anticipated closing and other acquisition costs.
Our Adviser will be prohibited from taking any action, in its sole judgment, or in the sole judgment of our Board, that:
•
•
•
•
would adversely affect our qualification as a REIT under the Code, unless our Board had determined that REIT
qualification is not in the best interest of us and our stockholders;
would subject us to regulation under the Investment Company Act of 1940 (the “1940 Act”), except to the extent that we
and our Adviser have undertaken in the Advisory Agreement and our charter to comply with Section 15 of the 1940 Act in
connection with the entry into, continuation of, or amendment of the Advisory Agreement or any advisory agreement;
is contrary to or inconsistent with our investment guidelines; or
would violate any law, rule, regulation or statement of policy of any governmental body or agency having jurisdiction
over us or our shares of common stock, or otherwise not be permitted by our charter or bylaws.
12
Advisory Fee. Our Advisory Agreement requires that we pay our Adviser an annual advisory fee of 1.00% of our Average Real
Estate Assets.
“Average Real Estate Assets” means the average of the aggregate book value of Real Estate Assets (see below) before reserves
for depreciation or other non-cash reserves, computed by taking the average of the book value of real estate assets at the end of each
month (1) for which any fee under the Advisory Agreement is calculated or (2) during the year for which any expense reimbursement
under the Advisory Agreement is calculated. “Real Estate Assets” is defined broadly in the Advisory Agreement to include, among
other things, investments in real estate-related securities and mortgages and reserves for capital expenditures (the value-add program).
In calculating the advisory fee, we categorize our Average Real Estate Assets into either “Contributed Assets” or “New Assets.”
The advisory fee on Contributed Assets may not exceed $4.5 million in any calendar year. This cap is intended to limit the fees paid to
our Adviser on the Contributed Assets following the Spin-Off to the fees that would have been paid by NHF to its adviser had the
Spin-Off not occurred. The advisory fee on New Assets is not subject to this limitation but is subject to the expense cap mentioned
below.
“Contributed Assets” means all of the real estate assets we owned upon the completion of the Spin-Off and is not reduced for
dispositions of such assets subsequent to the Spin-Off.
“New Assets” means all of the Average Real Estate Assets other than Contributed Assets. New Assets includes proceeds from
the sale of a Contributed Asset that are used to purchase a new investment.
The advisory fee is payable monthly in arrears in cash, unless our Adviser elects, in its sole discretion, to receive all or a portion
of such fee in shares of our common stock, subject to the limitations set forth below under “—Limitations on Receiving Shares.” The
number of shares issued to our Adviser as payment for the advisory fee will be equal to the dollar amount of the portion of such fee
that is payable in shares divided by the volume-weighted average closing price of shares of our common stock for the ten trading days
prior to the end of the month for which such fee will be paid, which we refer to as the fee VWAP. Our Adviser computes each
installment of the advisory fee as promptly as possible after the end of the month with respect to which such installment is payable.
The accrued fees are payable monthly as promptly as possible after the end of each month during which the Advisory
Agreement is in effect. A copy of the computations made by our Adviser to calculate such installment is delivered to our Board for
informational purposes only.
Administrative Fee. Our Advisory Agreement requires that we pay our Adviser an annual administrative fee of 0.20% of the
Average Real Estate Assets.
In calculating the administrative fee, we categorize our Average Real Estate Assets into either Contributed Assets or New
Assets. The administrative fee on Contributed Assets may not exceed $890,000 in any calendar year. This cap is intended to limit the
fees paid to our Adviser on the Contributed Assets following the Spin-Off to the fees that would have been paid by NHF to its adviser
had the Spin-Off not occurred. The administrative fee on New Assets is not subject to this limitation but is subject to the expense cap
described below.
The administrative fee is payable monthly in arrears in cash, unless our Adviser elects, in its sole discretion, to receive all or a
portion of such fee in shares of our common stock, subject to the limitations set forth below under “—Limitations on Receiving
Shares.” The number of shares issued to our Adviser as payment for the administrative fee will be equal to the dollar amount of the
portion of such fee that is payable in shares divided by the fee VWAP. Our Adviser computes each installment of the administrative
fee as promptly as possible after the end of each month with respect to which such installment is payable. The accrued fees are
payable monthly as promptly as possible after the end of each month during which the Advisory Agreement is in effect. A copy of the
computations made by our Adviser to calculate such installment is delivered to our Board for informational purposes only.
Reimbursement of Expenses. Our Advisory Agreement requires that we reimburse our Adviser for all of its out-of-pocket
expenses in performing its services, including legal, accounting, financial, due diligence and other services performed by our Adviser
that outside professionals or outside consultants would otherwise perform and also pay our pro rata share of rent, telephone, utilities,
office furniture, equipment, machinery and other office, internal and overhead expenses of our Adviser required for our operations
(“Adviser Operating Expenses”). Adviser Operating Expenses do not include expenses for the advisory and administrative services
provided under the Advisory Agreement. We will also reimburse our Adviser for any and all expenses (other than underwriters’
discounts) in connection with an offering, including, without limitation, legal, accounting, printing, mailing and filing fees and other
documented offering expenses.
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When applicable, our Adviser prepares a statement documenting all expenses incurred during each month, and delivers such
statement to us within 15 business days after the end of each month. When submitted for reimbursement, such expenses are
reimbursed by us no later than the 15th business day immediately following the date of delivery of such statement of expenses to us.
All expenses payable by us or reimbursable to our Adviser pursuant to the agreement will not be in amounts greater than those which
would be payable to outside professionals or consultants engaged to perform such services pursuant to agreements negotiated on an
arm’s length basis. Our Adviser may, at its discretion and at any time, waive its right to reimbursement for eligible out-of-pocket
expenses paid on our behalf. Once waived, these expenses are considered permanently waived and become non-recoupable in the
future.
Expense Cap. Reimbursement of Adviser Operating Expenses under the Advisory Agreement, advisory and administrative fees
paid to our Adviser and corporate general and administrative expenses such as audit, legal, listing and Board fees and equity-based
compensation expense recognized under a long-term incentive plan will not exceed 1.5% of Average Real Estate Assets per calendar
year (or part thereof that the Advisory Agreement is in effect (the “Expense Cap”)). The Expense Cap does not limit the
reimbursement by us of expenses related to securities offerings paid by our Adviser. The Expense Cap also does not apply to legal,
accounting, financial, due diligence and other service fees incurred in connection with mergers and acquisitions, extraordinary
litigation or other events outside our ordinary course of business or any out-of-pocket acquisition or due diligence expenses incurred
in connection with the acquisition or disposition of real estate assets.
Term of the Advisory Agreement. The Advisory Agreement has a one-year term. The Advisory Agreement shall continue in
full force and effect so long as the Advisory Agreement is approved at least annually by our Board. On February 13, 2019, our Board,
including the independent directors, unanimously approved the renewal of the Advisory Agreement with the Adviser for a one-year
term that expires on March 16, 2020.
The Advisory Agreement may be terminated at any time, without payment of any penalty to our Adviser, by vote of our Board
or stockholders, or by our Adviser, in each case on not more than 60 days’ nor less than 30 days’ prior written notice to the other
party. The Advisory Agreement shall automatically and immediately terminate in the event of its “assignment” (as defined in the 1940
Act).
Amendment. The Advisory Agreement may only be amended, waived, discharged or terminated in writing signed by the party
against which enforcement of the amendment, waiver, discharge or termination is sought.
Limitations on Receiving Shares. The ability of our Adviser to receive shares of our common stock as payment for all or a
portion of the advisory and administrative fees due under the terms of our Advisory Agreement will be subject to the following
limitations: (1) the ownership of shares of common stock by our Adviser may not violate the ownership limitations set forth in our
charter, after giving effect to any exception from such ownership limitations that our Board may grant to our Adviser or its affiliates
and (2) compliance with all applicable restrictions under the U.S. federal securities laws and the NYSE rules. To the extent that
payment of any fee in shares of our common stock would result in a violation of the ownership limits set forth in our charter (taking
into account any applicable waiver or any restrictions imposed under the U.S. federal securities laws or NYSE rules), all or a portion
of such fee payable to our Adviser will be payable in cash to the extent necessary to avoid such violation.
Registration Rights. We entered into a registration rights agreement with our Adviser with respect to any shares of our
common stock that our Adviser receives as payment for any fees owed under our Advisory Agreement. These registration rights will
require us to file a registration statement with respect to such shares. We agreed to pay all of the expenses relating to registering these
securities. The costs associated with registering these securities will not be deducted from the compensation owed to our Adviser.
Liability and Indemnification of our Adviser. Under the Advisory Agreement, we are also required to indemnify our Adviser
and to pay or reimburse reasonable expenses in advance of final disposition of a proceeding with respect to certain of our Adviser’s
acts or omissions.
Other Activities of our Adviser and its Affiliates. Our Adviser and its affiliates expect to engage in other business ventures,
and as a result, their resources will not be dedicated exclusively to our business. However, pursuant to the Advisory Agreement, our
Adviser will be required to devote sufficient resources to our administration to discharge its obligations.
Potential Acquisition of our Adviser. Many REITs that are listed on a national stock exchange are considered “self-managed”
or “internally managed,” since the employees of such REITs perform all significant management functions. In contrast, REITs that are
not self-managed, like us, are referred to as “externally managed” and typically engage a third party, such as our Adviser, to perform
management functions on its behalf. Our independent directors may determine that we should become self-managed through the
acquisition of our Adviser, which we refer to as an internalization transaction. See “Risk Factors—If we internalize our management
functions, the percentage of our outstanding common stock owned by our other stockholders could be reduced, and we could incur
other significant costs associated with being self-managed.”
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Our Property Manager
The entities through which we own the properties in our Portfolio have entered into management agreements with BH. Pursuant
to these agreements, BH operates and leases the underlying properties in our Portfolio. In addition to property management and
leasing services, BH also provides us with market research, acquisition advice, a pipeline of investment opportunities and construction
management services. We utilize BH for property and construction management services and leasing, paying BH a management fee of
approximately 3% of the monthly gross income from each property managed, as well as construction supervision fees and certain
other fees described under “—Property Management Agreements” below.
Property Management Agreements
Under these agreements, BH operates, coordinates and supervises the ordinary and usual business and affairs pertaining to the
operation, maintenance, leasing, licensing, and management of each property. The following summarizes the terms of the management
agreements.
Term. The terms of the management agreements will continue until the last day of the calendar month following the second
anniversary of the agreement. Upon the expiration of the original term, the agreements will automatically renew on a month-to-month
basis until terminated. The agreements may be terminated at any time with 60 days written notice.
Proposed Management Plans. Each management agreement requires that BH prepare and submit a proposed management plan
and operating budget for the marketing, operation, repair and maintenance, and renovation of the property for the year the agreement
is entered into. BH must submit subsequent proposed management plans 45 days prior to the beginning of the next year.
Amounts Payable under the Management Agreements. The entities that own the properties pay BH monthly for its services.
Pursuant to the management agreements, BH may pay itself out of each property’s operating account. Any sums not paid within 10
days after becoming due bear interest at the rate of 18% per annum. Compensation under the management agreements consists of the
following components:
•
•
•
•
Management Fee. The management fee is approximately 3% of the monthly gross income from each property. For the
purposes of calculating the management fee, “monthly gross income” is defined as all receipts of every kind and nature
actually collected from the operation of the property, determined on a cash basis, including, without limitation, rental or
lease payments, late charges, service charges, forfeited security deposits, proceeds of vending machine collections,
resident utility payment collections, and all other forms of miscellaneous income (but excluding the collection of any
insurance or condemnation awards).
Set-Up/Inspection Fees. BH receives a one-time set-up/inspection fee per unit upon commencement of management of
each property.
Construction Supervision Fee. BH receives a construction supervision fee of 5-6% of total project costs if BH performs
these services.
Renter’s Insurance Program Fee; Other Fees. In the event that the entities that own the properties direct BH to
implement a renter’s insurance program at a property, the entities pay BH a fee in connection with running such program.
In consideration for any additional services other than the services required under the management agreements, the
entities pay BH an hourly rate.
Additionally, BH also acts as a paymaster for the properties and is reimbursed at cost for various operating expenses it pays on
behalf of the properties.
Termination. A management agreement will terminate automatically in the event that the entity that owns the property is sold
or if all or substantially all of the property to which the agreement applies is otherwise disposed of. Additionally, a management
agreement may be terminated if certain other events occur, including:
•
•
a default by BH or the entity that owns the property that is not cured prior to the expiration of any applicable cure periods;
upon written notice by either party if a petition for bankruptcy, reorganization or arrangement is filed by the other party,
or if any such petition shall be filed against the other party and is not dismissed within 60 days of the date of such filing,
or in the event the other party shall make an assignment for the benefit of creditors, or take advantage of any insolvency
statute or similar law;
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•
•
upon 15 days written notice in the event that all or substantially all of the property is destroyed by a casualty, or taken by
means of eminent domain or condemnation; or
upon 60 days written notice by either party.
If a management agreement is terminated by the entity that owns the property for any reason, or if it is terminated by BH due to
our default or due to the destruction, condemnation or taking by eminent domain of a property, the entity that owns the property will
be required to pay damages to BH. Such damages will be equal to the management fee earned by BH for the calendar month
immediately preceding the month in which the notice of termination is given, multiplied by the number of months and/or portions
thereof remaining from the termination date until the end of the initial term or term year in which the termination occurred.
Additionally, for the month or the partial month after the date of the termination of BH’s on-site property management
responsibilities, BH will be paid a close-out management fee equivalent to 50% of the last month’s full management fee.
Insurance. The entities that own the properties are required to maintain property and liability insurance for each property, and
its liability insurance policy must include BH as an “Additional Insured.” BH is required to maintain, at the entities’ expense, workers’
compensation insurance covering all employees of BH employed in, on, or about each property so as to provide statutory benefits
required by state and federal laws.
Assignment. BH may not assign the management agreements without the prior written consent of the entities that own the
properties.
Indemnification. The entities that own the properties are required to indemnify, defend and hold harmless BH and its agents
and employees from and against all claims, liabilities, losses, damages, and/or expenses arising out of (1) BH’s performance under the
management agreements, or (2) facts, occurrences, or matters first arising before the date of the management agreements. The entities
that own the properties are not required to indemnify BH against damages or expenses suffered as a result of the gross negligence,
willful misconduct, or fraud on the part of BH, its agents, or employees.
BH is required to indemnify, defend, and hold harmless the entities that own the properties and their agents and employees from
and against all claims, liabilities, losses, damages, and/or expenses arising out of the gross negligence, willful misconduct, or fraud on
the part of BH, its agents, or employees, and shall at its own cost and expense defend any action or proceeding against us arising
therefrom.
Our Sponsor
Highland is a registered investment adviser with the U.S. Securities and Exchange Commission (“SEC”), which, together with
its affiliates, including our Adviser, had approximately $9.9 billion in assets under management as of December 31, 2018. Highland is
one of the most experienced global alternative credit managers. The firm invests in various credit and equity strategies through hedge
funds, long-only funds, separate accounts, collateralized loan obligations, non-traded funds, publicly traded funds, closed-end funds,
mutual funds and ETFs, and manages strategies such as distressed-for-control private equity, oil and gas, direct real estate, real estate
credit and originated or structured real estate credit investments. The members of Highland’s real estate team, both during their tenure
at Highland and in their previous roles before joining Highland, and employees of BH have a long history of investing in real estate
and debt related to real estate properties.
Regulation
Multifamily properties are subject to various laws, ordinances and regulations, including regulations relating to common areas,
such as swimming pools, activity centers, and recreational facilities. We believe that each of our properties has the necessary permits
and approvals to operate its business.
Americans with Disabilities Act
The properties in our Portfolio must comply with Title III of the ADA, to the extent that such properties are “public
accommodations” as defined by the ADA. The ADA may require removal of structural barriers to access by persons with disabilities
in certain public areas of our properties where such removal is readily achievable. We believe that our properties are in substantial
compliance with the ADA and that we will not be required to make substantial capital expenditures to address the requirements of the
ADA. However, noncompliance with the ADA could result in imposition of fines or an award of damages to private litigants. The
obligation to make readily accessible accommodations is an ongoing one, and we will continue to assess our properties and make
alterations as appropriate in this respect.
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Fair Housing Act
The FHA, its state law counterparts and the regulations promulgated by the U.S. Department of Housing and Urban
Development and various state agencies, prohibit discrimination in housing on the basis of race or color, national origin, religion, sex,
familial status (including children under the age of 18 living with parents or legal custodians, pregnant women and people securing
custody of children under 18) or handicap (disability) and, in some states, financial capability or other bases. A failure to comply with
these laws in our operations could result in litigation, fines, penalties or other adverse claims, or could result in limitations or
restrictions on our ability to operate, any of which could materially and adversely affect us. We believe that we operate our properties
in substantial compliance with the FHA.
Environmental Matters
Under various federal, state and local laws and regulations relating to the environment, as a current or former owner or operator
of real property, we may be liable for costs and damages resulting from the presence or discharge of hazardous or toxic substances,
waste or petroleum products at, on, in, under, or migrating from such property, including costs to investigate and clean up such
contamination and liability for natural resources. Such laws often impose liability without regard to whether the owner or operator
knew of, or was responsible for, the presence of such contamination, and the liability may be joint and several. These liabilities could
be substantial and the cost of any required remediation, removal, fines, or other costs could exceed the value of the property and/or our
aggregate assets. In addition, the presence of contamination or the failure to remediate contamination at our properties may expose us
to third-party liability for costs of remediation and/or personal or property damage or materially adversely affect our ability to sell,
lease or develop our properties or to borrow using the properties as collateral. In addition, environmental laws may create liens on
contaminated sites in favor of the government for damages and costs it incurs to address such contamination. Moreover, if
contamination is discovered on our properties, environmental laws may impose restrictions on the manner in which property may be
used or businesses may be operated, and these restrictions may require substantial expenditures.
Independent environmental consultants have conducted Phase I Environmental Site Assessments at all of the properties in our
Portfolio using the American Society for Testing and Materials Standard E 1527-05. A Phase I Environmental Site Assessment is a
report that identifies potential or existing environmental contamination liabilities. Site assessments are intended to discover and
evaluate information regarding the environmental condition of the assessed property and surrounding properties. These assessments do
not generally include soil samplings, subsurface investigations or an asbestos survey. None of the site assessments identified any
known past or present contamination that we believe would have a material adverse effect on our business, assets or operations.
However, the assessments are limited in scope and may have failed to identify all environmental conditions or concerns. A prior
owner or operator of a property or historic operations at our properties, or operations and conditions at nearby properties, may have
created a material environmental condition that is not known to us or the independent consultants preparing the site assessments.
Material environmental conditions may have arisen after the review was completed or may arise in the future, and future laws,
ordinances or regulations may impose material additional environmental liability. Moreover, conditions identified in environmental
assessments that did not appear material at that time, may in the future result in material liability.
Environmental laws also govern the presence, maintenance and removal of hazardous materials in building materials (e.g.,
asbestos and lead), and may impose fines and penalties for failure to comply with these requirements or expose us to third-party
liability (e.g., liability for personal injury associated with exposure to asbestos). Such laws require that owners or operators of
buildings containing hazardous materials properly manage and maintain certain hazardous materials, adequately notify or train those
who may come into contact with certain hazardous materials, and undertake special precautions, including removal or other
abatement, if certain hazardous materials would be disturbed during renovation or demolition of a building. In addition, the properties
in our Portfolio are subject to various federal, state, and local environmental and health and safety requirements, such as state and
local fire requirements.
When excessive moisture accumulates in buildings or on building materials, mold growth may occur, particularly if the moisture
problem remains undiscovered or is not addressed over a period of time. Some molds may produce airborne toxins or irritants. Indoor
air quality issues can also stem from inadequate ventilation, chemical contamination from indoor or outdoor sources, and other
biological contaminants such as pollen, viruses and bacteria. Indoor exposure to airborne toxins or irritants above certain levels can be
alleged to cause a variety of adverse health effects and symptoms, including allergic or other reactions. As a result, the presence of
significant mold or other airborne contaminants at any of our properties could require us to undertake a costly remediation program to
contain or remove the mold or other airborne contaminants from the affected property or increase indoor ventilation. In addition, the
presence of significant mold or other airborne contaminants could expose us to liability from our tenants or others if property damage
or personal injury occurs. We are not presently aware of any material adverse indoor air quality issues at our properties.
The cost of future environmental compliance may materially and adversely affect us. See “Risk Factors—We may face high
costs associated with the investigation or remediation of environmental contamination, including asbestos, lead-based paint, chemical
vapor, subsurface contamination and mold growth.”
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Insurance
We carry comprehensive general liability coverage on the properties in our Portfolio, with limits of liability customary within
the industry to insure against liability claims and related defense costs. Similarly, we are insured against the risk of direct physical
damage in amounts necessary to reimburse us on a replacement-cost basis for costs incurred to repair or rebuild each property,
including loss of rental income during the reconstruction period. The majority of our property policies for all U.S. operating and
development communities include coverage for the perils of flood and earthquake shock with limits and deductibles customary in the
industry and specific to the project. We will also obtain title insurance policies when acquiring new properties, which insure fee title to
the properties in our Portfolio. We have obtained coverage for losses incurred in connection with both domestic and foreign terrorist-
related activities. These policies include limits and terms we consider commercially reasonable. There are certain losses (including,
but not limited to, losses arising from environmental conditions, acts of war or certain kinds of terrorist attacks) that are not insured, in
full or in part, because they are either uninsurable or the cost of insurance makes it, in our belief, economically impractical to maintain
such coverage. Should an uninsured loss arise against us, we would be required to use our own funds to resolve the issue, including
litigation costs. In addition, for the properties in our Portfolio, we could self-insure certain portions of our insurance program and
therefore, use our own funds to satisfy those limits. We believe the policy specifications and insured limits are adequate given the
relative risk of loss, the cost of the coverage and industry practice. In the opinion of our management team, the properties in our
Portfolio are adequately insured.
Competition
In attracting and retaining residents to occupy the properties in our Portfolio, we compete with numerous other housing
alternatives. The properties in our Portfolio compete directly with other rental apartments as well as condominiums and single-family
homes that are available for rent or purchase in the sub-markets in which our properties are located. Principal factors of competition
include rent or price charged, attractiveness of the location and property and quality and breadth of services and amenities. If our
competitors offer leases at rental rates below current market rates, or below the rental rates that the tenants of the properties in our
Portfolio pay, we may lose potential tenants and we may be pressured to reduce rental rates below those currently charged or to offer
more substantial rent abatements, tenant improvements, early termination rights or below-market renewal options in order to retain
tenants when the tenants’ leases expire.
The number of competitive properties relative to demand in a particular area has a material effect on our ability to lease
apartment units at our properties and on the rents we charge. In addition, we compete with numerous other investors for suitable
properties. This competition affects our ability to acquire properties and the price that we pay in such acquisitions.
Employees
Our Adviser conducts substantially all of our operations and provides asset management for our real estate investments. We
expect we will only have accounting employees while the Advisory Agreement is in effect. As of December 31, 2018, we had two
employees.
Corporate Information
Our Adviser’s offices are located at 300 Crescent Court, Suite 700, Dallas, Texas 75201. Our Adviser’s telephone number is
(972) 628-4100. We maintain a website at www.nexpointliving.com. We make our annual report on Form 10-K, quarterly reports on
Form 10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d)
available on our website as soon as reasonably practicable after we file such material with, or furnish it to, the SEC. Information
contained on, or accessible through our website, is not incorporated by reference into and does not constitute a part of this annual
report or any other report or documents we file with or furnish to the SEC. These documents may also be found on the SEC’s website
at www.sec.gov.
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Item 1A. Risk Factors
You should carefully consider the following risks and other information in this annual report in evaluating us and our common
stock. Any of the following risks, as well as additional risks and uncertainties not currently known to us or that we currently deem
immaterial, could materially and adversely affect our business, financial condition or results of operations, and could, in turn, impact
the trading price of our common stock.
Risks Related to Our Business and Industry
Unfavorable market and economic conditions in the United States and globally and in the specific markets or submarkets where
our properties are located could adversely affect occupancy levels, rental rates, rent collections, operating expenses and the overall
market value of our assets, and impair our ability to sell, recapitalize or refinance our assets.
Unfavorable market conditions in the areas in which we operate and unfavorable economic conditions in the United States and
globally may significantly affect our occupancy levels, our rental rates, rent collections, operating expenses, the market value of our
properties and our ability to strategically acquire, dispose, recapitalize or refinance our multifamily properties on economically
favorable terms or at all. Our ability to lease our properties at favorable rates is adversely affected by increases in supply of
multifamily communities in our markets and is dependent upon overall economic conditions, which are adversely affected by, among
other things, job losses and unemployment levels, a recession, personal debt levels, a downturn in the housing market, stock market
volatility and uncertainty about the future. Some of our major expenses, including debt service and real estate taxes, generally do not
decline when related rents decline. We expect that any declines in our occupancy levels, rental revenues and/or the values of our
multifamily properties would cause us to have less cash available to pay our indebtedness, fund necessary capital expenditures and to
make distributions to our stockholders, which could negatively affect our financial condition and the market value of our assets.
Factors that may affect our occupancy levels, our revenues, our NOI and/or the value of our properties include the following, among
others:
•
•
•
•
•
•
•
•
•
•
•
•
•
•
downturns in global, national, regional and local economic conditions;
declines in the financial condition of our residents, which may make it more difficult for us to collect rents from these
residents;
the inability or unwillingness of our residents to pay rent increases;
a decline in household formation;
a decline in employment or lack of employment growth;
an oversupply of, or a reduced demand for, apartment homes;
changes in market rental rates in our core markets;
our ability to renew leases or re-lease space on favorable terms;
the timing and costs associated with property improvements, repairs and renovations;
declines in mortgage interest rates, making home and condominium ownership more affordable;
changes in home loan lending practices, including the easing of credit underwriting standards, increasing the availability
of home loans and thereby reducing demand for apartment homes;
government or builder incentives which enable first-time homebuyers to put little or no money down, making alternative
housing options more attractive;
rent control or rent stabilization laws, or other laws regulating housing, that could prevent us from raising rents to offset
increases in operating costs; and
economic conditions that could cause an increase in our operating expenses, such as increases in property taxes
(particularly as a result of increased local, state and national government budget deficits and debt and potentially reduced
federal aid to state and local governments), utilities, insurance, compensation of on-site associates and routine
maintenance.
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We are subject to risks inherent in ownership of real estate.
Real estate cash flows and values are affected by a number of factors, including competition from other available properties and
the ability to provide adequate property maintenance and insurance and to control operating costs. Real estate cash flows and values
are also affected by such factors as government regulations (including zoning, usage and tax laws) limitations on rent and rent
increases, interest rate levels, the availability of financing, property tax rates, utility expenses, potential liability under environmental
and other laws and changes in environmental and other laws.
Real estate investments are relatively illiquid and may limit our flexibility.
Equity real estate investments are relatively illiquid, which tends to limit our ability to react promptly to changes in economic or
other market conditions. Our ability to dispose of assets in the future will depend on prevailing economic and market conditions. Our
inability to sell our properties on favorable terms or at all could have a material adverse effect on our sources of working capital and
our ability to satisfy our debt obligations. In addition, real estate can at times be difficult to sell quickly at prices we find acceptable.
These potential difficulties in selling real estate in our markets may limit our ability to change or reduce the number of multifamily
properties in our Portfolio promptly in response to changes in economic or other conditions.
Our multifamily properties are concentrated in certain geographic markets, which makes us more susceptible to adverse
developments in those markets.
Our most significant geographic investment concentrations are primarily in the Southeastern and Southwestern United States.
We are, therefore, subject to increased exposure from economic and other competitive factors specific to markets within these
geographic areas. To the extent general economic conditions worsen in one or more of these markets, or if any of these areas
experience a natural disaster, the value of our Portfolio and our market rental rates could be adversely affected. As a result, our results
of operations, cash flow, cash available for distribution, including cash available to pay distributions to our stockholders, and our
ability to satisfy our debt obligations could be materially adversely affected.
Our strategy for acquiring value-enhancement multifamily properties involves greater risks than more conservative investment
strategies.
Our primary strategy is a value-add strategy. Therefore, for a majority of our Portfolio, we intend to execute a “value-
enhancement” strategy whereby we will acquire under-managed assets in high-demand neighborhoods, invest additional capital, and
reposition the properties to increase both average rental rates and resale value. Our strategy for acquiring value-enhancement
multifamily properties involves greater risks than more conservative investment strategies. The risks related to these value-
enhancement investments include risks related to delays in the repositioning or improvement process, higher than expected capital
improvement costs, the additional capital needed to execute our value-add program, including possible borrowings or raising
additional equity necessary to fund such costs, and ultimately that the repositioning process may not result in the higher rents and
occupancy rates anticipated. In addition, our value-enhancement properties may not produce revenue while undergoing capital
improvements. Furthermore, we may also be unable to complete the improvements of these properties and may be forced to hold or
sell these properties at a loss. For these and other reasons, we cannot assure you that we will realize growth in the value of our value-
enhancement multifamily properties, and as a result, our ability to make distributions to our stockholders could be adversely affected.
Potential reforms or changes to Freddie Mac and Fannie Mae could adversely affect our business.
As of December 31, 2018, we had approximately $830.2 million and $15.5 million of outstanding consolidated indebtedness
under our Freddie Mac and Fannie Mae mortgage loans, respectively. We rely on national and regional institutions, including Freddie
Mac and Fannie Mae, to provide financing for our acquisitions and permanent financing on properties we may develop in the future.
Currently, there is significant uncertainty regarding the futures of Freddie Mac and Fannie Mae. Should Freddie Mac and Fannie Mae
have their mandates changed or reduced, be disbanded or reorganized by the government, privatized or otherwise discontinue
providing liquidity to our sector, it could significantly reduce our access to debt capital and/or increase borrowing costs and could
significantly reduce our sales of assets and/or the values realized upon sale.
Competition could limit our ability to acquire attractive investment opportunities, which could adversely affect our profitability and
impede our growth.
We compete with numerous real estate companies and other owners of real estate in seeking multifamily properties for
acquisition and pursuing buyers for dispositions. We expect that other real estate investors, including insurance companies, private
equity funds, sovereign wealth funds, pension funds, other REITs and other well-capitalized investors, will compete with us to acquire
existing properties and to develop new properties, and many of these investors will have greater sources of capital to acquire
properties. This competition could increase prices for properties of the type we would likely pursue and adversely affect our
profitability and impede our growth.
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Competition and any increased affordability of residential homes could limit our ability to lease our apartments or increase or
maintain rents.
Our multifamily properties compete with other housing alternatives to attract residents, including other rental apartments,
condominiums and single-family homes that are available for rent, as well as new and existing condominiums and single-family
homes for sale. All of our multifamily properties are located in developed areas that include other multifamily properties and/or
condominiums. The number of competitive multifamily properties and/or condominiums in a particular area, and any increased
affordability of owner occupied single and multifamily homes caused by declining housing prices, low mortgage interest rates and
government programs to promote home ownership, could have a material adverse effect on our ability to lease our apartments and the
rents we are able to obtain. In addition, single-family homes and other residential properties provide housing alternatives to residents
and potential residents of our multifamily properties.
The relatively low residential mortgage rates may result in potential renters purchasing residences rather than leasing them, and
as a result, cause a decline in occupancy rates.
The relatively low residential mortgage interest rates currently available and government-sponsored programs to promote home
ownership have resulted in a record high level on the National Association of Realtor’s Housing Affordability Index, an index used to
measure whether or not a typical family could qualify for a mortgage loan on a typical home. The foregoing factors may encourage
potential renters to purchase residences rather than lease them, thereby causing a decline in the occupancy rates of our properties.
We may fail to consummate future property acquisitions, and we may not be able to find suitable alternative investment
opportunities.
When acquiring properties in the future, we may be subject to various closing conditions, and there can be no assurance that we
can satisfy these conditions or that the acquisitions will close. If we fail to consummate future acquisitions, there can be no assurance
that we will be able to find suitable alternative investment opportunities.
Acquisitions may not yield anticipated results, which could negatively affect our financial condition and results of operations.
We intend to actively acquire multifamily properties for rental operations as market conditions, including access to the debt and
equity markets, dictate. We may also acquire multifamily properties that are unoccupied or in the early stages of lease-up. We may be
unable to lease-up these multifamily properties on schedule, resulting in decreases in expected rental revenues and/or lower yields as
the result of lower occupancy and rental rates as well as higher than expected concessions. We may underestimate the costs necessary
to bring an acquired property up to standards established for its intended market position or to complete a development project. We
may be unable to integrate the existing operations of newly acquired multifamily properties and over time such communities may not
perform as well as existing communities or as we initially anticipated in terms of occupancy and/or rental rates. Additionally, we
expect that other major real estate investors with significant capital will compete with us for attractive investment opportunities or
may also develop properties in markets where we focus our development efforts. This competition may increase acquisition costs for
multifamily properties. We may not be in a position or have the opportunity in the future to make suitable property acquisitions on
favorable terms.
Variable rate debt is subject to interest rate risk, which could increase our interest expense, increase the cost to refinance and
increase the cost of issuing new debt.
As of December 31, 2018, approximately $808.0 million of our total debt outstanding bears interest at variable rates, and we
may also borrow additional money at variable interest rates in the future. As of December 31, 2018, seven interest rate swap
agreements, with a combined notional amount of $650.0 million and terms expiring in 2021 and 2022, effectively fix the interest rate
on $650.0 million, or 80%, of our $808.0 million of floating rate mortgage debt outstanding. As of December 31, 2018, the interest
rate cap agreements we have entered into effectively cap one-month LIBOR on $255.2 million of our floating rate mortgage debt
outstanding at a weighted average rate of 5.82% for the term of the agreements, which is generally 3-4 years. Except to the extent we
have arrangements in place that hedge against the risk of rising interest rates, increases in interest rates would increase our interest
expense under these instruments and would increase the cost of refinancing these instruments and issuing new debt. As a result, our
cash flow and our ability to service our indebtedness and to make distributions to our stockholders would be adversely affected, which
could adversely affect the market price of our common stock.
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We have a substantial amount of variable rate debt and interest rate swaps indexed to LIBOR. We may be adversely affected upon
the transition away from LIBOR after 2021.
In July 2017, the Financial Conduct Authority (the authority that regulates LIBOR) announced it intends to stop compelling
banks to submit rates for the calculation of LIBOR after 2021. The Alternative Reference Rates Committee (“ARRC”) has proposed
that the Secured Overnight Financing Rate (“SOFR”) is the rate that represents best practice as the alternative to USD-LIBOR for use
in derivatives and other financial contracts that are currently indexed to USD-LIBOR. ARRC has proposed a paced market transition
plan to SOFR from USD-LIBOR and organizations are currently working on industry wide and company specific transition plans as it
relates to derivatives and cash markets exposed to USD-LIBOR. We have material contracts that are indexed to USD-LIBOR and are
monitoring this activity and evaluating the related risks.
We are subject to certain risks associated with selling apartment communities, which could limit our operational and financial
flexibility.
We periodically dispose of apartment communities that no longer meet our strategic objectives, but adverse market conditions may
make it difficult to sell apartment communities like the ones we own. We cannot predict whether we will be able to sell any property for
the price or on the terms we set, or whether any price or other terms offered by a prospective purchaser would be acceptable to us. We
also cannot predict the length of time needed to find a willing purchaser and to close the sale of a property. Furthermore, we may be
required to expend funds to correct defects or to make improvements before a property can be sold. These conditions may limit our ability
to dispose of properties and to change our portfolio promptly in order to meet our strategic objectives, which may in turn have a material
adverse effect on our financial condition and the market value of our assets. We are also subject to the following risks in connection with
sales of our apartment communities:
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a significant portion of the proceeds from our overall property sales may be held by intermediaries in order for some sales
to qualify as 1031 Exchanges so that any related capital gain can be deferred for federal income tax purposes. As a result,
we may not have immediate access to all of the cash proceeds generated from our property sales; and
federal tax laws limit our ability to profit on the sale of communities that we have owned for less than two years, and this
limitation may prevent us from selling communities when market conditions are favorable.
We may be subject to contingent or unknown liabilities related to properties or business that we have acquired or may acquire for
which we may have limited or no recourse against the sellers.
The properties or businesses that we have acquired or may acquire, may be subject to unknown or contingent liabilities for which
we have limited or no recourse against the sellers. Unknown liabilities might include liabilities for, among other things, cleanup or
remediation of undisclosed environmental conditions, liabilities under the Employee Retirement Income Security Act of 1974, as
amended (“ERISA”), claims of residents, vendors or other persons dealing with the entities prior to the acquisition of such property, tax
liabilities, and accrued but unpaid liabilities whether incurred in the ordinary course of business or otherwise. Because many liabilities,
including tax liabilities, may not be identified within the applicable contractual indemnification period, we may have no recourse against
any of the owners from whom we acquire such properties for these liabilities. The existence of such liabilities could significantly and
adversely affect the value of the property subject to such liability. As a result, if a liability were asserted against us based on ownership of
any of such properties, then we might have to pay substantial sums to settle it, which could adversely affect our cash flows.
We are subject to losses that are either uninsurable, not economically insurable or that are in excess of our insurance coverage.
There are certain types of losses (including, but not limited to, losses arising from environmental conditions, earthquakes and
hurricanes, acts of war or certain kinds of terrorist attacks) that are not insured, in full or in part, because they are either uninsurable or
the cost of insurance makes it, in our belief, economically impractical to maintain such coverage. We carry commercial general
liability insurance, property insurance and terrorism insurance with respect to our communities with limits and on terms we consider
commercially reasonable. If an uninsured loss or liability were to occur, whether because of a lack of insurance coverage or a loss in
excess of insured limits, we could lose our capital invested in a community, as well as the anticipated future revenues from such
community. We would also continue to be obligated to repay any mortgage indebtedness or other obligations related to the
community. If an uninsured liability to a third party were to occur, we would incur the cost of defense and settlement with, or court
ordered damages to, that third party. A significant uninsured property or liability loss could materially and adversely affect our
business and our financial condition and results of operations.
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Our environmental assessments may not identify all potential environmental liabilities and our remediation actions may be
insufficient.
Properties being considered for potential acquisition by us are subjected to at least a Phase I or similar environmental
assessment prior to closing, which generally does not involve invasive techniques such as soil or ground water sampling. A Phase II
assessment is conducted if recommended in the Phase I report. These assessments, together with subsurface assessments conducted on
some properties, have not revealed, and we are not otherwise aware of, any environmental conditions that we believe would have a
material adverse effect on our business, assets, financial condition or results of operations. However, such environmental assessments
may not identify all potential environmental liabilities. Moreover, we may in the future discover adverse environmental conditions at
our communities, including at communities we acquire in the future, which may have a material adverse effect on our business, assets,
financial condition or results of operations. In connection with our ownership, operation and selective development of communities,
from time to time we undertake substantial remedial action in response to the presence of subsurface or other contaminants, including
contaminants in soil, groundwater and soil vapor beneath or affecting our buildings. In some cases, an indemnity exists upon which
we may be able to rely if environmental liability arises from the contamination, or if remediation costs exceed estimates. We can
provide no assurance, however, that all necessary remediation actions have been or will be undertaken at our communities or that we
will be indemnified, in full or at all, in the event that environmental liability arises.
We may face high costs associated with the investigation or remediation of environmental contamination, including asbestos, lead-
based paint, chemical vapor, subsurface contamination and mold growth.
We are subject to various federal, state and local environmental and public health laws, regulations and ordinances. Under
various federal, state and local environmental and public health laws, regulations and ordinances, we may be required, regardless of
knowledge or responsibility, to investigate and remediate the effects of hazardous or toxic substances or petroleum product releases at
our properties (including in some cases natural substances such as methane and radon gas) and may be held liable under these laws or
common law to a governmental entity or to third parties for property, personal injury or natural resources damages and for
investigation and remediation costs incurred as a result of the contamination. These damages and costs may be substantial and may
exceed any insurance coverage we have for such events. The presence of such substances, or the failure to properly remediate the
contamination, may adversely affect our ability to borrow against, sell or rent the affected property. In addition, some environmental
laws create or allow a government agency to impose a lien on the contaminated site in favor of the government for damages and costs
it incurs as a result of the contamination.
We face risks relating to asbestos.
Certain federal, state and local laws, regulations and ordinances govern the removal, encapsulation or disturbance of asbestos
containing materials (“ACMs”) when such materials are in poor condition or in the event of renovation or demolition of a building.
These laws and the common law may impose liability for release of ACMs and may allow third parties to seek recovery from owners
or operators of real properties for personal injury associated with exposure to ACMs. ACMs may have been used in the construction
of a number of the communities that we acquired and may have been used in the construction of communities we acquire in the future.
We will implement an operations and maintenance program at each of the communities at which we discover ACMs. We can provide
no assurance that we will not incur any material liabilities as a result of the presence of ACMs at our communities.
We face risks relating to lead-based paint.
Some of our communities may have lead-based paint and we may have to implement an operations and maintenance program at
some of our communities. Communities that we acquire in the future may also have lead-based paint. We can provide no assurance
that we will not incur any material liabilities as a result of the presence of lead-based paint at our communities.
We face risks relating to chemical vapors and subsurface contamination.
We are also aware that environmental agencies and third parties have, in the case of certain communities with on-site or nearby
contamination, asserted claims for remediation, property damage or personal injury based on the alleged actual or potential intrusion
into buildings of chemical vapors (e.g., radon) or volatile organic compounds from soils or groundwater underlying or in the vicinity
of those buildings or on nearby properties. We can provide no assurance that we will not incur any material liabilities as a result of
vapor intrusion at our communities.
We face risks relating to mold growth.
Mold growth may occur when excessive moisture accumulates in buildings or on building materials, particularly if the moisture
problem remains undiscovered or is not addressed over a period of time. Although the occurrence of mold at multifamily and other
structures, and the need to remediate such mold, is not a new phenomenon, there has been increased awareness in recent years that
certain molds may in some instances lead to adverse health effects, including allergic or other reactions. To help limit mold growth,
we educate residents about the importance of adequate ventilation and include a lease requirement that they notify us when they see
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mold or excessive moisture. We have established procedures for promptly addressing and remediating mold or excessive moisture
when we become aware of its presence regardless of whether the resident believes or we believe a health risk is present. However, we
can provide no assurance that mold or excessive moisture will be detected and remediated in a timely manner. If a significant mold
problem arises at one of our communities, we could be required to undertake a costly remediation program to contain or remove the
mold from the affected community and could be exposed to other liabilities that may exceed any applicable insurance coverage.
Compliance with various laws and regulations, including accessibility, building and health and safety laws and regulations, may
be costly, may adversely affect our operations or expose us to liability.
In addition to compliance with environmental regulations, we must comply with various laws and regulations such as accessibility,
building, zoning, landlord/tenant and health and safety laws and regulations, including, but not limited to, the ADA and the FHA. Some
of those laws and regulations may conflict with one another or be subject to limited judicial or regulatory interpretations. Under those
laws and regulations, we may be liable for, among other things, the costs of bringing our properties into compliance with the statutory and
regulatory requirements. Noncompliance with certain of these laws and regulations may result in liability without regard to fault and the
imposition of fines and could give rise to actions brought against us by governmental entities and/or third parties who claim to be or have
been damaged as a consequence of an apartment not being in compliance with the subject laws and regulations. As part of our due
diligence procedures in connection with the acquisition of a property, we typically conduct an investigation of the property’s compliance
with known laws and regulatory requirements with which we must comply once we acquire a property, including a review of compliance
with the ADA and local zoning regulations. Our investigations and these assessments may not have revealed, and may not with respect to
future acquisitions reveal, all potential noncompliance issues or related liabilities and we can provide no assurance that our development
properties have been, or that our future development projects will be, designed and built in accordance with all applicable legal
requirements.
The development, construction and operation of our communities are subject to regulations and permitting under various
federal, state and local laws, regulations and ordinances, which regulate matters including wetlands protection, storm water runoff and
wastewater discharge. Noncompliance with such laws and regulations may subject us to fines and penalties. We can provide no
assurance that we will not incur any material liabilities as a result of noncompliance with these laws.
We may obtain only limited warranties when we acquire a property and may only have limited recourse if our due diligence did not
identify any issues that may subject us to unknown liabilities or lower the value of our property, which could adversely affect our
financial condition and ability to make distributions to you.
The seller of a property often sells the property in its “as is” condition on a “where is” basis and “with all faults,” without any
warranties of merchantability or fitness for a particular use or purpose. In addition, purchase agreements may contain only limited
warranties, representations and indemnifications that will survive for only a limited period after the closing. The acquisition of, or
purchase of, properties with limited warranties increases the risk that we may lose some or all of our invested capital in the property,
lose rental income from that property or may be subject to unknown liabilities with respect to such properties.
Short-term apartment leases expose us to the effects of declining market rent, which could adversely affect our ability to make cash
distributions to our stockholders.
Substantially all of our apartment leases are for a term of one year or less. Because these leases generally permit the residents to
leave at the end of the lease term without penalty, our rental revenues may be impacted by declines in market rents more quickly than
if our leases were for longer terms.
We may be subject to risks involved in real estate activity through joint ventures.
We may acquire properties through joint ventures when we believe circumstances warrant the use of such structures. Joint
venture investments involve risks, including: the possibility that joint venture partners might refuse to make capital contributions when
due; that we may be responsible to joint venture partners for indemnifiable losses; that joint venture partners might at any time have
business or economic goals which are inconsistent with ours; and that joint venture partners may be in a position to take action or
withhold consent contrary to our recommendations, instructions or requests. In some instances, joint venture partners may have
competing interests in our markets that could create conflicts of interest. Further, joint venture partners may fail to meet their
obligations to the joint venture as a result of financial distress or otherwise, and we would be forced to make contributions to maintain
the value of the property. To the extent joint venture partners do not meet their obligations to the joint venture or they take action
inconsistent with the interests of the joint venture, we could be adversely affected.
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If we acquire properties through joint ventures, we may be required to make decisions jointly with the other investors who have
interests in the respective joint ventures. We might not have the same interests as the other investors in relation to these decisions or
transactions. Accordingly, we might not be able to favorably resolve any of these issues, or we might have to provide financial or
other inducements to the other investors to obtain a favorable resolution.
In addition, various restrictive provisions and third-party rights, including consent rights to certain transactions, may apply to
sales or transfers of interests in joint ventures. Consequently, decisions to buy or sell interests in a property or properties relating to
joint ventures may be subject to the prior consent of other investors. These restrictive provisions and third-party rights would
potentially preclude us from achieving full value of the properties because of our inability to obtain the necessary consents to sell or
transfer the interests.
We depend on information systems, and systems failures could significantly disrupt our business, which may, in turn, negatively
affect our ability to pay dividends to our stockholders.
Our business depends on the communications and information systems of Highland, to which we have access through our
Adviser. In addition, certain of these systems are provided to Highland by third-party service providers. Any failure or interruption of
such systems, including as a result of the termination of an agreement with any such third-party service provider, could cause delays
or other problems in our activities. This, in turn, could have a material adverse effect on our operating results and negatively affect our
ability to pay dividends to our stockholders.
Breaches of our data security could materially harm our business and reputation.
We collect and retain certain personal information provided by our tenants. While security measures to protect the
confidentiality of this information are in place, we can provide no assurance that we will be able to prevent unauthorized access to this
information. Any breach of our data security measures and/or loss of this information may result in legal liability and costs (including
damages and penalties), as well as damage to our reputation, that could materially and adversely affect our business and financial
performance.
We are an “emerging growth company” under the federal securities laws and will be subject to reduced public company reporting
requirements.
We are an “emerging growth company,” as defined in the Jumpstart Our Business Startups Act (the “JOBS Act”), and are
eligible to take advantage of certain exemptions from, or reduced disclosure obligations relating to, various reporting requirements
that are normally applicable to public companies.
We could remain an “emerging growth company” until the earliest of (1) the last day of the fiscal year following the fifth
anniversary of becoming a public company, (2) the last day of the first fiscal year in which we have total annual gross revenue of
$1.07 billion or more, (3) the date on which we are deemed to be a “large accelerated filer” as defined in Rule 12b-2 under the
Exchange Act (which would occur if the market value of our common stock held by non-affiliates exceeds $700 million, measured as
of the last business day of our most recently completed second fiscal quarter, and we have been publicly reporting for at least 12
months) or (4) the date on which we have, during the preceding three year period, issued more than $1.0 billion in non-convertible
debt. Under the JOBS Act, emerging growth companies are not required to, among others, (1) provide an auditor’s attestation report
on management’s assessment of the effectiveness of internal control over financial reporting, pursuant to Section 404 of the Sarbanes-
Oxley Act of 2002 (“Sarbanes-Oxley Act”), (2) provide certain disclosures relating to executive compensation generally required for
larger public companies or (3) hold stockholder advisory votes on executive compensation. We intend to take advantage of the JOBS
Act exemptions that are applicable to us. Some investors may find our common stock less attractive as a result.
Additionally, the JOBS Act provides that an “emerging growth company” may take advantage of an extended transition period
for complying with new or revised accounting standards that have different effective dates for public and private companies. This
means an “emerging growth company” can delay adopting certain accounting standards until such standards are otherwise applicable
to private companies. We have elected to take advantage of this extended transition period. As a result of this election, our financial
statements may not be comparable to companies that comply with public company effective dates for such new or revised standards.
We may elect to comply with public company effective dates at any time, and such election would be irrevocable pursuant to Section
107(b) of the JOBS Act.
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Although we are an Emerging Growth Company, the requirements of being a public company, including compliance with the
reporting requirements of the Exchange Act and the requirements of the Sarbanes-Oxley Act, may strain our resources, increase
our costs and place additional demands on management, and we may be unable to comply with these requirements in a timely or
cost-effective manner.
As a public company with listed equity securities, we are required to comply with new laws, regulations and requirements,
certain corporate governance provisions of the Sarbanes-Oxley Act, related regulations of the SEC, including compliance with the
reporting requirements of the Exchange Act and the requirements of the NYSE, with which we were not required to comply with as a
private company. Complying with these statutes, regulations and requirements occupies a significant amount of time of our Board and
management and requires us to incur significant costs and expenses. As a result of becoming a public company, we are required to:
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institute a more comprehensive compliance function;
design, establish, evaluate and maintain a system of internal controls over financial reporting in compliance with the
requirements of Section 404 of the Sarbanes-Oxley Act and the related rules and regulations of the SEC and the Public
Company Accounting Oversight Board;
comply with rules promulgated by the NYSE;
prepare and distribute periodic public reports in compliance with our obligations under federal securities laws;
establish new internal policies, such as those relating to disclosure controls and procedures and insider trading;
involve and retain to a greater degree outside counsel and accountants in the above activities; and
maintain an investor relations function.
If our profitability is adversely affected because of these additional costs, it could have a negative effect on the trading price of
our common stock.
Our business could be adversely impacted if there are deficiencies in our disclosure controls and procedures or internal control
over financial reporting.
The design and effectiveness of our disclosure controls and procedures and internal control over financial reporting may not
prevent all errors, misstatements or misrepresentations. While management will continue to review the effectiveness of our disclosure
controls and procedures and internal control over financial reporting, there can be no guarantee that our internal control over financial
reporting will be effective in accomplishing all control objectives all of the time. Deficiencies, including any material weakness, in our
internal control over financial reporting which may occur in the future could result in misstatements of our results of operations,
restatements of our financial statements, a decline in our stock price, or otherwise materially adversely affect our business, reputation,
results of operations, financial condition or liquidity.
We may incur mortgage indebtedness and other borrowings, which we have broad authority to incur, that may increase our
business risks and decrease the value of your investment.
We expect that in most instances, we will acquire real properties by using either existing financing or borrowing new funds. In
addition, we may incur mortgage and other secured debt and pledge all or some of our real properties as security for that debt to obtain
funds to acquire additional real properties. We may borrow if we need funds to satisfy the REIT tax qualification requirement that we
generally distribute annually to our stockholders at least 90% of our REIT taxable income (which does not equal net income as
calculated in accordance with GAAP), determined without regard to the deduction for dividends paid and excluding net capital gain.
We also may borrow if we otherwise deem it necessary or advisable to assure that we maintain our qualification as a REIT.
If there is a shortfall between the cash flow from a property and the cash flow needed to service the related debt, then the
amount available for distributions to stockholders may be reduced. In addition, incurring secured debt increases the risk of loss since
defaults on indebtedness secured by a property may result in lenders initiating foreclosure actions. In that case, we could lose the
property securing the loan that is in default, thus reducing the value of your investment. For U.S. federal income tax purposes, a
foreclosure of any of our properties would be treated as a sale of the property for a purchase price equal to the outstanding balance of
the debt secured by the mortgage. If the outstanding balance of the debt secured by the mortgage exceeds our tax basis in the property,
we would recognize taxable income on foreclosure, but would not receive any cash proceeds. In such event, we may be unable to pay
the amount of distributions required in order to maintain our REIT status. We may give full or partial guarantees to lenders of
mortgage and other secured debt to the entities that own our properties. When we provide a guaranty on behalf of an entity that owns
one of our properties, we will be responsible to the lender for satisfaction of the debt if it is not paid by such entity. If any mortgages
or other secured debt contain cross-collateralization or cross-default provisions, a default on a single property could affect multiple
properties. If any of our properties are foreclosed upon due to a default, our ability to pay cash distributions to our stockholders will be
adversely affected, which could result in losing our REIT status and would result in a decrease in the value of your investment.
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We have a substantial amount of indebtedness, which may limit our financial and operating activities and may adversely affect our
ability to incur additional debt to fund future needs.
As of December 31, 2018, there was $845.7 million of mortgage debt outstanding related to our Portfolio.
Payments of principal and interest on borrowings may leave us with insufficient cash resources to operate our properties, fully
implement our capital expenditure, acquisition and development activities, or pay the dividends necessary to maintain our REIT
qualification. Our level of debt and the limitations imposed on us by our debt agreements could have significant adverse
consequences, including the following:
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require us to dedicate a substantial portion of cash flow from operations to the payment of principal, and interest on,
indebtedness, thereby reducing the funds available for other purposes;
make it more difficult for us to borrow additional funds as needed or on favorable terms, which could, among other things,
adversely affect our ability to meet operational needs;
force us to dispose of one or more of our properties, possibly on unfavorable terms (including the possible application of
the 100% tax on income from prohibited transactions, discussed below in “—Risks Related to Our Structure”) or in
violation of certain covenants to which we may be subject;
subject us to increased sensitivity to interest rate increases;
make us more vulnerable to economic downturns, adverse industry conditions or catastrophic external events;
limit our ability to withstand competitive pressures;
limit our ability to refinance our indebtedness at maturity or the refinancing terms may be less favorable than the terms of
our original indebtedness;
reduce our flexibility in planning for or responding to changing business, industry and economic conditions; and/or
place us at a competitive disadvantage to competitors that have relatively less debt than we have.
If any one of these events were to occur, our financial condition, results of operations, cash flow and trading price of our
common stock could be adversely affected. Furthermore, foreclosures could create taxable income without accompanying cash
proceeds, which could hinder our ability to meet the REIT distribution requirements imposed by the Code.
We may be unable to refinance current or future indebtedness on favorable terms, if at all.
We may not be able to refinance existing debt on terms as favorable as the terms of existing indebtedness, or at all, including as
a result of increases in interest rates or a decline in the value of our Portfolio or portions thereof. If principal payments due at maturity
cannot be refinanced, extended or paid with proceeds of other capital transactions, such as new equity capital, our operating cash flow
will not be sufficient in all years to repay all maturing debt. As a result, certain of our other debt may default, we may be forced to
postpone capital expenditures necessary for the maintenance of our properties, we may have to dispose of one or more properties on
terms that would otherwise be unacceptable to us or we may be forced to allow the mortgage holder to foreclose on a property.
Foreclosure on mortgaged properties or an inability to refinance existing indebtedness would likely have a negative impact on our
financial condition and results of operations and could adversely affect our ability to make distributions to our stockholders.
Our debt agreements include restrictive covenants, which could limit our flexibility and our ability to make distributions.
Our debt agreements, including our lines of credit, contain customary negative covenants that, among other things, limit our
ability, without the prior consent of the lender, to further mortgage the property, to reduce or change insurance coverage or to engage
in material asset sales, mergers, consolidations and acquisitions. Our debt agreements require certain mandatory prepayments upon
disposition of underlying collateral. Early repayments of certain debt are subject to prepayment penalties. Failure to comply with these
covenants could cause a default under the agreements and result in a requirement to repay the indebtedness prior to its maturity, which
could have an adverse effect on our cash flow and ability to make distributions to our stockholders. In addition, loan documents may
limit our ability to replace a property’s property manager or terminate certain operating or lease agreements related to a property.
These or other limitations would decrease our operating flexibility and our ability to achieve our operating objectives.
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If we are required to make payments under any “bad boy” carve out guarantees that we have provided in connection with certain
mortgages and related loans, our business and financial results could be materially adversely affected.
In obtaining certain non-recourse loans, we have provided our lenders with standard carve out guarantees. These guarantees are
only applicable if and when the borrower directly, or indirectly through an agreement with an affiliate, joint venture partner or other
third party, voluntarily files a bankruptcy or similar liquidation or reorganization action or takes other actions that are fraudulent or
improper (commonly referred to as “bad boy” guarantees). Although we believe that “bad boy” carve out guarantees are not
guarantees of payment in the event of foreclosure or other actions of the foreclosing lender that are beyond the borrower’s control,
some lenders in the real estate industry have recently sought to make claims for payment under such guarantees. In the event such a
claim were made against us under a “bad boy” carve out guarantee, following foreclosure on mortgages or related loans, and such
claim were successful, our business and financial results could be materially adversely affected.
Derivatives and hedging activity could adversely affect cash flow.
In the normal course of business, we use derivatives to manage our exposure to interest rate volatility on debt instruments,
including hedging for future debt issuances. At other times, we may utilize derivatives to increase our exposure to floating interest
rates. However, these hedging arrangements may not have the desired beneficial impact. Hedging arrangements, which can include a
number of counterparties, may expose us to additional risks, including failure of any of our counterparties to perform under these
contracts, and may involve extensive costs, such as transaction fees or, if we terminate them, breakage costs. No strategy can
completely insulate us from the risks associated with interest rate fluctuations.
Risks Related to Our Structure
The relative lack of experience of our Adviser and property manager in operating under the constraints imposed on us as a REIT
may hinder the achievement of our investment objectives.
Our ability to achieve our investment objectives will depend on our ability to manage and grow our business. This will depend, in
turn, on our Adviser’s ability to identify, invest in and monitor properties that meet our investment criteria. The achievement of our
investment objectives on a cost-effective basis will depend upon our Adviser’s execution of our investment process, its ability to provide
competent, attentive and efficient services to us and our access to debt and/or equity financing on acceptable terms. Our Adviser has
substantial responsibilities under the Advisory Agreement. The personnel of our Adviser are engaged in other business activities, which
could distract them and divert their time and attention such that they can no longer dedicate a significant portion of their time to our
businesses or otherwise slow our rate of investment. Any failure to manage our business and our future growth effectively could have a
material adverse effect on our business, financial condition, results of operations and cash flows.
The Code imposes numerous constraints on the operations of REITs that do not apply to other investment vehicles managed by
Highland and its affiliates. Our qualification as a REIT depends upon our ability to meet requirements regarding our organization and
ownership, distributions of our income, the nature and diversification of our income and assets and other tests imposed by the Code.
Any failure to comply could cause us to fail to satisfy the requirements associated with maintaining REIT status. Our Adviser and
property manager have relatively limited experience operating under these constraints, which may hinder our ability to take advantage
of attractive investment opportunities and to achieve our investment objectives. As a result, we cannot assure you that our Adviser or
property manager will be able to operate our business under these constraints. If we fail to qualify as a REIT for any taxable year, we
will be subject to federal income tax on our taxable income at corporate rates. In addition, we would generally be disqualified from
treatment as a REIT for the four taxable years following the year of losing our REIT status. Losing our REIT status would reduce our
net earnings available for investment or distribution to stockholders because of the additional tax liability. In addition, distributions to
stockholders would no longer qualify for the dividends-paid deduction, and we would no longer be required to make distributions. If
this occurs, we might be required to borrow funds or liquidate some investments in order to pay the applicable tax.
We depend upon key personnel of Highland, our Adviser and its affiliates and our property manager.
We are an externally managed REIT and therefore we do not have any internal management capacity and only have accounting
employees. We also depend on BH for our property management and construction services. We depend to a significant degree on the
diligence, skill and network of business contacts of the management team and other key personnel of our Adviser and of our property
manager to achieve our investment objectives, including Messrs. Dondero, Mitts, McGraner and Goetz, all of whom may be difficult
to replace. We expect that our Adviser will evaluate, negotiate, structure, close and monitor our investments in accordance with the
terms of the Advisory Agreement.
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We also depend upon the senior professionals of our Adviser and our property manager to maintain relationships with sources of
potential investments, and we rely upon these relationships to provide us with potential investment opportunities. We cannot assure
you that these individuals will continue to provide indirect investment advice to us. If these individuals, including the members of the
management team of our Adviser, do not maintain their existing relationships with our Adviser, maintain existing relationships or
develop new relationships with other sources of investment opportunities, we may not be able to grow our investment portfolio. In
addition, individuals with whom the senior professionals of our Adviser and our property manager have relationships are not obligated
to provide us with investment opportunities. Therefore, we can offer no assurance that such relationships will generate investment
opportunities for us.
Our Adviser relies on Highland, a registered investment adviser under common control with our Adviser, to provide investment
research and operational support to our Adviser, including services in connection with research, due diligence of actual or potential
investments, the execution of investment transactions approved by our Adviser and certain back office services and administrative
services. If Highland does not provide such services to our Adviser, there can be no assurance that our Adviser would be able to find a
substitute service provider with the same experience or on the same terms as Highland.
We may not replicate the historical results achieved by other entities managed or sponsored by affiliates of our Adviser, members
of our Adviser’s management team or by Highland or its affiliates.
Our primary focus in making investments generally differs from that of existing investment funds, accounts or other investment
vehicles that are or have been managed by affiliates of our Adviser, members of our Adviser’s management team or sponsored by
Highland or its affiliates. In addition, the previously sponsored investment programs by Highland were significantly different from us
in terms of targeted assets, regulatory structure and limitations, investment strategy and objectives and investment personnel. Past
performance is not a guarantee of future results, and there can be no assurance that we will achieve comparable results of those
Highland affiliates. We also cannot assure you that we will replicate the historical results achieved by members of the management
team, and we caution you that our investment returns could be substantially lower than the returns achieved by them in prior periods.
Additionally, all or a portion of the prior results may have been achieved in particular market conditions which may never be repeated.
Our Adviser can resign on 30 days’ notice from its role as adviser, and we may not be able to find a suitable replacement within
that time, resulting in a disruption in our operations that could adversely affect our financial condition, business, and results of
operations and cash flows.
The Advisory Agreement gives our Adviser the right to resign after giving not more than 60 nor less than 30 days’ written
notice, whether we have found a replacement or not. If our Adviser resigns, we may not be able to find a new adviser or hire internal
management with similar expertise and ability to provide the same or equivalent services on acceptable terms within 30 to 60 days, or
at all. If we are unable to do so quickly, our operations are likely to experience a disruption and our financial condition, business and
results of operations, as well as our ability to pay distributions, are likely to be adversely affected. In addition, the coordination of our
internal management and investment activities is likely to suffer if we are unable to identify and reach an agreement with a single
institution or group of executives having the experience possessed by our Adviser and its affiliates. Even if we are able to retain
comparable management, the integration of such management and its lack of familiarity with our investment objectives may result in
additional costs and time delays that may adversely affect our business, financial condition, results of operations and cash flows.
You will have limited control over changes in our policies and operations, which increases the uncertainty and risks you face as a
stockholder.
Our Board determines our major policies, including our policies regarding financing, growth, debt capitalization, REIT
qualification and distributions. Our Board may amend or revise these and other policies without your vote. Our Board’s broad discretion
in setting policies and your inability to exert control over those policies increases the uncertainty and risks you face as a stockholder.
We may change our targeted investments without stockholder consent.
We expect our portfolio of investments in commercial real estate to consist primarily of multifamily properties. Though this is
our current target portfolio, we may make adjustments to our target portfolio based on real estate market conditions and investment
opportunities, and we may change our targeted investments and investment guidelines at any time without the consent of our
stockholders. Any such change could result in us making investments that are different from, and possibly riskier than, the investments
described in this annual report. These policies may change over time. A change in our targeted investments or investment guidelines,
which may occur without notice to you or without your consent, may increase our exposure to interest rate risk, default risk and real
estate market fluctuations, all of which could adversely affect the value of our common stock and our ability to make distributions to
you. We intend to disclose any changes in our investment policies in our next required periodic report, if any.
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We pay substantial fees and expenses to our Adviser and its affiliates and to our property manager, which payments increase the
risk that you will not earn a profit on your investment.
Pursuant to the Advisory Agreement, we pay significant fees to our Adviser and its affiliates. Those fees include advisory and
administrative fees and obligations to reimburse our Adviser and its affiliates for expenses they incur in connection with providing
services to us, including certain personnel services.
Additionally, pursuant to the management agreements we have entered into with BH, we pay significant fees to BH. These fees
include property management fees, construction management and other customary property manager fees.
If we internalize our management functions, the percentage of our outstanding common stock owned by our other stockholders
could be reduced, and we could incur other significant costs associated with being self-managed.
In the future, our Board may consider internalizing the functions performed for us by our Adviser by, among other methods,
acquiring our Adviser’s assets. The method by which we could internalize these functions could take many forms. There is no
assurance that internalizing our management functions will be beneficial to us and our stockholders. An acquisition of our Adviser
could result in a dilution of your interests as a stockholder and could reduce earnings per share and FFO, Core FFO and AFFO per
share. Additionally, we may not realize the perceived benefits, we may not be able to properly integrate a new staff of managers and
employees or we may not be able to effectively replicate the services provided previously by our Adviser, property manager or their
affiliates. Internalization transactions, including without limitation, transactions involving the acquisition of affiliated advisers or
property managers have also, in some cases, been the subject of litigation. Even if these claims are without merit, we could be forced
to spend significant amounts of money defending claims that would reduce the amount of funds available for us to invest in properties
or other investments and to pay distributions. All of these factors could have a material adverse effect on our results of operations,
financial condition and ability to pay distributions.
There are significant potential conflicts of interest that could affect our investment returns.
As a result of our arrangements with Highland and our Adviser, there may be times when Highland, our Adviser or their
affiliates have interests that differ from those of our stockholders, giving rise to a conflict of interest.
Our directors and management team serve or may serve as officers, directors or principals of entities that operate in the same or
a related line of business as we do, or of investment funds managed by our Adviser or its affiliates. Similarly, our Adviser or its
affiliates may have other clients with similar, different or competing investment objectives, including NexPoint Real Estate Advisors
IV, L.P. In serving in these multiple capacities, they may have obligations to other clients or investors in those entities, the fulfillment
of which may not be in the best interest of us or our stockholders. For example, the management team of our Adviser has, and will
continue to have, management responsibilities for other investment funds, accounts or other investment vehicles managed or
sponsored by our Adviser or its affiliates. Our investment objectives may overlap with the investment objectives of such affiliated
investment funds, accounts or other investment vehicles. As a result, those individuals may face conflicts in the allocation of
investment opportunities among us and other investment funds or accounts advised by or affiliated with our Adviser. Our Adviser will
seek to allocate investment opportunities among eligible accounts in a manner consistent with its allocation policy. However, we can
offer no assurance that such opportunities will be allocated to us fairly or equitably in the short-term or over time.
Additionally, under the Advisory Agreement, our Adviser does not assume any responsibility to us other than to render the
services called for under that agreement, and it will not be responsible for any action of our Board in following or declining to follow
our Adviser’s advice or recommendations. In addition, we have agreed to indemnify our Adviser and each of its officers, directors,
members, managers and employees from and against any claims or liabilities, including reasonable legal fees and other expenses
reasonably incurred, arising out of or in connection with our business and operations or any action taken or omitted on our behalf
pursuant to authority granted by the Advisory Agreement, except where attributable to gross negligence, willful misconduct, bad faith
or reckless disregard of such person’s duties under the Advisory Agreement. These protections may lead our Adviser to act in a riskier
manner when acting on our behalf than it would when acting for its own account.
Our Adviser faces conflicts of interest relating to the fee structure under our Advisory Agreement, which could result in actions
that are not necessarily in the long-term best interest of our stockholders.
Under our Advisory Agreement, our Adviser or its affiliates is entitled to fees that are structured in a manner intended to provide
incentives to our Adviser to perform in our best interest and in the best interest of our stockholders. However, because our Adviser is
entitled to receive substantial compensation regardless of performance, our Adviser’s interests are not wholly aligned with those of
our stockholders. In that regard, our Adviser could be motivated to recommend riskier or more speculative investments that would
entitle our Adviser to the highest fees. For example, because advisory and administrative fees payable to our Adviser are based on our
total real estate assets, including any form of investment leverage, our Adviser may have an incentive to incur a high level of leverage
or to acquire properties on less than favorable terms in order to increase the total amount of real estate assets under management. In
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addition, our Adviser’s ability to receive higher fees and reimbursements depends on our continued investment in real properties.
Therefore, the interest of our Adviser and its affiliates in receiving fees may conflict with the interest of our stockholders in earning
income on their investment in our common stock.
Our Adviser, Sponsor and their officers and employees face competing demands relating to their time, and this may cause our
operating results to suffer.
Our Adviser, our Sponsor and their officers and employees and their respective affiliates are key personnel, general partners,
sponsors, managers, owners and advisers of other real estate investment programs, including Highland-sponsored investment products,
some of which have investment objectives and legal and financial obligations similar to ours and may have other business interests as
well. Because these persons have competing demands on their time and resources, they may have conflicts of interest in allocating
their time between our business and these other activities. If this occurs, the returns on our investments may suffer.
We may compete with other entities affiliated with our Sponsor and property manager for tenants.
Neither our Sponsor and its affiliates nor BH and its affiliates is prohibited from engaging, directly or indirectly, in any other
business or from possessing interests in any other business venture, including ventures involved in the acquisition, development,
ownership, management, leasing or sale of real estate, including properties in the vicinity of the properties in our Portfolio. Our
Sponsor and/or its affiliates and BH and its affiliates may own and/or manage properties in the same geographical areas in which we
currently own and expect to acquire real estate assets. Therefore, our properties may compete for tenants with other properties owned
and/or managed by our Sponsor and its affiliates and BH and its affiliates. Our Sponsor and BH may face conflicts of interest when
evaluating tenant opportunities for our properties and other properties owned and/or managed by our Sponsor and its affiliates and BH
and its affiliates, and these conflicts of interest may have a negative impact on our ability to attract and retain tenants.
Our failure to qualify as a REIT for federal income tax purposes would reduce the amount of income we have available for
distribution and limit our ability to make distributions to our stockholders.
Our qualification as a REIT depends upon our ability to meet requirements regarding our organization and ownership,
distributions of our income, the nature and diversification of our income and assets and other tests imposed by the Code. The REIT
qualification requirements are extremely complex and interpretation of the U.S. federal income tax laws governing qualification as a
REIT is limited. Furthermore, future legislative, judicial or administrative changes to the federal income tax laws could be applied
retroactively, which could result in our disqualification as a REIT. We believe we have been and are organized and qualifiy as a REIT,
and we intend to operate in a manner that will permit us to continue to qualify as a REIT. However, we cannot assure you that we have
qualified as a REIT, or that we will remain qualified as a REIT in the future.
If we were to fail to qualify as a REIT for any taxable year, we would be subject to federal income tax on our taxable income at
regular corporate rates, and dividends paid to our stockholders would not be deductible by us in computing our taxable income. Any
resulting corporate tax liability could be substantial and would reduce the amount of cash available for distribution to our
stockholders, which in turn could have an adverse impact on the value of shares of our common stock. Unless we were entitled to
relief under certain Code provisions, we also would be disqualified from taxation as a REIT and would not be allowed to re-elect
REIT status for the four taxable years following the year in which we failed to qualify as a REIT.
The rule against re-electing REIT status following a loss of such status would also apply to us if NREO failed to qualify as a
REIT for its taxable years ending on or before December 31, 2015, because we are treated as a successor to NREO for U.S. federal
income tax purposes. Although NREO has represented to us that it has no knowledge of any fact or circumstance that would cause us
to fail to qualify as a REIT, and covenanted in the agreement between us and our Adviser to use its reasonable best efforts to maintain
its REIT status for each of NREO’s taxable years ending on or before December 31, 2015, no assurance can be given that such
representation and covenant would prevent us from failing to qualify as a REIT. Although, in the event of a breach, we may be able to
seek damages from NHF and NREO, there can be no assurance that such damages, if any, would appropriately compensate us.
If our operating partnership failed to qualify as a partnership or is not otherwise disregarded for U.S. federal income tax purposes,
we would cease to qualify as a REIT.
Our OP intends to qualify as a partnership for federal income tax purposes, and intends to take that position for all income tax
reporting purposes. If classified as a partnership, our OP generally will not be a taxable entity and will not incur federal income tax
liability. However, our OP would be treated as a corporation for federal income tax purposes if it was a “publicly traded partnership,”
unless at least 90% of its income was qualifying income as defined in the Code. A “publicly traded partnership” is a partnership whose
partnership interests are traded on an established securities market or are readily tradable on a secondary market (or the substantial
equivalent thereof). Although our OP’s partnership units are not traded on an established securities market, because of the redemption
rights of its outside limited partner, the OP’s units held by such limited partner could be viewed as readily tradable on a secondary
market (or the substantial equivalent thereof), and our OP may not qualify for one of the “safe harbors” under the applicable tax
regulations. Qualifying income for the 90% test generally includes passive income, such as real property rents, dividends and interest.
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The income requirements applicable to REITs and the definition of qualifying income for purposes of this 90% test are similar in most
respects. Our OP may not meet this qualifying income test. If our OP were to be taxed as a corporation, it would incur substantial tax
liabilities, and we would then fail to qualify as a REIT for federal income tax purposes, unless we qualified for relief under certain
statutory savings provisions, and our ability to raise additional capital and pay distributions to our stockholders would be impaired.
Complying with REIT requirements may force us to liquidate otherwise attractive investments.
To qualify as a REIT, we must ensure that at the end of each calendar quarter, at least 75% of the value of our assets consists of
cash, cash items, government securities and qualified REIT real estate assets, including certain mortgage loans and mortgage-backed
securities. The remainder of our investment in securities (other than government securities and qualified real estate assets) generally
cannot include more than 10% of the outstanding voting securities of any one issuer or more than 10% of the total value of the
outstanding securities of any one issuer. In addition, in general, no more than 5% of the value of our assets (other than government
securities and qualified real estate assets) can consist of the securities of any one issuer, and no more than 20% of the value of our total
assets can be represented by securities of one or more TRSs. If we fail to comply with these requirements at the end of any calendar
quarter, we must correct the failure within 30 days after the end of the calendar quarter or qualify for certain statutory relief provisions
to avoid losing our REIT qualification and suffering adverse tax consequences. As a result, we may be required to liquidate otherwise
attractive investments from our Portfolio. These actions could have the effect of reducing our income and amounts available for
distribution to our stockholders.
Complying with REIT requirements may limit our ability to hedge our liabilities effectively and may cause us to incur tax
liabilities.
The REIT provisions of the Code may limit our ability to hedge our liabilities. Any income from a hedging transaction we enter
into to manage risk of interest rate changes, price changes or currency fluctuations with respect to borrowings made or to be made to
acquire or carry real estate assets, if properly identified under applicable Treasury Regulations, does not constitute “gross income” for
purposes of the 75% or 95% gross income tests. For taxable years beginning after December 31, 2015, certain income from hedging
transactions entered into to hedge existing hedging positions after any portion of the hedged indebtedness or property is extinguished
or disposed of, will not be included in income for purposes of the 75% and 95% gross income tests. To the extent that we enter into
other types of hedging transactions, the income from those transactions will likely be treated as non-qualifying income for purposes of
both of the gross income tests. As a result of these rules, we may need to limit our use of advantageous hedging techniques or
implement those hedges through a TRS. This could increase the cost of our hedging activities because our TRSs would be subject to
tax on gains or expose us to greater risks associated with changes in interest rates than we would otherwise want to bear. In addition,
losses in a TRS generally will not provide any tax benefit, except for being carried forward against future taxable income of such TRS.
Despite our qualification as a REIT for federal income tax purposes, we may be subject to other tax liabilities that reduce our cash
flow and our ability to make distributions to you.
Despite our qualification as a REIT for federal income tax purposes, we may be subject to some federal, state and local taxes on
our income or property. For example, net income from a “prohibited transaction” will be subject to a 100% tax. We may not be able to
make sufficient distributions to avoid excise taxes applicable to REITs. We may also decide to retain income we earn from the sale or
other disposition of our real estate assets and pay income tax directly on such income. We may also be subject to state and local taxes
on our income or property, either directly or at the level of the companies through which we indirectly own our assets. In addition, our
TRS or any TRS we form will be subject to federal income tax and applicable state and local taxes on their net income. Any federal or
state taxes we pay will reduce our cash available for distribution to you.
Our ownership of interests in TRSs raises certain tax risks.
A TRS is a corporation other than a REIT in which a REIT directly or indirectly holds stock, and that has made a joint election
with such REIT to be treated as a TRS. A TRS also includes any corporation other than a REIT with respect to which a TRS owns
securities possessing more than 35% of the total voting power or value of the outstanding securities of such corporation. Other than
some activities relating to lodging and health care facilities, a TRS may generally engage in any business, including the provision of
customary or non-customary services to tenants of its parent REIT. A TRS is subject to income tax as a regular C corporation. We
currently own interests in a TRS and may acquire securities in additional TRSs in the future.
We will be required to pay a 100% tax on any “redetermined rents,” “redetermined deductions,” “excess interest” or
“redetermined TRS service income.” In general, redetermined rents are rents from real property that are overstated as a result of
services furnished to any of our tenants by a TRS of ours. Redetermined deductions and excess interest generally represent amounts
that are deducted by a TRS of ours for amounts paid to us that are in excess of the amounts that would have been deducted based on
arm’s length negotiations. Redetermined TRS service income generally represents amounts by which the gross income of a TRS
attributable to its services for or on behalf of us (other than to a tenant of ours) would be increased based on arm’s length negotiations.
Our TRS is and any TRS we acquire in the future will be subject to corporate income tax at the federal, state and local levels,
(including on the gain realized from the sale of property held by it, as well as on income earned while such property is operated by the
TRS). This tax obligation, if material, would diminish the amount of the proceeds from the sale or operation of such property, or other
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income earned through the TRS that would be distributable to our stockholders. Federal, state and local corporate income tax rates
may be increased in the future, and any such increase would reduce the amount of the net proceeds available for distribution by us to
our stockholders from the sale of property or other income earned through a TRS after the effective date of any increase in such tax
rates. We do not anticipate material income tax obligations in connection with our ownership of interests in TRSs.
As a REIT, the value of non-mortgage securities we may hold in our TRSs generally may not exceed 20% of the total value of
our assets at the end of any calendar quarter. If the IRS were to determine that the value of our interests in all of our TRSs exceeded
this limit at the end of any calendar quarter, then we would fail to qualify as a REIT. If we determine it to be in our best interest to
own a substantial number of our properties through one or more TRSs, then it is possible that the IRS may conclude that the value of
our interests in our TRSs exceeds 20% of the value of our total assets at the end of any calendar quarter and therefore cause us to fail
to qualify as a REIT. Additionally, as a REIT, no more than 25% of our gross income with respect to any year may, in general, be
from sources other than certain real estate-related assets. Dividends paid to us from a TRS are typically considered to be non-real
estate income. Therefore, we may fail to qualify as a REIT if dividends from all of our TRSs, when aggregated with all other non-real
estate income with respect to any one year, are more than 25% of our gross income with respect to such year.
The sale of certain properties could result in significant tax liabilities unless we are able to defer the taxable gain through 1031
Exchanges.
In general, we structure asset sales for possible inclusion in 1031 Exchanges. The ability to complete a 1031 Exchange depends
on many factors, including, among others, identifying and acquiring suitable replacement property within limited time periods, and the
ownership structure of the properties being sold and acquired. Therefore, we are not always able to sell an asset as part of a 1031
Exchange. When successful, a 1031 Exchange enables us to defer the taxable gain on the asset sold. If we cannot defer the taxable
gain resulting from the sales of certain properties, our business, financial condition, results of operations and cash flow, the market
price per share of our common stock and our ability to satisfy our debt service obligations and make distributions to our stockholders
could be materially and adversely affected.
Certain of our business activities are potentially subject to the prohibited transaction tax, which could reduce the return on your
investment.
For so long as we qualify as a REIT, our ability to dispose of property during the first few years following its acquisition may be
restricted to a substantial extent as a result of our REIT qualification. Under applicable provisions of the Code regarding prohibited
transactions by REITs, while we qualify as a REIT, we will be subject to a 100% penalty tax on any gain recognized on the sale or
other disposition of any property (other than foreclosure property) that we own or hold an interest in, directly or indirectly through any
subsidiary entity, including our operating partnership, but generally excluding TRSs, that is deemed to be inventory or property held
primarily for sale to customers in the ordinary course of a trade or business. Whether property is inventory or otherwise held primarily
for sale to customers in the ordinary course of a trade or business depends on the particular facts and circumstances surrounding each
property. During such time as we qualify as a REIT, we intend to avoid the 100% prohibited transaction tax by (1) conducting
activities that may otherwise be considered prohibited transactions through a TRS (but such TRS will incur corporate rate income
taxes with respect to any income or gain recognized by it), (2) conducting our operations in such a manner so that no sale or other
disposition of an asset we own or hold an interest in, directly or through any subsidiary, will be treated as a prohibited transaction, or
(3) structuring certain dispositions of our properties to comply with the requirements of the prohibited transaction safe harbor
available under the Code for properties that, among other requirements, have been held for at least two years. No assurance can be
given that any particular property that we own or hold an interest in, directly or through any subsidiary entity, including our operating
partnership, but generally excluding TRSs, will not be treated as inventory or property held primarily for sale to customers in the
ordinary course of a trade or business.
To continue qualifying as a REIT, we must meet annual distribution requirements, which may force us to forgo otherwise
attractive opportunities or borrow funds during unfavorable market conditions. This could delay or hinder our ability to meet our
investment objectives and reduce your overall return.
In order to qualify as a REIT, we must distribute annually to our stockholders at least 90% of our REIT taxable income (which
does not equal net income as calculated in accordance with GAAP), determined without regard to the deduction for dividends paid and
excluding net capital gain. We will be subject to U.S. federal income tax on our undistributed REIT taxable income and net capital
gain and to a 4% nondeductible excise tax on any amount by which distributions we pay with respect to any calendar year are less than
the sum of (1) 85% of our ordinary income, (2) 95% of our capital gain net income and (3) 100% of our undistributed income from
prior years. These requirements could cause us to distribute amounts that otherwise would be spent on investments in real estate assets
and it is possible that we might be required to borrow funds, possibly at unfavorable rates, or sell assets to fund these distributions. It
is possible that we might not always be able to make distributions sufficient to meet the annual distribution requirements and to avoid
U.S. federal income and excise taxes on our earnings while we qualify as a REIT.
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Dividends payable by REITs generally do not qualify for the reduced tax rates available for some dividends.
Currently, the maximum tax rate applicable to qualified dividend income payable to U.S. stockholders that are individuals, trusts
and estates is 20%. Dividends payable by REITs, however, generally are not eligible for this reduced rate. Distributions from REITs
that are treated as dividends but are not designated as qualified dividends or capital gain dividends are treated as ordinary income.
Under recently passed tax legislation commonly referred to as the Tax Cuts and Jobs Act (the “TCJA”), the rate brackets for non-
corporate taxpayers’ ordinary income are adjusted, the top tax rate is reduced from 39.6% to 37%, and ordinary REIT dividends are
taxed at even lower effective rates. Under the TCJA, for taxable years beginning after December 31, 2017 and before January 1, 2026,
distributions from REITs that are treated as dividends but are not designated as qualified dividends or capital gain dividends are taxed
as ordinary income after deducting 20% of the amount of the dividend in the case of non-corporate stockholders. At the maximum
ordinary income tax rate of 37% applicable for taxable years beginning after December 31, 2017 and before January 1, 2026, the
maximum tax rate on ordinary REIT dividends for non-corporate stockholders is 29.6%. Although this does not adversely affect the
taxation of REITs or dividends payable by REITs, the more favorable rates applicable to regular corporate qualified dividends could
cause investors who are individuals, trusts and estates to perceive investments in REITs to be relatively less attractive than
investments in the stocks of non-REIT corporations that pay dividends, which could adversely affect the value of the shares of REITs,
including our common stock. In addition, certain U.S. stockholders may be subject to a 3.8% Medicare tax on dividends payable by
REITs. Tax rates could be changed in future legislation.
The share ownership restrictions of the Code for REITs and the 6.2% share ownership limit in our charter may inhibit market
activity in shares of our stock and restrict our business combination opportunities.
In order to qualify as a REIT, five or fewer individuals, as defined in the Code, may not own, actually or constructively, more
than 50% in value of our issued and outstanding shares of stock at any time during the last half of each taxable year, other than the
first year for which a REIT election is made. Attribution rules in the Code determine if any individual or entity actually or
constructively owns shares of our common stock under this requirement. Additionally, at least 100 persons must beneficially own
shares of our common stock during at least 335 days of a taxable year for each taxable year, other than the first year for which a REIT
election is made. To help insure that we meet these tests, among other purposes, our charter restricts the acquisition and ownership of
shares of our common stock.
Our charter, with certain exceptions, authorizes our directors to take such actions as are necessary and desirable to preserve our
qualification as a REIT while we so qualify. Unless exempted by our Board (prospectively or retroactively), for so long as we qualify
as a REIT, our charter prohibits, among other limitations on ownership and transfer of shares of our stock, any person from
beneficially or constructively owning (applying certain attribution rules under the Code) more than 6.2% in value of the aggregate of
the outstanding shares of our capital stock and more than 6.2% (in value or in number of shares, whichever is more restrictive) of the
outstanding shares of our common stock. Our Board may not grant an exemption from these restrictions to any proposed transferee
whose ownership in excess of the 6.2% ownership limit would result in our failing to qualify as a REIT. Our Board granted a waiver
from the ownership limits for Highland, and may grant additional waivers in the future. These waivers will be subject to certain initial
and ongoing conditions designed to protect our status as a REIT. These restrictions on transferability and ownership will not apply,
however, if our Board determines that it is no longer in our best interest to qualify as a REIT or that compliance with the restrictions is
no longer required in order for us to so qualify as a REIT.
These ownership limits could delay or prevent a transaction or a change in control that might involve a premium price for our
common stock or otherwise be in the best interest of the stockholders.
The ability of the Board to revoke our REIT qualification without stockholder approval may cause adverse consequences to our
stockholders.
Our charter provides that our Board may revoke or otherwise terminate our REIT election, without the approval of our
stockholders, if it determines that it is no longer in our best interest to continue to qualify as a REIT. If we cease to be a REIT, we will
not be allowed a deduction for dividends paid to stockholders in computing our taxable income and will be subject to U.S. federal
income tax at regular corporate rates and state and local taxes, which may have adverse consequences on our total return to our
stockholders.
Legislative or regulatory tax changes or other actions affecting REITs could have a negative effect on us, including our ability to
qualify as a REIT or the federal income tax consequences of such qualification, and could adversely affect you.
On December 22, 2017, the TCJA was signed into law. The TCJA makes significant changes to the U.S. federal income tax
rules for taxation of individuals and corporations, generally effective for taxable years beginning after December 31, 2017. In addition
to reducing corporate and individual tax rates, the TCJA eliminates or restricts various deductions. Most of the changes applicable to
individuals are temporary and apply only to taxable years beginning after December 31, 2017 and before January 1, 2026. The TCJA
makes numerous large and small changes to the tax rules that do not affect REITs directly but may affect our stockholders and may
indirectly affect us.
34
While the changes in the TCJA generally appear to be favorable with respect to REITs, the extensive changes to non-REIT
provisions in the Code may have unanticipated effects on us or our stockholders. Moreover, Congressional leaders have recognized
that the process of adopting extensive tax legislation in a short amount of time without hearings and substantial time for review is
likely to have led to drafting errors, issues needing clarification and unintended consequences that will have to be revisited in
subsequent tax legislation. At this point, it is not clear when Congress will address these issues or when the IRS will issue
administrative guidance on the changes made in the TCJA.
At any time, the federal income tax laws governing REITs or the administrative interpretations of those laws or regulations may
be amended. The rules dealing with federal income taxation are constantly under review by persons involved in the legislative process
and by the IRS and the U.S. Department of the Treasury. Therefore, changes in tax laws, regulations or administrative interpretations
or any amendments thereto could diminish the value of shares of our common stock or the value or the resale potential of our
properties. We cannot predict how changes in the tax laws might affect our investors or us.
We urge you to consult with your own tax advisor with respect to the status of the TCJA and any other legislative, regulatory or
administrative developments and proposals and their potential effect on an investment in shares of our common stock.
U.S. Federal Income Tax Consequence of the TCJA--Legislative or Other Actions Affecting REITs
Income Tax Rates. Under the TCJA, the corporate income tax rate is reduced from a maximum marginal rate of 35% to a flat
21% rate, a 40% reduction. The reduced corporate income tax rate, which is effective for taxable years beginning after December 31,
2017, reduces some of the tax advantages that REITs have had relative to C corporations, however, this reduced corporate income tax
rate applies to income earned by our TRS. The rate of U.S. federal withholding tax on distributions made to non-U.S. shareholders by
a REIT that are attributable to gains from the sale or exchange of U.S. real property interests was also reduced from 35% to 21%. The
TCJA also permanently eliminates the corporate alternative minimum tax.
The TJCA also reduces the highest marginal income tax rate applicable to individuals to 37% (excluding the 3.8% Medicare tax
on net investment income), a 6.6% reduction. Individuals continue to pay a maximum 20% rate on long-term capital gains and
qualified dividend income. However, the TCJA also allows non-corporate U.S. shareholders to deduct 20% of their dividends from
REITs, excluding capital gain dividends and qualified dividend income (which continue to be subject to the maximum 20% rate). As a
result, the qualified REIT dividends received by an individual or other non-corporate U.S. shareholder in a REIT are subject to a
maximum effective federal income tax rate of 29.6%, compared with the previously effective rate of 39.6% (plus, in each case, the
3.8% Medicare tax on net investment income). The income tax rate changes applicable to individuals apply for taxable years
beginning after December 31, 2017 and before January 1, 2026.
Net Operating Loss Modifications. Net operating loss (“NOL”) provisions are modified by the TCJA. The TCJA limits the NOL
deduction to 80% of taxable income (before the deduction). It also generally eliminates NOL carrybacks for individuals and non-REIT
corporations (NOL carrybacks did not apply to REITs under prior law), but allows indefinite NOL carryforwards. The new NOL rules
apply to losses arising in taxable years beginning in 2018.
Depreciation of Real Property. The TCJA reduces the recovery period under the modified accelerated cost recovery system
(“MACRS”) for qualified improvement property to 15 years. Qualified improvement property is any improvement to the interior
portion of a building which is non-residential real property if such improvement is placed in service after the date the building was
first placed in service. The TCJA made no change to the MACRS recovery period for non-residential real property (39 years) and
residential real property (27.5 years). Under the TCJA, the alternative depreciation system lives are as follows: 30 years for residential
real property (previously 40 years), 40 years for non-residential property (no change), and 20 years for qualified improvement
property (previously 40 years).
Like-Kind Exchanges. The TCJA modifies the like-kind exchange provisions by restricting the preferential tax treatment
applicable to like-kind exchanges to exchanges of real property not held primarily for sale. Previously, the like-kind exchange
provisions also applied to personal property not held for sale. Accordingly, any personal property included in a real property exchange
no longer qualifies for deferred treatment under these provisions. This change applies to exchanges completed after December 31,
2017. We believe that relatively little gain from dispositions of our real estate properties would be attributable to personal property
and thus this change will not have material impact on us.
Other Provisions. The TCJA makes other significant changes to the Code. These changes include provisions limiting the ability
to offset dividend and interest income with partnership or S corporation net active business losses. These provisions are effective
beginning in 2018, but without further legislation, will sunset after 2025.
35
Foreign investors may be subject to U.S. federal withholding tax and may be subject to U.S. federal income tax on distributions
received from us and upon disposition of shares of our common stock.
Subject to certain exceptions, distributions received from us will be treated as dividends of ordinary income to the extent of our
current or accumulated earnings and profits. Such dividends paid to a non-U.S. stockholder ordinarily will be subject to U.S.
withholding tax at a 30% rate, or such lower rate as may be specified by an applicable income tax treaty, unless the distributions are
treated as “effectively connected” with the conduct by the non-U.S. stockholder of a U.S. trade or business. Pursuant to the Foreign
Investment in Real Property Tax Act of 1980 (“FIRPTA”), capital gain distributions attributable to sales or exchanges of “U.S. real
property interests” (“USRPIs”), generally will be taxed to a non-U.S. stockholder as if such gain were effectively connected with a
U.S. trade or business. However, a capital gain dividend will not be treated as effectively connected income if (1) the distribution is
received with respect to a class of stock that is regularly traded on an established securities market located in the United States and
(2) the non-U.S. stockholder does not own more than 10% of the class of our stock at any time during the one-year period ending on
the date the distribution is received.
Gain recognized by a non-U.S. stockholder upon the sale or exchange of our common stock generally will not be subject to U.S.
federal income taxation unless such stock constitutes a USRPI under FIRPTA. Our common stock will not constitute a USRPI so long
as we are a “domestically-controlled” REIT. A REIT is “domestically controlled” if less than 50% of the REIT’s stock, by value, has
been owned directly or indirectly by persons who are not qualifying U.S. persons during a continuous five-year period ending on the
date of disposition or, if shorter, during the entire period of the REIT’s existence. We cannot assure you that we will qualify as a
“domestically controlled” REIT. If we were to fail to so qualify, gain realized by foreign investors on a sale of shares of our stock
would be subject to FIRPTA tax, unless the shares of our stock were traded on an established securities market and the foreign
investor did not at any time during a specified testing period directly or indirectly own more than 10% of the value of our outstanding
common stock.
Risks Related to the Ownership of our Common Stock
Our common stock is listed on the NYSE and broad market fluctuations could negatively affect the market price of our stock.
We have listed shares of our common stock on the NYSE under the symbol “NXRT.” The price of NXRT common stock may
fluctuate significantly. Further, the market price of our common stock may be volatile. In addition, the trading volume in our common
stock may fluctuate and cause significant price variations to occur. We cannot assure you that the market price of our common stock
will not fluctuate or decline significantly in the future. Some of the factors that could affect our stock price or result in fluctuations in
the price or trading volume of our common stock include:
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
actual or anticipated variations in our quarterly operating results;
changes in our operations or earnings estimates or publication of research reports about us or the real estate industry;
changes in market valuations of similar companies;
increases in market interest rates that lead purchasers of our shares to demand a higher yield;
adverse market reaction to any increased indebtedness we incur in the future;
additions or departures of key management personnel;
actions by institutional stockholders;
speculation in the press or investment community;
the realization of any of the other risk factors presented in this annual report;
the extent of investor interest in our securities;
the general reputation of REITs and the attractiveness of our equity securities in comparison to other equity securities,
including securities issued by other real estate-based companies;
our underlying asset value;
investor confidence in the stock and bond markets, generally;
changes in tax laws;
future equity issuances;
failure to meet income estimates;
36
•
•
failure to meet and maintain REIT qualifications; and
general market and economic conditions.
In the past, class-action litigation has often been instituted against companies following periods of volatility in the price of their
common stock. This type of litigation could result in substantial costs and divert our management’s attention and resources, which
could have an adverse effect on our financial condition, results of operations, cash flow and trading price of our common stock.
The form, timing and/or amount of dividend distributions in future periods may vary and be impacted by economic and other
considerations.
The form, timing and/or amount of dividend distributions will be declared at the discretion of our Board and will depend on
actual cash flows from operations, our financial condition, capital requirements, the annual distribution requirements under the REIT
provisions of the Code and other factors as our Board may consider relevant. Our Board may modify our dividend policy from time to
time at its discretion.
We may be unable to make distributions at expected levels, which could result in a decrease in the market price of our common
stock.
If sufficient cash is not available for distribution from our operations, we may have to fund distributions from working capital,
borrow to provide funds for such distributions, reduce the amount of such distributions, or issue stock dividends. To the extent we
borrow to fund distributions, our future interest costs would increase, thereby reducing our earnings and cash available for distribution
from what they otherwise would have been. If cash available for distribution generated by our assets is less than we expect, our
inability to make the expected distributions could result in a decrease in the market price of our common stock. In addition, if we
make stock dividends in lieu of cash distributions, it may have a dilutive effect on the holdings of our stockholders.
All distributions are made at the discretion of our Board and are based upon, among other factors, our historical and projected
results of operations, financial condition, cash flows and liquidity, maintenance of our REIT qualification and other tax considerations,
capital expenditure and other expense obligations, debt covenants, contractual prohibitions or other limitations, applicable law and
such other matters as our Board may deem relevant from time to time. We may not be able to make distributions in the future, and our
inability to make distributions, or to make distributions at expected levels, could result in a decrease in the market price of our
common stock.
Our charter permits the Board to issue stock with terms that may subordinate the rights of our common stockholders or discourage
a third party from acquiring us in a manner that could otherwise result in a premium price to our stockholders.
Our Board may classify or reclassify any unissued shares of common stock or preferred stock and establish the preferences,
conversion or other rights, voting powers, restrictions, limitations as to distributions, qualifications and terms or conditions of
redemption of any such stock. Thus, our Board could authorize the issuance of preferred stock with terms and conditions that could
have priority as to distributions and amounts payable upon liquidation over the rights of the holders of our common stock. Such
preferred stock could also have the effect of delaying, deferring or preventing a change in control of us, including an extraordinary
transaction (such as a merger, tender offer or sale of all or substantially all of our assets) that might provide a premium price to holders
of our common stock.
Future issuances of debt securities and equity securities may negatively affect the market price of shares of our common stock and,
in the case of equity securities, may be dilutive to existing stockholders and could reduce the overall value of your investment.
In the future, we may issue debt or equity securities or incur other financial obligations, including stock dividends and shares
that may be issued in exchange for common units and equity plan shares/units. Upon liquidation, holders of our debt securities and
other loans and preferred stock will receive a distribution of our available assets before common stockholders. We are not required to
offer any such additional debt or equity securities to existing stockholders on a preemptive basis. Therefore, additional common stock
issuances, directly or through convertible or exchangeable securities (including common units and convertible preferred units),
warrants or options, will dilute the holdings of our existing common stockholders and such issuances or the perception of such
issuances may reduce the market price of shares of our common stock. Any convertible preferred units would have, and any series or
class of our preferred stock would likely have, a preference on distribution payments, periodically or upon liquidation, which could
eliminate or otherwise limit our ability to make distributions to common stockholders.
37
Existing stockholders do not have preemptive rights to any shares we issue in the future. Our charter authorizes us to issue 600
million shares of capital stock, of which 500 million shares are designated as common stock and 100 million shares are designated as
preferred stock. Our Board may increase the number of authorized shares of capital stock without stockholder approval. Our Board
may elect to (1) sell additional shares in future public offerings; (2) issue equity interests in private offerings; (3) issue shares of our
common stock under a long-term incentive plan to our directors, officers and other key employees (and those of our Adviser or its
affiliates and our subsidiaries), our non-employee directors, and potentially certain non-employees who perform employee-type
functions; (4) issue shares to our Adviser, its successors or assigns, in payment of an outstanding fee obligation or as consideration in
a related-party transaction; or (5) issue shares of our common stock to sellers of properties we acquire in connection with an exchange
of OP Units. To the extent we issue additional equity interests, your percentage ownership interest in us will be diluted. Further,
depending upon the terms of such transactions, most notably the offering price per share, existing stockholders may also experience a
dilution in the book value of their investment in us.
Our rights and the rights of our stockholders to recover claims against our independent directors are limited, which could reduce
your and our recovery against them if they negligently cause us to incur losses.
Maryland law provides that a director has no liability in the capacity as a director if he or she performs his or her duties in good
faith, in a manner he or she reasonably believes to be in the company’s best interest and with the care that an ordinarily prudent person
in a like position would use under similar circumstances. As permitted by the Maryland General Corporation Law (the “MGCL”), our
charter limits the liability of our directors and officers to us and our stockholders for money damages, except for liability resulting
from:
•
•
actual receipt of an improper benefit or profit in money, property or services; or
a final judgment based upon a finding of active and deliberate dishonesty by the director or officer that was material to the
cause of action adjudicated.
In addition, our charter authorizes us, and our bylaws require us, to indemnify our directors and officers for actions taken by
them in those capacities and to pay or reimburse their reasonable expenses in advance of final disposition of a proceeding to the
maximum extent permitted by Maryland law. We have entered into indemnification agreements with our directors and executive
officers. As a result, we and our stockholders may have more limited rights against our directors and officers than might otherwise
exist under common law. Accordingly, in the event that actions taken by any of our directors or officers are immune or exculpated
from, or indemnified against, liability but which impede our performance, our stockholders’ ability to recover damages from that
director or officer will be limited.
38
Our charter and bylaws contain provisions that may delay, defer or prevent an acquisition of our common stock or a change in
control.
Our charter and bylaws contain a number of provisions, the exercise or existence of which could delay, defer or prevent a
transaction or a change in control that might involve a premium price for our stockholders or otherwise be in their best interest,
including the following:
•
•
Our Charter Contains Restrictions on the Ownership and Transfer of Our Stock. In order for us to qualify, and elect to
be taxed, as a REIT, no more than 50% of the value of outstanding shares of our stock may be owned, beneficially or
constructively, by five or fewer individuals at any time during the last half of each taxable year other than the first year for
which we elect to be taxed as a REIT. Subject to certain exceptions, our charter prohibits any stockholder from owning
beneficially or constructively more than 6.2% in value or in number of shares, whichever is more restrictive, of the
outstanding shares of our common stock, or 6.2% in value of the aggregate of the outstanding shares of all classes or
series of our stock. We refer to these restrictions collectively as the “ownership limits.” The constructive ownership rules
under the Code are complex and may cause the outstanding stock owned by a group of related individuals or entities to be
deemed to be constructively owned by one individual or entity. As a result, the acquisition of less than 6.2% of our
outstanding shares of common stock or the outstanding shares of all classes or series of our stock by an individual or
entity could cause that individual or entity or another individual or entity to own constructively in excess of the relevant
ownership limits. Our charter also prohibits any person from owning shares of our stock that would result in our being
“closely held” under Section 856(h) of the Code or otherwise cause us to fail to qualify as a REIT. Any attempt to own or
transfer shares of our common stock or of any of our other capital stock in violation of these restrictions may result in the
shares being automatically transferred to a charitable trust or may be void. These ownership limits may prevent a third
party from acquiring control of us if our Board does not grant an exemption from the ownership limits, even if our
stockholders believe the change in control is in their best interest. Our Board granted a waiver from the ownership limits
applicable to holders of our common stock to Highland and may grant additional waivers in the future. These waivers will
be subject to certain initial and ongoing conditions designed to protect our status as a REIT.
Our Board Has the Power to Cause Us to Issue Additional Shares of Our Stock without Stockholder Approval. Our
charter authorizes us to issue additional authorized but unissued shares of common or preferred stock. In addition, our
Board may, without stockholder approval, amend our charter to increase the aggregate number of shares of our common
stock or the number of shares of stock of any class or series that we have authority to issue and classify or reclassify any
unissued shares of common or preferred stock and set the preferences, rights and other terms of the classified or
reclassified shares. As a result, our Board may establish a series of shares of common or preferred stock that could delay
or prevent a transaction or a change in control that might involve a premium price for our shares of common stock or
otherwise be in the best interest of our stockholders.
Certain provisions of Maryland law may limit the ability of a third party to acquire control of us.
Certain provisions of the MGCL may have the effect of inhibiting a third party from acquiring us or of impeding a change of
control under circumstances that otherwise could provide our common stockholders with the opportunity to realize a premium over the
then-prevailing market price of such shares, including:
•
•
“business combination” provisions that, subject to limitations, prohibit certain business combinations between an
“interested stockholder” (defined generally as any person who beneficially owns 10% or more of the voting power of our
outstanding shares of voting stock or an affiliate or associate of the corporation who, at any time within the two-year
period immediately prior to the date in question, was the beneficial owner of 10% or more of the voting power of the then
outstanding stock of the corporation) or an affiliate of any interested stockholder and us for five years after the most recent
date on which the stockholder becomes an interested stockholder, and thereafter imposes two super-majority stockholder
voting requirements on these combinations; and
“control share” provisions that provide that holders of “control shares” of us (defined as voting shares of stock that, if
aggregated with all other shares of stock owned or controlled by the acquirer, would entitle the acquirer to exercise one of
three increasing ranges of voting power in electing directors) acquired in a “control share acquisition” (defined as the
direct or indirect acquisition of issued and outstanding “control shares”) have no voting rights except to the extent
approved by our stockholders by the affirmative vote of at least two-thirds of all of the votes entitled to be cast on the
matter, excluding all interested shares.
39
Pursuant to the Maryland Business Combination Act, our Board by resolution exempted from the provisions of the Maryland
Business Combination Act all business combinations (1) between our Adviser, our Sponsor or their respective affiliates and us and
(2) between any other person and us, provided that such business combination is first approved by our Board (including a majority of
our directors who are not affiliates or associates of such person). Our bylaws contain a provision exempting from the Maryland
Control Share Acquisition Act any and all acquisitions by any person of shares of our stock. There can be no assurance that these
exemptions or resolutions will not be amended or eliminated at any time in the future.
Additionally, Title 3, Subtitle 8 of the MGCL permits our Board, without stockholder approval and regardless of what is
currently provided in our charter or bylaws, to implement certain takeover defenses, such as a classified board, some of which are not
currently provided for in our charter or bylaws.
Risks Related to Our Spin-Off
Potential indemnification liabilities pursuant to the Separation and Distribution Agreement could materially adversely affect us.
The Separation and Distribution Agreement between us and NHF provided for, among other things, the principal corporate
transactions required to effect the separation, certain conditions to the Spin-Off and provisions governing the relationship between us
and NHF with respect to and resulting from the Spin-Off.
Among other things, the Separation and Distribution Agreement also provided for indemnification obligations designed to make
us financially responsible for substantially all liabilities that may exist relating to or arising out of our business. If we are required to
indemnify NHF under the circumstances set forth in the Separation and Distribution Agreement, we may be subject to substantial
liabilities.
In connection with our separation from NHF, NHF will indemnify us for certain liabilities. However, there can be no assurance
that these indemnities will be sufficient to insure us against the full amount of such liabilities, or that NHF’s ability to satisfy its
indemnification obligation will not be impaired in the future.
Pursuant to the Separation and Distribution Agreement, NHF has agreed to indemnify us for certain liabilities, including certain
tax liabilities. However, third parties could seek to hold us responsible for any of the liabilities that NHF has agreed to retain, and
there can be no assurance that NHF will be able to fully satisfy its indemnification obligations. Moreover, even if we ultimately
succeed in recovering from NHF any amounts for which we are held liable, we may be temporarily required to bear these losses while
seeking recovery from NHF.
Item 1B. Unresolved Staff Comments
None.
40
Item 2. Properties
As of December 31, 2018, our Portfolio consisted of 35 properties representing 12,555 units in seven states. The following table
provides a summary of the properties in our Portfolio as of December 31, 2018:
Properties by State
2017-2018 Same Store Properties
Texas
Arbors on Forest Ridge
Cutter's Point
Eagle Crest
Silverbrook
Belmont at Duck Creek
Heatherstone
The Ashlar
Versailles
Venue at 8651
Old Farm
Stone Creek at Old Farm
Florida
The Summit at Sabal Park
Courtney Cove
Sabal Palm at Lake Buena Vista
Cornerstone
Seasons 704 Apartments
Parc500
Georgia
Edgewater at Sandy Springs
The Preserve at Terrell Mill
Tennessee
Beechwood Terrace
Willow Grove
Woodbridge
Abbington Heights
Arizona
Madera Point
The Pointe at the Foothills
The Colonnade
North Carolina
Radbourne Lake
Timber Creek
Virginia
Southpoint Reserve at Stoney Creek (5)
Total 2017-
2018 Same Store Properties
Non-Same Store Properties
Texas
Hollister Place
Atera Apartments
Crestmont Reserve
Georgia
Rockledge Apartments
Location
Number
of Units
Date
Acquired
Purchase
Price
(in thousands)
Average Effective
Monthly Rent
Per Unit (1)
%
Occupied
(2)
Number of
Units Rehabbed (3)
Rehab
Expenditures
per Unit (4)
As of December 31, 2018
Bedford, Texas
Richardson,
Texas
Irving, Texas
Grand Prairie,
Texas
Garland, Texas
Dallas, Texas
Dallas, Texas
Dallas, Texas
Fort Worth,
Texas
Houston, Texas
Houston, Texas
Tampa, Florida
Tampa, Florida
Orlando, Florida
Orlando, Florida
West Palm
Beach, Florida
West Palm
Beach, Florida
Atlanta, Georgia
Marietta,
Georgia
Antioch,
Tennessee
Nashville,
Tennessee
Nashville,
Tennessee
Antioch,
Tennessee
Mesa, Arizona
Mesa, Arizona
Phoenix,
Arizona
Charlotte, North
Carolina
Charlotte, North
Carolina
Fredericksburg,
Virginia
210 1/31/2014 $
12,805 $
870
95.2%
190 $
3,027
196 1/31/2014
447 1/31/2014
642 1/31/2014
240 9/30/2014
152 2/26/2015
264 2/26/2015
388 2/26/2015
333 10/30/2015
734 12/29/2016
190 12/29/2016
252 8/20/2014
324 8/20/2014
400 11/5/2014
430 1/15/2015
15,845
27,325
30,400
18,525
9,450
16,235
26,165
19,250
84,721
23,332
19,050
18,950
49,500
31,550
1,109
922
835
1,030
874
859
884
875
1,176
1,173
955
895
1,255
1,007
95.4%
94.9%
94.9%
92.1%
94.7%
94.3%
96.4%
92.8%
92.9%
96.8%
94.4%
95.7%
96.5%
94.2%
165
118
449
193
157
296
446
277
—
—
184
129
200
219
4,185
2,623
3,022
3,670
4,227
3,732
3,761
4,238
—
—
4,485
4,738
646
5,411
222 4/15/2015
21,000
1,130
96.8%
134
5,885
217 7/27/2016
22,421
1,254
94.9%
106
13,936
760 7/18/2014
58,000
950
94.1%
401
7,503
752 2/6/2015
58,000
921
94.8%
407
8,600
300 7/21/2014
21,400
933
93.7%
226
4,663
244 7/21/2014
13,750
960
95.1%
136
5,337
220 7/21/2014
16,000
1,028
94.1%
95
5,231
274 8/1/2014
17,900
889
92.0%
183
4,632
256 8/5/2015
528 8/5/2015
22,525
52,275
866
859
94.5%
95.1%
143
63
3,998
1,867
415 10/11/2016
44,600
719
93.3%
74
10,674
225 9/30/2014
24,250
1,082
96.0%
267
906
352 9/30/2014
22,750
847
92.6%
72
5,664
156 12/18/2014
17,000
1,093
98.1%
55
7,240
10,123
$
814,974 $
963
94.5%
5,385 $
4,765
Houston, Texas
Dallas, Texas
Dallas, Texas
260 2/1/2017 $
380 10/25/2017
242 9/26/2018
24,500 $
59,200
24,680
984
1,232
914
93.5%
97.4%
94.6%
118 $
71
—
7,349
3,318
—
Marietta,
Georgia
708 6/30/2017
113,500
1,186
94.6%
87
11,571
41
Tennessee
Cedar Pointe
Brandywine I & II
Total Non-Same Store Properties
Antioch,
Tennessee
Nashville,
Tennessee
210 8/24/2018
26,500
1,051
95.7%
—
—
632 9/26/2018
$
2,432
79,800
328,180 $
957
1,074
93.8%
94.8%
—
276 $
—
8,467
Total
12,555
$
1,143,154 $
985
94.6%
5,661 $
4,909
(1) Average effective monthly rent per unit is equal to the average of the contractual rent for commenced leases as of December 31,
2018 minus any tenant concessions over the term of the lease, divided by the number of units under commenced leases as of
December 31, 2018.
(2) Percent occupied is calculated as the number of units occupied as of December 31, 2018, divided by the total number of units,
expressed as a percentage.
(3) Inclusive of all full and partial interior upgrades completed.
(4) Inclusive of all full and partial interior upgrades completed and leased as of December 31, 2018.
(5) Property was classified as held for sale as of December 31, 2018.
For additional information regarding our Portfolio, see Notes 3, 4 and 5 to our consolidated financial statements.
Item 3. Legal Proceedings
From time to time, we are party to legal proceedings that arise in the ordinary course of our business. Management is not aware
of any legal proceedings of which the outcome is reasonably likely to have a material adverse effect on our results of operations or
financial condition, nor are we aware of any such legal proceedings contemplated by government agencies.
Item 4. Mine Safety Disclosures
Not applicable.
42
PART II
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Stockholder Information
On February 15, 2019, we had 23,575,826 shares of common stock outstanding held by a total of approximately 1,062 record
holders. The number of record holders is based on the records of American Stock Transfer & Trust Company, LLC, who serves as our
transfer agent. The number of holders does not include individuals or entities who beneficially own shares but whose shares are held
of record by a broker or clearing agency, but does include each such broker or clearing agency as one record holder.
On March 15, 2017, we filed a registration statement on Form S-3 (the “Registration Statement”), registering an indeterminate
aggregate principal amount and number of securities of each identified class of securities therein up to a proposed aggregate offering
price of $200,000,000, which may be offered from time to time in unspecified numbers and at indeterminate prices, as may be issued
upon conversion, redemption, repurchase, exchange or exercise of any securities registered thereunder, including under any applicable
anti-dilution provisions. The Registration Statement also covers an indeterminate number of securities that may become issuable as a
result of stock splits, stock dividends or similar transactions relating to the securities registered thereunder.
On November 14, 2018, in connection with the 2018 Offering, we issued 2,702,500 shares of common stock, par value $0.01
per share, at a public offering price of $33.00 per share (before underwriters’ discounts and offering costs) for gross proceeds of
approximately $89.2 million. The common stock was offered and sold pursuant to a prospectus supplement, dated November 14,
2018, and a base prospectus, dated April 24, 2017, relating to the Registration Statement. We contributed the net proceeds from the
2018 Offering to the OP in exchange for 2,702,500 OP Units, and the OP in turn used a majority of the net proceeds to repay the $50.0
million outstanding under the $60 Million Credit Facility and the $30.0 million outstanding under the $30 Million Bridge Facility. See
Notes 6 and 8 to our consolidated financial statements for additional information.
Market Information
Our common stock trades on the NYSE under the ticker symbol “NXRT.”
43
PERFORMANCE GRAPH
On April 1, 2015, our common stock commenced trading on the NYSE. The following graph compares the index of the
cumulative total stockholder return on our common shares for the measurement period commencing March 31, 2015 and ending
December 31, 2018 with the cumulative total returns of the Russell 3000 Index, the MSCI U.S. REIT Index (^RMZ), the Standard &
Poor’s U.S. REIT Index and the National Association of Real Estate Investment Trusts (NAREIT) Equity REIT Index. The following
graph assumes an investment of $100 on the initial day of the relevant measurement period and that all dividends were reinvested.
Cumulative Total Shareholder Return Index
$300
$275
$250
$225
$200
$175
$150
$125
$100
$75
NXRT
RUSSELL 3000
MSCI US REIT (^RMZ)
S&P 500 U.S. REIT
NAREIT EQUITY REIT
44
Distribution Activity
At present, we expect to continue our policy of paying regular quarterly cash dividends and to target a payout ratio that is less
than Core FFO. However, the form, timing and/or amount of dividends will be declared at the discretion of our Board and will depend
on actual cash flows from operations, our financial condition, capital requirements, the annual distribution requirements under the
REIT provisions of the Code, any contractual limitations and other factors as our Board may consider relevant. Our Board may modify
our dividend policy from time to time.
The following table shows the regular dividends declared for each quarter during the two most recent fiscal years (in thousands,
except per share amounts):
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
Total
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
Total
2017
Dividends Declared
Dividends Declared
Per Share
4,724 $
4,724
4,712
5,342
19,502 $
2018
0.220
0.220
0.220
0.250
0.910
Dividends Declared
Dividends Declared
Per Share
5,380 $
5,316
5,315
6,590
22,601 $
0.250
0.250
0.250
0.275
1.025
$
$
$
$
During 2018, our dividends were classified as follows for federal income tax purposes:
Ordinary income
Capital gains
Section 1250 recapture capital gains
Return of capital
Total
2018
29%
—%
—%
71%
100%
Issuer Purchases of Equity Securities – Common stock
The following table provides information on our purchases of equity securities during the three months ended December 31,
2018:
Period
Beginning Balance
October 1 – October 31
November 1 – November 30
December 1 – December 31
Balance as of December 31, 2018
Total Number
of Shares Purchased
Average Price
Paid Per Share
22.64
—
—
—
22.64
737,458 $
—
—
—
737,458 $
Total Number of
Shares
Purchased as Part of
Publicly Announced
Plans or Programs
Approximate Dollar Value
of Shares that may yet be
Purchased under the
Plans or Programs (in
millions)
737,458 $
—
—
—
737,458 $
23.3
23.3
23.3
23.3
23.3
45
Item 6. Selected Financial Data
The following table summarizes selected financial data about the Company. The following selected financial data information
should be read in conjunction with Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of
Operations,” and our consolidated financial statements, including the notes thereto, included elsewhere herein. The selected financial
data presented below has been derived from our audited consolidated financial statements (in thousands, except per share amounts):
$
Balance Sheet Data
Net real estate investments (1)
Total assets
Mortgage debt, net (1)
Credit and bridge facilities, net
Total debt, net (1)
Total liabilities
Redeemable noncontrolling interests in the Operating
Partnership
Noncontrolling interests
Stockholders' equity
$
Operating Data
Total revenues
Net income (loss)
Net income (loss) attributable to common
stockholders
Earnings (loss) per weighted average common share -
basic
Earnings (loss) per weighted average common share -
diluted
Weighted average common shares outstanding - basic
Weighted average common shares outstanding -
diluted
Cash Flow Data
Cash flows provided by operating activities
$
Cash flows provided by (used in) investing activities
Cash flows provided by (used in) financing activities
Other Data
Dividends declared per common share
FFO attributable to common stockholders (3)
FFO per share - basic
FFO per share - diluted
Core FFO attributable to common stockholders (3)
Core FFO per share - basic
Core FFO per share - diluted
AFFO attributable to common stockholders (3)
AFFO per share - basic
AFFO per share - diluted
$
$
$
$
2018
2017
As of December 31,
2016
2015
2014
1,087,542 $
1,161,210
838,020
—
838,020
862,615
991,156 $
1,055,375
754,405
38,419
792,824
813,796
963,037 $
1,035,397
423,138
340,366
763,504
779,295
2,567
—
296,028
2,135
—
239,444
—
24,558
231,544
902,882 $
970,060
676,324
28,805
705,129
721,122
—
27,390
221,548
628,526
692,725
482,344
—
482,344
495,201
—
21,281
176,243
2018
For the Year Ended December 31,
2016
2015 (2)
2017
2014 (2)
146,597 $
(1,614)
144,235 $
56,359
132,848 $
25,888
117,658 $
(10,992)
43,150
(17,533)
(1,609)
53,374
21,882
(10,832)
(15,601)
(0.08)
2.53
1.03
(0.51)
(0.73)
(0.08)
21,189
2.49
21,057
1.03
21,232
(0.51)
21,294
(0.73)
21,294
21,667
21,399
21,314
21,294
21,294
41,743 $
(136,954)
95,092
37,506 $
2,324
(51,843)
33,776 $
(51,904)
10,294
34,514 $
(283,000)
251,102
10,070
(599,078)
647,262
1.025 $
0.910 $
0.838 $
0.618 $
—
32,018 $
1.51
1.48
35,081 $
1.66
1.62
40,753 $
1.92
1.88
25,051 $
1.19
1.17
30,147 $
1.43
1.41
34,772 $
1.65
1.62
31,016 $
1.46
1.46
31,485 $
1.48
1.48
33,593 $
1.58
1.58
25,639 $
1.20
1.20
28,944 $
1.36
1.36
29,933 $
1.41
1.41
3,549
0.17
0.17
11,162
0.52
0.52
11,460
0.54
0.54
Includes amounts classified as held for sale, where applicable.
(1)
(2) We began operations on March 31, 2015, as described above, and therefore we had no operating activities or earnings (loss) per
share before March 31, 2015. However, for purposes of the consolidated statements of operations and comprehensive income
(loss), we have presented basic and diluted earnings (loss), FFO, Core FFO and AFFO per share as if the operating activities of our
predecessor were those of us and assuming the shares outstanding at the date of the Spin-Off were outstanding for all periods prior
to the Spin-Off.
46
(3)
FFO, Core FFO and AFFO are non-GAAP measures. For definitions of these non-GAAP measures, as well an explanation of why
we believe these measures are useful and reconciliations to the most directly comparable GAAP financial measures, see Item 7,
“Management’s Discussion and Analysis of Financial Condition and Results of Operations” below.
47
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following is a discussion and analysis of our financial condition and our historical results of operations. The following
should be read in conjunction with our financial statements and accompanying notes. This discussion contains forward-looking
statements that involve risks and uncertainties. Our actual results could differ materially from those projected, forecasted, or expected
in these forward-looking statements as a result of various factors, including, but not limited to, those discussed below and elsewhere
in this annual report. See “Cautionary Statement Regarding Forward-Looking Statements” and “Risk Factors” in this annual report.
Our management believes the assumptions underlying the Company’s financial statements and accompanying notes are reasonable.
However, the Company’s financial statements and accompanying notes may not be an indication of our financial condition and results
of operations in the future.
Overview
As of December 31, 2018, our Portfolio consisted of 35 multifamily properties primarily located in the Southeastern and
Southwestern United States encompassing 12,555 units of apartment space that was approximately 94.6% leased with a weighted
average monthly effective rent per occupied apartment unit of $985. Substantially all of our business is conducted through the OP. We
own the Portfolio through the OP and our TRS. The OP owns approximately 99.9% of the Portfolio; our TRS owns approximately
0.1% of the Portfolio. The OP GP is the sole general partner of the OP. As of December 31, 2018, there were 23,819,402 OP Units
outstanding, of which 23,746,169, or 99.7%, were owned by us and 73,233, or 0.3%, were owned by an unaffiliated limited partner
(see Note 10 to our consolidated financial statements).
We are primarily focused on directly or indirectly acquiring, owning, and operating well-located multifamily properties with a
value-add component in large cities and suburban submarkets of large cities, primarily in the Southeastern and Southwestern United
States. We generate revenue primarily by leasing our multifamily properties. We intend to employ targeted management and a value-
add program at a majority of our properties in an attempt to improve rental rates and the NOI at our properties and achieve long-term
capital appreciation for our stockholders. We are externally managed by the Adviser through the Advisory Agreement, by and among
the OP, the Adviser and us. The Advisory Agreement was renewed on February 13, 2019 for a one-year term set to expire on March
16, 2020. The Adviser is wholly owned by NexPoint Advisors, L.P., which is an affiliate of our Sponsor.
We began operations on March 31, 2015 as a result of the transfer and contribution by NHF of all but one of the multifamily
properties owned by NHF through its wholly owned subsidiary NREO in exchange for 100% of its outstanding common stock. We
use the term “predecessor” to mean the carve-out business of NREO, which owned all or a majority interest in the multifamily
properties transferred or contributed to us by NHF through NREO. On March 31, 2015, NHF distributed all of the outstanding shares
of our common stock held by NHF to holders of NHF common shares. We refer to the distribution of our common stock by NHF as
the “Spin-Off.” Substantially all of our operations were conducted by our predecessor prior to March 31, 2015. With the exception of
a nominal amount of initial cash funded at inception, we did not own any assets prior to March 31, 2015. Our predecessor included all
of the properties in our Portfolio that were held indirectly by NREO prior to the Spin-Off. Our predecessor was determined in
accordance with the rules and regulations of the SEC. References throughout this report to the “Company,” “we,” or “our,” include the
activity of the predecessor defined above.
On November 14, 2018, in connection with the 2018 Offering, we issued 2,702,500 shares of our common stock, par value
$0.01 per share, at a public offering price of $33.00 per share, for net proceeds of approximately $84.8 million (after underwriters’
discounts and offering costs). We contributed the net proceeds from the 2018 Offering to the OP in exchange for 2,702,500 OP Units,
and the OP in turn used a majority of the net proceeds to repay the $50.0 million outstanding under the $60 Million Credit Facility and
the $30.0 million outstanding under the $30 Million Bridge Facility (see Notes 6 and 8 to our consolidated financial statements).
We have elected to be taxed as a REIT under Sections 856 through 860 of the Code, and expect to continue to qualify as a
REIT. To qualify as a REIT, we must meet a number of organizational and operational requirements, including a requirement that we
distribute at least 90% of our REIT taxable income to our stockholders. As a REIT, we will be subject to federal income tax on our
undistributed REIT taxable income and net capital gain and to a 4% nondeductible excise tax on any amount by which distributions
we pay with respect to any calendar year are less than the sum of (1) 85% of our ordinary income, (2) 95% of our capital gain net
income and (3) 100% of our undistributed income from prior years. We believe we qualify for taxation as a REIT under the Code, and
we intend to continue to operate in such a manner, but no assurance can be given that we will operate in a manner so as to qualify as a
REIT. Taxable income from certain non-REIT activities is managed through a TRS and is subject to applicable federal, state, and local
income and margin taxes. We had no significant taxes associated with our TRS for the years ended December 31, 2018, 2017 and
2016.
48
Components of Our Revenues and Expenses
Revenues
Rental income. Our earnings are primarily attributable to the rental revenue from our multifamily properties. We anticipate that
the leases we enter into for our multifamily properties will typically be for one year or less on average.
Other income. Other income includes ancillary income earned from tenants such as application fees, late fees, laundry fees,
utility reimbursements, and other rental related fees charged to tenants.
Expenses
Property operating expenses. Property operating expenses include property maintenance costs, salary and employee benefit
costs, utilities, casualty-related expenses and recoveries and other property operating costs.
Acquisition costs. Acquisition costs include the costs to acquire additional properties. On October 1, 2016, we early adopted
Accounting Standards Update (“ASU”) 2017-01, which requires an entity to capitalize acquisition costs associated with an acquisition
that is determined to be an acquisition of an asset as opposed to an acquisition of a business. Prior to our adoption of ASU 2017-01,
acquisition costs were expensed as incurred. We believe most future acquisition costs will be capitalized in accordance with ASU
2017-01.
Real estate taxes and insurance. Real estate taxes include the property taxes assessed by local and state authorities depending on
the location of each property. Insurance includes the cost of commercial, general liability, and other needed insurance for each
property.
Property management fees. Property management fees include fees paid to BH, our property manager, or other third party
management companies for managing each property (see Note 10 to our consolidated financial statements).
Advisory and administrative fees. Advisory and administrative fees include the fees paid to our Adviser pursuant to the
Advisory Agreement (see Note 11 to our consolidated financial statements).
Corporate general and administrative expenses. Corporate general and administrative expenses include, but are not limited to,
audit fees, legal fees, listing fees, board of director fees, equity-based compensation expense, investor relations costs and payments of
reimbursements to our Adviser for operating expenses. Corporate general and administrative expenses and the advisory and
administrative fees paid to our Adviser (including advisory and administrative fees on properties defined in the Advisory Agreement
as New Assets) will not exceed 1.5% of Average Real Estate Assets per calendar year (or part thereof that the Advisory Agreement is
in effect), calculated in accordance with the Advisory Agreement, or the Expense Cap. The Expense Cap does not limit the
reimbursement by us of expenses related to securities offerings paid by our Adviser. The Expense Cap also does not apply to legal,
accounting, financial, due diligence, and other service fees incurred in connection with mergers and acquisitions, extraordinary
litigation, or other events outside our ordinary course of business or any out-of-pocket acquisition or due diligence expenses incurred
in connection with the acquisition or disposition of real estate assets.
Property general and administrative expenses. Property general and administrative expenses include the costs of marketing,
professional fees, general office supplies, and other administrative related costs of each property.
Depreciation and amortization. Depreciation and amortization costs primarily include depreciation of our multifamily properties
and amortization of acquired in-place leases.
Other Income and Expense
Interest expense. Interest expense primarily includes the cost of interest expense on debt, the amortization of deferred financing
costs and the related impact of interest rate derivatives used to manage our interest rate risk.
Loss on extinguishment of debt and modification costs. Loss on extinguishment of debt and modification costs includes
prepayment penalties and defeasance costs, the write-off of unamortized deferred financing costs and fair market value adjustments of
assumed debt related to the early repayment of debt, costs incurred in a debt modification that are not capitalized as deferred financing
costs and other costs incurred in a debt extinguishment.
Gain on sales of real estate. Gain on sales of real estate includes the gain recognized upon sales of properties. Gain on sales of
real estate is calculated by deducting the carrying value of the real estate and costs incurred to sell the properties from the sales prices
of the properties.
49
Results of Operations for the Years Ended December 31, 2018, 2017 and 2016
The year ended December 31, 2018 as compared to the year ended December 31, 2017
The following table sets forth a summary of our operating results for the years ended December 31, 2018 and 2017 (in
thousands):
For the Year Ended December 31,
2018
2017
$ Change
Total revenues
Total expenses
Operating income
Interest expense
Loss on extinguishment of debt and modification costs
Gain on sales of real estate
Net income (loss)
Net income attributable to noncontrolling interests
Net income (loss) attributable to redeemable noncontrolling interests in
the Operating Partnership
Net income (loss) attributable to common stockholders
$
146,597 $
(129,805)
16,792
(28,572)
(3,576)
13,742
(1,614)
—
144,235 $
(130,946)
13,289
(29,576)
(5,719)
78,365
56,359
2,836
$
(5)
(1,609) $
149
53,374 $
2,362
1,141
3,503
1,004
2,143
(64,623)
(57,973)
(2,836)
(154)
(54,983)
The change in our net income (loss) for the year ended December 31, 2018 as compared to the year ended December 31, 2017
primarily relates to a decrease in gain on sales of real estate, and was partially offset by an increase in total revenues and decreases in
total property operating expenses, depreciation and amortization expense and loss on extinguishment of debt and modification costs.
The change in our net income (loss) between the periods was also due to our acquisition and disposition activity in 2017 and 2018 and
the timing of the transactions (we acquired one property in the first quarter of 2017, one property in the second quarter of 2017, one
property in the fourth quarter of 2017 and three properties in the third quarter of 2018; we sold four properties in the second quarter of
2017, five properties in the third quarter of 2017 and one property in the first quarter of 2018).
Revenues
Rental income. Rental income was $128.0 million for the year ended December 31, 2018 compared to $125.0 million for the
year ended December 31, 2017, which was an increase of approximately $3.0 million. The increase between the periods was primarily
due to our acquisition and disposition activity in 2017 and 2018 and the timing of the transactions, as described above, and a 3.9%
increase in the weighted average monthly effective rent per occupied apartment unit in our Portfolio to $985 as of December 31, 2018
from $948 as of December 31, 2017, primarily driven by the value-add program that we have implemented and organic growth in
rents in the markets where our properties are located. The increase between the periods was also due to an increase in the occupancy
rate of our Portfolio of 0.8% to 94.6% as of December 31, 2018 from 93.8% as of December 31, 2017.
Other income. Other income was $18.6 million for the year ended December 31, 2018 compared to $19.2 million for the year
ended December 31, 2017, which was a decrease of approximately $0.6 million. The decrease between the periods was primarily due
to our acquisition and disposition activity in 2017 and 2018 and the timing of the transactions, as described above. The decrease
between the periods was also due to a $0.7 million, or 6.0%, decrease in utility reimbursements.
Expenses
Property operating expenses. Property operating expenses were $35.8 million for the year ended December 31, 2018 compared
to $38.9 million for the year ended December 31, 2017, which was a decrease of approximately $3.1 million. The decrease between
the periods was primarily due to our acquisition and disposition activity in 2017 and 2018 and the timing of the transactions, as
described above. The decrease between the periods was also due to a $1.5 million, or 13.5%, decrease in utility costs and a $0.8
million, or 4.8%, decrease in labor costs.
Real estate taxes and insurance. Real estate taxes and insurance costs were $20.7 million for the year ended December 31, 2018
compared to $19.2 million for the year ended December 31, 2017, which was an increase of approximately $1.5 million. The increase
between the periods was primarily due to a $1.5 million, or 9.4%, increase in property taxes. Property taxes incurred in the first year of
ownership may be significantly less than subsequent years since the purchase price of the property may trigger a significant increase in
assessed value by the taxing authority in subsequent years, increasing the cost of real estate taxes.
Property management fees. Property management fees were $4.4 million for the year ended December 31, 2018 compared to
$4.3 million for the year ended December 31, 2017, which was an increase of approximately $0.1 million. The increase between the
periods was primarily due to an increase in total revenues, which the fee is primarily based on.
50
Advisory and administrative fees. Advisory and administrative fees were $7.5 million for the year ended December 31, 2018
compared to $7.4 million for the year ended December 31, 2017, which was an increase of approximately $0.1 million. The amount
incurred during the years ended December 31, 2018 and 2017 represents the maximum fee allowed on properties defined as
Contributed Assets under the Advisory Agreement plus approximately $2.1 million and $2.0 million, respectively, of advisory and
administrative fees incurred on certain properties defined as New Assets. For the year ended December 31, 2018, our Adviser elected
to voluntarily waive the advisory and administrative fees incurred on the eight properties we acquired subsequent to October 2016,
which totaled approximately $4.1 million. For the year ended December 31, 2017, our Adviser elected to voluntarily waive the
advisory and administrative fees incurred on the five properties we acquired subsequent to October 2016, which totaled approximately
$2.4 million. The advisory and administrative fees waived by our Adviser for the years ended December 31, 2018 and 2017 are
considered to be permanently waived for the periods. Our Adviser is not contractually obligated to waive fees on New Assets in the
future and may cease waiving fees on New Assets at its discretion. Advisory and administrative fees may increase in future periods as
we acquire additional properties, which will be classified as New Assets.
Corporate general and administrative expenses. Corporate general and administrative expenses were $7.8 million for the year
ended December 31, 2018 compared to $6.3 million for the year ended December 31, 2017, which was an increase of approximately
$1.5 million. The increase between the periods was primarily due to approximately $4.2 million of equity-based compensation
expense recognized during the year ended December 31, 2018 related to the grants of restricted stock units to our directors, officers,
employees and certain key employees of our Adviser pursuant to our long-term incentive plan (the “2016 LTIP”), compared to $3.1
million of equity-based compensation expense recognized during the year ended December 31, 2017 (see Note 8 to our consolidated
financial statements). Subject to the Expense Cap, corporate general and administrative expenses may increase in future periods as we
acquire additional properties.
Property general and administrative expenses. Property general and administrative expenses were $6.1 million for the year
ended December 31, 2018 compared to $6.2 million for the year ended December 31, 2017, which was a decrease of approximately
$0.1 million. The decrease between the periods was primarily due to our acquisition and disposition activity in 2017 and 2018 and the
timing of the transactions, as described above.
Depreciation and amortization. Depreciation and amortization costs were $47.5 million for the year ended December 31, 2018
compared to $48.8 million for the year ended December 31, 2017, which was a decrease of approximately $1.3 million. The decrease
between the periods was primarily due to the amortization of intangible lease assets of $2.5 million related to four properties for the
year ended December 31, 2018 compared to $8.9 million related to seven properties for the year ended December 31, 2017, which was
a decrease of approximately $6.4 million. The decrease between the periods was partially offset by a $5.1 million increase in
depreciation expense, primarily due to our acquisition activity in 2017 and 2018 and the timing of the transactions, as described above.
The amortization of intangible lease assets over a six-month period from the date of acquisition is expected to increase the
amortization expense during the initial year of operations for each property.
Other Income and Expense
Interest expense. Interest expense was $28.6 million for the year ended December 31, 2018 compared to $29.6 million for the
year ended December 31, 2017, which was a decrease of approximately $1.0 million. The decrease between the periods was primarily
due to an increase in gain recognized related to the effective portion of changes in fair value of our interest rate swap derivatives
designated as cash flow hedges of approximately $5.3 million (see “Debt, Derivatives and Hedging Activity – Interest Rate Swap
Agreements” below). The decrease between the periods was partially offset by an increase in interest on debt of approximately $4.6
million. The following table details the various costs included in interest expense for the years ended December 31, 2018 and 2017 (in
thousands):
Interest on debt
Amortization of deferred financing costs
Interest rate swaps - effective portion
Interest rate swaps - ineffective portion
Interest rate caps expense
Total
For the Year Ended December 31,
2018
2017
$ Change
$
(1)
$
30,870 $
1,650
(4,224)
—
276
28,572 $
26,268 $
1,995
1,113
(309)
509
29,576 $
4,602
(345)
(5,337)
309
(233)
(1,004)
(1)
Prior to our adoption of ASU 2017-12, Derivatives and Hedging (Topic 815) (“ASU 2017-12”) on January 1, 2018, the
ineffective portion of changes in the fair value of our derivatives designated as cash flow hedges was recognized directly in net
income (loss) as interest expense. The adoption of ASU 2017-12 eliminates the separate measurement of effectiveness and
ineffectiveness, and all changes in the fair value of derivatives that are designated as cash flow hedges are recorded directly in
other comprehensive income (“OCI”). See Notes 2 and 7 to our consolidated financial statements for additional information.
51
Loss on extinguishment of debt and modification costs. Loss on extinguishment of debt and modification costs was $3.6 million
for the year ended December 31, 2018 compared to $5.7 million for the year ended December 31, 2017, which was a decrease of
approximately $2.1 million. The decrease between the periods was primarily due to decreases in debt modification and other
extinguishment costs of approximately $1.5 million and prepayment penalties and defeasance costs of approximately $1.0 million.
The following table details the various costs included in loss on extinguishment of debt and modification costs for the years ended
December 31, 2018 and 2017 (in thousands):
Prepayment penalties and defeasance costs
Write-off of deferred financing costs
Write-off of fair market value adjustment of assumed debt
Debt modification and other extinguishment costs
Total
For the Year Ended December 31,
2018
2017
$ Change
$
$
1,706 $
1,412
(27)
485
3,576 $
2,701 $
1,003
—
2,015
5,719 $
(995)
409
(27)
(1,530)
(2,143)
Gain on sales of real estate. Gain on sales of real estate was $13.7 million for the year ended December 31, 2018 compared to
$78.4 million for the year ended December 31, 2017, which was a decrease of approximately $64.7 million. During the year ended
December 31, 2018, we sold one property; during the year ended December 31, 2017, we sold nine properties.
The year ended December 31, 2017 as compared to the year ended December 31, 2016
The following table sets forth a summary of our operating results for the years ended December 31, 2017 and 2016 (in
thousands):
For the Year Ended December 31,
2017
2016
$ Change
Total revenues
Total expenses
Operating income
Interest expense
Loss on extinguishment of debt and modification costs
Gain on sales of real estate
Net income
Net income attributable to noncontrolling interests
Net income attributable to redeemable noncontrolling interests in the
Operating Partnership
Net income attributable to common stockholders
$
144,235 $
(130,946)
13,289
(29,576)
(5,719)
78,365
56,359
2,836
132,848 $
(111,003)
21,845
(20,167)
(1,722)
25,932
25,888
4,006
$
149
53,374 $
—
21,882 $
11,387
(19,943)
(8,556)
(9,409)
(3,997)
52,433
30,471
(1,170)
149
31,492
The change in our net income for the year ended December 31, 2017 as compared to the year ended December 31, 2016
primarily relates to increases in total revenues and gain on sales of real estate, and was partially offset by increases in total property
operating expenses, depreciation and amortization expense, interest expense and loss on extinguishment of debt and modification
costs. The change in our net income between the periods was also due to our acquisition and disposition activity in 2016 and 2017 and
the timing of the transactions (we acquired one property in the third quarter of 2016, three properties in the fourth quarter of 2016, one
property in the first quarter of 2017, one property in the second quarter of 2017 and one property in the fourth quarter of 2017; we sold
three properties in the second quarter of 2016, four properties in the third quarter of 2016, four properties in the second quarter of
2017 and five properties in the third quarter of 2017).
Revenues
Rental income. Rental income was $125.0 million for the year ended December 31, 2017 compared to $115.4 million for the
year ended December 31, 2016, which was an increase of approximately $9.6 million. The increase between the periods was primarily
due to our acquisition and disposition activity in 2016 and 2017 and the timing of the transactions, as described above. The increase
between the periods was also due to a 7.7% increase in the weighted average monthly effective rent per occupied apartment unit in our
Portfolio to $948 as of December 31, 2017 from $880 as of December 31, 2016, primarily driven by the value-add program that we
have implemented and organic growth in rents in the markets where our properties are located, and an increase in the occupancy rate
of our Portfolio of 0.4% to 93.8% as of December 31, 2017 from 93.4% as of December 31, 2016.
52
Other income. Other income was $19.2 million for the year ended December 31, 2017 compared to $17.4 million for the year
ended December 31, 2016, which was an increase of approximately $1.8 million. The increase between the periods was primarily due
to our acquisition and disposition activity in 2016 and 2017 and the timing of the transactions, as described above. The increase
between the periods was also due to a $1.1 million, or 11.3%, increase in utility reimbursements and a $0.5 million, or 56.1%, increase
in other resident charges.
Expenses
Property operating expenses. Property operating expenses were $38.9 million for the year ended December 31, 2017 compared
to $38.2 million for the year ended December 31, 2016, which was an increase of approximately $0.7 million. The increase between
the periods was primarily due to our acquisition and disposition activity in 2016 and 2017 and the timing of the transactions, as
described above. The increase between the periods was also due to a $1.0 million, or 8.8%, increase in repairs and maintenance costs,
partially offset by a $0.4 million increase in casualty recoveries.
Acquisition costs. No acquisition costs were expensed for the year ended December 31, 2017 compared to $0.4 million for the
year ended December 31, 2016. During the year ended December 31, 2017, we acquired three properties and capitalized all
acquisition costs incurred. During the year ended December 31, 2016, we acquired four properties; we expensed the acquisition costs
related to one acquisition and capitalized acquisition costs of approximately $0.7 million related to three acquisitions. Acquisition
costs depend on the specific circumstances of each closing and are one-time costs associated with each acquisition. We believe most
future acquisition costs will be capitalized.
Real estate taxes and insurance. Real estate taxes and insurance costs were $19.2 million for the year ended December 31, 2017
compared to $16.1 million for the year ended December 31, 2016, which was an increase of approximately $3.1 million. The increase
between the periods was primarily due to our acquisition and disposition activity in 2016 and 2017 and the timing of the transactions,
as described above. The increase between the periods was also due to a $2.8 million, or 20.3%, increase in property taxes and a $0.3
million, or 13.6%, increase in property liability insurance. Property taxes incurred in the first year of ownership may be significantly
less than subsequent years since the purchase price of the property may trigger a significant increase in assessed value by the taxing
authority in subsequent years, increasing the cost of real estate taxes.
Property management fees. Property management fees were $4.3 million for the year ended December 31, 2017 compared to
$4.0 million for the year ended December 31, 2016, which was an increase of approximately $0.3 million. The increase between the
periods was primarily due to increases in rental income and other income, which the fee is primarily based on.
Advisory and administrative fees. Advisory and administrative fees were $7.4 million for the year ended December 31, 2017
compared to $6.8 million for the year ended December 31, 2016, which was an increase of approximately $0.6 million. The amount
incurred during the years ended December 31, 2017 and 2016 represents the maximum fee allowed on properties defined as
Contributed Assets under the Advisory Agreement plus approximately $2.0 million and $1.4 million, respectively, of advisory and
administrative fees incurred on certain properties defined as New Assets. For the year ended December 31, 2017, our Adviser elected
to voluntarily waive the advisory and administrative fees incurred on the five properties we acquired subsequent to October 2016,
which totaled approximately $2.4 million. For the year ended December 31, 2016, our Adviser elected to voluntarily waive the
advisory and administrative fees incurred on the two properties we acquired subsequent to October 2016, which totaled less than $0.1
million. The advisory and administrative fees waived by our Adviser for the years ended December 31, 2017 and 2016 are considered
to be permanently waived for the periods. Our Adviser is not contractually obligated to waive fees on New Assets in the future and
may cease waiving fees on New Assets at its discretion. Advisory and administrative fees may increase in future periods as we acquire
additional properties, which will be classified as New Assets.
Corporate general and administrative expenses. Corporate general and administrative expenses were $6.3 million for the year
ended December 31, 2017 compared to $4.0 million for the year ended December 31, 2016, which was an increase of approximately
$2.3 million. The increase between periods primarily relates to $3.1 million of equity-based compensation expense recognized during
the year ended December 31, 2017 related to the grants of restricted stock units to our directors and officers pursuant to our 2016
LTIP, compared to $0.8 million of equity-based compensation expense recognized during the year ended December 31, 2016 (see
Note 8 to our consolidated financial statements). Subject to the Expense Cap, corporate general and administrative expenses may
increase in future periods as we acquire additional properties.
Property general and administrative expenses. Property general and administrative expenses were $6.2 million for the year
ended December 31, 2017 compared to $5.9 million for the year ended December 31, 2016, which was an increase of approximately
$0.3 million. The increase between the periods was primarily due to our acquisition and disposition activity in 2016 and 2017 and the
timing of the transactions, as described above. The increase between the periods was also due to a $0.3 million, or 24.4%, increase in
advertising and promotional costs.
53
Depreciation and amortization. Depreciation and amortization costs were $48.8 million for the year ended December 31, 2017
compared to $35.6 million for the year ended December 31, 2016, which was an increase of approximately $13.2 million. The
increase between the periods was primarily due to the amortization of intangible lease assets of $8.9 million related to seven properties
for the year ended December 31, 2017 compared to $1.4 million related to five properties for the year ended December 31, 2016,
which was an increase of approximately $7.5 million, as well as the acquisition of three properties subsequent to December 31, 2016.
The amortization of intangible lease assets over a six-month period from the date of acquisition is expected to increase the
amortization expense during the initial year of operations for each property. The increase between the periods was partially offset by a
reduction in depreciation expense related to the disposition of nine properties subsequent to December 31, 2016.
Other Income and Expense
Interest expense. Interest expense was $29.6 million for the year ended December 31, 2017 compared to $20.2 million for the
year ended December 31, 2016, which was an increase of approximately $9.4 million. The increase between the periods was primarily
due to an increase in interest on debt and a reduction in gain recognized related to the ineffective portion of changes in fair value of
our interest rate swap derivatives designated as cash flow hedges (see “Debt, Derivatives and Hedging Activity – Interest Rate Swap
Agreements” below), as shown in the table below. The following table details the various costs included in interest expense for the
years ended December 31, 2017 and 2016 (in thousands):
Interest on debt
Amortization of deferred financing costs
Interest rate swaps - effective portion
Interest rate swaps - ineffective portion
Interest rate caps expense
Total
For the Year Ended December 31,
2017
2016
$ Change
$
$
26,268 $
1,995
1,113
(309)
509
29,576 $
19,390 $
1,423
995
(1,683)
42
20,167 $
6,878
572
118
1,374
467
9,409
Loss on extinguishment of debt and modification costs. Loss on extinguishment of debt and modification costs was $5.7 million
for the year ended December 31, 2017 compared to $1.7 million for the year ended December 31, 2016, which was an increase of
approximately $4.0 million. The increase between the periods was primarily due to increases in prepayment penalties and defeasance
costs of approximately $1.9 million and debt modification and other extinguishment costs of approximately $1.8 million. During the
years ended December 31, 2017 and 2016, we sold nine properties and seven properties, respectively. The following table details the
various costs included in loss on extinguishment of debt and modification costs for the years ended December 31, 2017 and 2016 (in
thousands):
Prepayment penalties and defeasance costs
Write-off of deferred financing costs
Debt modification and other extinguishment costs
Total
For the Year Ended December 31,
2017
2016
$ Change
$
$
2,701 $
1,003
2,015
5,719 $
827 $
698
197
1,722 $
1,874
305
1,818
3,997
Gain on sales of real estate. Gain on sales of real estate was $78.4 million for the year ended December 31, 2017 compared to
$25.9 million for the year ended December 31, 2016, which was an increase of approximately $52.5 million. During the year ended
December 31, 2017, we sold nine properties; during the year ended December 31, 2016, we sold seven properties.
54
Non-GAAP Measurements
Net Operating Income and Same Store Net Operating Income
NOI is a non-GAAP financial measure of performance. NOI is used by investors and our management to evaluate and compare
the performance of our properties to other comparable properties, to determine trends in earnings and to compute the fair value of our
properties as NOI is not affected by (1) the cost of funds, (2) acquisition costs, (3) advisory and administrative fees, (4) the impact of
depreciation and amortization expenses as well as gains or losses from the sale of operating real estate assets that are included in net
income computed in accordance with GAAP, (5) corporate general and administrative expenses, (6) other gains and losses that are
specific to us, (7) casualty-related expenses/(recoveries) and (8) property general and administrative expenses that are not reflective of
the continuing operations of the properties or are incurred on our behalf at the property for expenses such as legal, professional and
franchise tax fees.
The cost of funds is eliminated from net income (loss) because it is specific to our particular financing capabilities and
constraints. The cost of funds is also eliminated because it is dependent on historical interest rates and other costs of capital as well as
past decisions made by us regarding the appropriate mix of capital, which may have changed or may change in the future. Acquisition
costs and non-operating fees to affiliates are eliminated because they do not reflect continuing operating costs of the property owner.
Depreciation and amortization expenses as well as gains or losses from the sale of operating real estate assets are eliminated because
they may not accurately represent the actual change in value in our multifamily properties that result from use of the properties or
changes in market conditions. While certain aspects of real property do decline in value over time in a manner that is reasonably
captured by depreciation and amortization, the value of the properties as a whole have historically increased or decreased as a result of
changes in overall economic conditions instead of from actual use of the property or the passage of time. Gains and losses from the
sale of real property vary from property to property and are affected by market conditions at the time of sale, which will usually
change from period to period. Casualty-related expenses and recoveries are excluded because they do not reflect continuing operating
costs of the property owner. Entity level general and administrative expenses incurred at the properties are eliminated as they are
specific to the way in which we have chosen to hold our properties and are the result of our ownership structuring. Also, expenses that
are incurred upon acquisition of a property do not reflect continuing operating costs of the property owner. These gains and losses can
create distortions when comparing one period to another or when comparing our operating results to the operating results of other real
estate companies that have not made similarly timed purchases or sales. We believe that eliminating these items from net income is
useful because the resulting measure captures the actual ongoing revenue generated and actual expenses incurred in operating our
properties as well as trends in occupancy rates, rental rates and operating costs.
However, the usefulness of NOI is limited because it excludes corporate general and administrative expenses, interest expense,
loss on extinguishment of debt and modification costs, acquisition costs, certain fees to affiliates such as advisory and administrative
fees, depreciation and amortization expense and gains or losses from the sale of properties, and other gains and losses as determined
under GAAP, the level of capital expenditures and leasing costs necessary to maintain the operating performance of our properties, all
of which are significant economic costs. NOI may fail to capture significant trends in these components of net income, which further
limits its usefulness.
NOI is a measure of the operating performance of our properties but does not measure our performance as a whole. NOI is
therefore not a substitute for net income (loss) as computed in accordance with GAAP. This measure should be analyzed in
conjunction with net income (loss) computed in accordance with GAAP and discussions elsewhere in “—Results of Operations”
regarding the components of net income (loss) that are eliminated in the calculation of NOI. Other companies may use different
methods for calculating NOI or similarly entitled measures and, accordingly, our NOI may not be comparable to similarly entitled
measures reported by other companies that do not define the measure exactly as we do.
We define “Same Store NOI” as NOI for our properties that are comparable between periods. We view Same Store NOI as an
important measure of the operating performance of our properties because it allows us to compare operating results of properties
owned for the entirety of the current and comparable periods and therefore eliminates variations caused by acquisitions or dispositions
during the periods.
55
Net Operating Income for Our 2017-2018 Same Store and Non-Same Store Properties for the Years Ended December 31, 2018
and 2017
There are 29 properties encompassing 10,123 units of apartment space in our same store pool for the years ended December 31,
2018 and 2017 (our “2017-2018 Same Store” properties). Our 2017-2018 Same Store properties exclude the following six properties
in our Portfolio as of December 31, 2018: Hollister Place, Rockledge Apartments, Atera Apartments, Cedar Pointe, Crestmont
Reserve and Brandywine I & II.
The following table reflects the revenues, property operating expenses and NOI for the years ended December 31, 2018 and
2017 for our 2017-2018 Same Store and Non-Same Store properties (dollars in thousands):
For the Year Ended December 31,
2018
2017
$ Change
% Change
Revenues
Same Store
Rental income
Other income
Same Store revenues
Non-Same Store
Rental income
Other income
Non-Same Store revenues
Total revenues
Operating expenses
Same Store
Property operating expenses (1)
Real estate taxes and insurance
Property management fees (2)
Property general and administrative expenses (3)
Same Store operating expenses
Non-Same Store
Property operating expenses (4)
Real estate taxes and insurance
Property management fees (2)
Property general and administrative expenses (5)
Non-Same Store operating expenses
Total operating expenses
NOI
Same Store
Non-Same Store
Total NOI
$
$
107,312 $
16,273
123,585
20,652
2,360
23,012
146,597
31,479
16,318
3,715
4,166
55,678
5,008
4,395
667
674
10,744
66,422
67,907
12,268
80,175 $
$
102,643
15,827
118,470
22,380
3,385
25,765
144,235
31,792
15,735
3,562
4,135
55,224
7,345
3,426
768
894
12,433
67,657
4,669
446
5,115
(1,728)
(1,025)
(2,753)
2,362
(313)
583
153
31
454
(2,337)
969
(101)
(220)
(1,689)
(1,235)
63,246
13,332
76,578
$
4,661
(1,064)
3,597
4.5%
2.8%
4.3%
-7.7%
-30.3%
-10.7%
1.6%
-1.0%
3.7%
4.3%
0.7%
0.8%
-31.8%
28.3%
-13.2%
-24.6%
-13.6%
-1.8%
7.4%
-8.0%
4.7%
(1)
(2)
(3)
(4)
(5)
For the years ended December 31, 2018 and 2017, excludes approximately $656,000 and $305,000, respectively, of casualty-
related recoveries.
Fees incurred to an unaffiliated third party that is an affiliate of the noncontrolling limited partner of the OP.
For the years ended December 31, 2018 and 2017, excludes approximately $1,013,000 and $939,000, respectively, of expenses
that are not reflective of the continuing operations of the properties or are incurred on our behalf at the property for expenses
such as legal, professional and franchise tax fees.
For the years ended December 31, 2018 and 2017, excludes approximately $(7,000) and $18,000, respectively, of casualty-
related expenses/(recoveries).
For the years ended December 31, 2018 and 2017, excludes approximately $281,000 and $191,000, respectively, of expenses
that are not reflective of the continuing operations of the properties or are incurred on our behalf at the property for expenses
such as legal, professional and franchise tax fees.
See reconciliation of net income (loss) to NOI below under “NOI and 2017-2018 Same Store NOI for the Years Ended
December 31, 2018 and 2017.”
56
2017-2018 Same Store Results of Operations for the Years Ended December 31, 2018 and 2017
As of December 31, 2018, our 2017-2018 Same Store properties were approximately 94.5% leased with a weighted average
monthly effective rent per occupied apartment unit of $963. As of December 31, 2017, our 2017-2018 Same Store properties were
approximately 93.9% leased with a weighted average monthly effective rent per occupied apartment unit of $925. For our 2017-2018
Same Store properties, we recorded the following operating results for the year ended December 31, 2018 as compared to the year
ended December 31, 2017:
Revenues
Rental income. Rental income was $107.3 million for the year ended December 31, 2018 compared to $102.6 million for the
year ended December 31, 2017, which was an increase of approximately $4.7 million, or 4.5%. The majority of the increase is related
to a 4.1% increase in the weighted average monthly effective rent per occupied apartment unit to $963 as of December 31, 2018 from
$925 as of December 31, 2017, as well as a 0.6% increase in occupancy.
Other income. Other income was $16.3 million for the year ended December 31, 2018 compared to $15.8 million for the year
ended December 31, 2017, which was an increase of approximately $0.5 million, or 2.8%. The majority of the increase is related to a
$0.4 million, or 9.6%, increase in administrative and application fees.
Expenses
Property operating expenses. Property operating expenses were $31.5 million for the year ended December 31, 2018 compared
to $31.8 million for the year ended December 31, 2017, which was a decrease of approximately $0.3 million, or 1.0%. The majority of
the decrease is related to a $0.8 million, or 8.8%, decrease in utility costs, partially offset by a $0.3 million, or 2.5%, increase in labor
costs.
Real estate taxes and insurance. Real estate taxes and insurance costs were $16.3 million for the year ended December 31, 2018
compared to $15.7 million for the year ended December 31, 2017, which was an increase of approximately $0.6 million, or 3.7%. The
majority of the increase is related to a $0.4 million, or 3.2%, increase in property taxes.
Property management fees. Property management fees were $3.7 million for the year ended December 31, 2018 compared to
$3.6 million for the year ended December 31, 2017, which was an increase of approximately $0.1 million, or 4.3%. The majority of
the increase is related to a $4.7 million, or 4.5%, increase in rental income, and a $0.5 million, or 2.8%, increase in other income,
which the fee is primarily based on.
Property general and administrative expenses. Property general and administrative expenses were $4.2 million for the year
ended December 31, 2018 compared to $4.1 million for the year ended December 31, 2017, which was an increase of approximately
$0.1 million, or 0.7%.
57
Net Operating Income for Our 2016-2018 Same Store and Non-Same Store Properties for the Years Ended December 31,
2018, 2017 and 2016
There are 25 properties encompassing 8,567 units of apartment space in our same store pool for the years ended December 31,
2018, 2017 and 2016 (our “2016-2018 Same Store” properties). Our 2016-2018 Same Store properties exclude the following 10
properties in our Portfolio as of December 31, 2018: Parc500, The Colonnade, Old Farm, Stone Creek at Old Farm, Hollister Place,
Rockledge Apartments, Atera Apartments, Cedar Pointe, Crestmont Reserve and Brandywine I & II.
The following table reflects the revenues, property operating expenses and NOI for the years ended December 31, 2018, 2017
and 2016 for our 2016-2018 Same Store and Non-Same Store properties (dollars in thousands):
For the Year Ended December 31,
2016
2017
2018
2018 compared to 2017
% Change
$ Change
2017 compared to 2016
% Change
$ Change
Revenues
Same Store
Rental income
Other income
Same Store revenues
Non-Same Store
Rental income
Other income
Non-Same Store revenues
Total revenues
Operating expenses
Same Store
Property operating expenses (1)
Real estate taxes and insurance
Property management fees (2)
Property general and administrative
expenses (3)
Same Store operating expenses
Non-Same Store
Property operating expenses (4)
Real estate taxes and insurance
Property management fees (2)
Property general and administrative
expenses (5)
Non-Same Store operating expenses
Total operating expenses
NOI
Same Store
Non-Same Store
Total NOI
$ 89,216 $ 84,871 $ 79,900
11,947
91,847
13,403
102,619
13,270
98,141
38,748
5,230
43,978
35,519
5,482
41,001
146,597 144,235 132,848
40,152
5,942
46,094
$
4,345
133
4,478
5.1% $
1.0%
4.6%
4,971
1,323
6,294
(1,404)
(712)
(2,116)
2,362
-3.5%
-12.0%
-4.6%
1.6%
4,633
460
5,093
11,387
26,312
12,635
3,089
26,668
11,828
2,949
25,578
11,058
2,759
3,447
45,483
3,451
44,896
3,359
42,754
10,175
8,078
1,293
12,469
7,333
1,381
12,507
5,004
1,224
1,393
20,939
66,422
1,578
22,761
67,657
1,639
20,374
63,128
(356)
807
140
(4)
587
(2,294)
745
(88)
(185)
(1,822)
(1,235)
-1.3%
6.8%
4.7%
-0.1%
1.3%
-18.4%
10.2%
-6.4%
-11.7%
-8.0%
-1.8%
1,090
770
190
92
2,142
(38)
2,329
157
(61)
2,387
4,529
57,136
23,039
49,093
20,627
$ 80,175 $ 76,578 $ 69,720
53,245
23,333
3,891
(294)
3,597
$
7.3%
-1.3%
4.7% $
4,152
2,706
6,858
6.2%
11.1%
6.9%
13.0%
8.4%
12.4%
8.6%
4.3%
7.0%
6.9%
2.7%
5.0%
-0.3%
46.5%
12.8%
-3.7%
11.7%
7.2%
8.5%
13.1%
9.8%
(1)
(2)
(3)
(4)
(5)
For the years ended December 31, 2018, 2017 and 2016, excludes approximately $(664,000), $(318,000) and $56,000,
respectively, of casualty-related expenses/(recoveries).
Fees incurred to an unaffiliated third party that is an affiliate of the noncontrolling limited partner of the OP.
For the years ended December 31, 2018, 2017 and 2016, excludes approximately $853,000, $760,000 and $596,000,
respectively, of expenses that are not reflective of the continuing operations of the properties or are incurred on our behalf at the
property for expenses such as legal, professional and franchise tax fees.
For the years ended December 31, 2018, 2017 and 2016, excludes approximately $1,000, $31,000 and $95,000, respectively, of
casualty-related expenses.
For the years ended December 31, 2018, 2017 and 2016, excludes approximately $441,000, $370,000 and $283,000,
respectively, of expenses that are not reflective of the continuing operations of the properties or are incurred on our behalf at the
property for expenses such as legal, professional and franchise tax fees.
58
See reconciliation of net income (loss) to NOI below under “NOI and 2016-2018 Same Store NOI for the Years Ended
December 31, 2018, 2017 and 2016.”
2016-2018 Same Store Results of Operations for the Years Ended December 31, 2018 and 2017
As of December 31, 2018, our 2016-2018 Same Store properties were approximately 94.7% leased with a weighted average
monthly effective rent per occupied apartment unit of $945. As of December 31, 2017, our 2016-2018 Same Store properties were
approximately 94.0% leased with a weighted average monthly effective rent per occupied apartment unit of $904. For our 2016-2018
Same Store properties, we recorded the following operating results for the year ended December 31, 2018 as compared to the year
ended December 31, 2017:
Revenues
Rental income. Rental income was $89.2 million for the year ended December 31, 2018 compared to $84.9 million for the year
ended December 31, 2017, which was an increase of approximately $4.3 million, or 5.1%. The majority of the increase is related to a
4.5% increase in the weighted average monthly effective rent per occupied apartment unit to $945 as of December 31, 2018 from $904
as of December 31, 2017, as well as a 0.7% increase in occupancy.
Other income. Other income was $13.4 million for the year ended December 31, 2018 compared to $13.3 million for the year
ended December 31, 2017, which was an increase of approximately $0.1 million, or 1.0%. The majority of the increase is related to a
$0.3 million, or 8.1%, increase in administrative and application fees, partially offset by a $0.1 million, or 2.0%, decrease in utility
reimbursements.
Expenses
Property operating expenses. Property operating expenses were $26.3 million for the year ended December 31, 2018 compared
to $26.7 million for the year ended December 31, 2017, which was a decrease of approximately $0.4 million, or 1.3%. The majority of
the decrease is related to a $0.8 million, or 10.3%, decrease in utility costs, partially offset by a $0.3 million, or 2.4%, increase in labor
costs.
Real estate taxes and insurance. Real estate taxes and insurance costs were $12.6 million for the year ended December 31, 2018
compared to $11.8 million for the year ended December 31, 2017, which was an increase of approximately $0.8 million, or 6.8%. The
majority of the increase is related to a $0.7 million, or 6.8%, increase in property taxes.
Property management fees. Property management fees were $3.1 million for the year ended December 31, 2018 compared to
$2.9 million for the year ended December 31, 2017, which was an increase of approximately $0.2 million, or 4.7%. The majority of
the increase is related to a $4.3 million, or 5.1%, increase in rental income, and a $0.1 million, or 1.0%, increase in other income,
which the fee is primarily based on.
Property general and administrative expenses. Property general and administrative expenses were $3.4 million for the year
ended December 31, 2018 compared to $3.5 million for the year ended December 31, 2017, which was a decrease of approximately
$0.1 million, or 0.1%.
2016-2018 Same Store Results of Operations for the Years Ended December 31, 2017 and 2016
As of December 31, 2017, our 2016-2018 Same Store properties were approximately 94.0% leased with a weighted average
monthly effective rent per occupied apartment unit of $904. As of December 31, 2016, our 2016-2018 Same Store properties were
approximately 93.7% leased with a weighted average monthly effective rent per occupied apartment unit of $865. For our 2016-2018
Same Store properties, we recorded the following operating results for the year ended December 31, 2017 as compared to the year
ended December 31, 2016:
Revenues
Rental income. Rental income was $84.9 million for the year ended December 31, 2017 compared to $79.9 million for the year
ended December 31, 2016, which was an increase of approximately $5.0 million, or 6.2%. The majority of the increase is related to a
4.5% increase in the weighted average monthly effective rent per occupied apartment unit to $904 as of December 31, 2017 from $865
as of December 31, 2016, as well as a 0.3% increase in occupancy.
Other income. Other income was $13.3 million for the year ended December 31, 2017 compared to $11.9 million for the year
ended December 31, 2016, which was an increase of approximately $1.4 million, or 11.1%. The majority of the increase is related to a
$0.8 million, or 11.8%, increase in utility reimbursements and a $0.4 million, or 77.1%, increase in other resident charges.
59
Expenses
Property operating expenses. Property operating expenses were $26.7 million for the year ended December 31, 2017 compared
to $25.6 million for the year ended December 31, 2016, which was an increase of approximately $1.1 million, or 4.3%. The majority
of the increase is related to a $0.9 million, or 11.6%, increase in repairs and maintenance costs.
Real estate taxes and insurance. Real estate taxes and insurance costs were $11.8 million for the year ended December 31, 2017
compared to $11.1 million for the year ended December 31, 2016, which was an increase of approximately $0.7 million, or 7.0%. The
majority of the increase is related to a $0.7 million, or 7.4%, increase in property taxes.
Property management fees. Property management fees were $2.9 million for the year ended December 31, 2017 compared to
$2.8 million for the year ended December 31, 2016, which was an increase of approximately $0.1 million, or 6.9%. The majority of
the increase is related to a $5.0 million, or 6.2%, increase in rental income, and a $1.3 million, or 11.1%, increase in other income,
which the fee is primarily based on.
Property general and administrative expenses. Property general and administrative expenses were $3.5 million for the year
ended December 31, 2017 compared to $3.4 million for the year ended December 31, 2016, which was an increase of approximately
$0.1 million, or 2.7%.
NOI and 2017-2018 Same Store NOI for the Years Ended December 31, 2018 and 2017
The following table, which has not been adjusted for the effects of noncontrolling interests, reconciles our NOI and our 2017-
2018 Same Store NOI for the years ended December 31, 2018 and 2017 to net income (loss), the most directly comparable GAAP
financial measure (in thousands):
Net income (loss)
Adjustments to reconcile net income (loss) to NOI:
Advisory and administrative fees
Corporate general and administrative expenses
Casualty-related recoveries
Property general and administrative expenses
Depreciation and amortization
Interest expense
Loss on extinguishment of debt and modification costs
Gain on sales of real estate
NOI
Less Non-Same Store
Revenues
Operating expenses
Same Store NOI
For the Year Ended December 31,
2017
2018
$
(1,614) $
56,359
7,474
7,808
(663)
1,294
47,470
28,572
3,576
(13,742)
80,175 $
(23,012)
10,744
67,907 $
7,419
6,275
(287)
1,130
48,752
29,576
5,719
(78,365)
76,578
(25,765)
12,433
63,246
(1)
(2)
$
$
(1) Adjustment to net income (loss) to exclude certain property operating expenses that are casualty-related recoveries.
(2) Adjustment to net income (loss) to exclude certain property general and administrative expenses that are not reflective of the
continuing operations of the properties or are incurred on our behalf at the property for expenses such as legal, professional and
franchise tax fees.
60
NOI and 2016-2018 Same Store NOI for the Years Ended December 31, 2018, 2017 and 2016
The following table, which has not been adjusted for the effects of noncontrolling interests, reconciles our NOI and our 2016-
2018 Same Store NOI for the years ended December 31, 2018, 2017 and 2016 to net income (loss), the most directly comparable
GAAP financial measure (in thousands):
Net income (loss)
Adjustments to reconcile net income (loss) to NOI:
Advisory and administrative fees
Corporate general and administrative expenses
Casualty-related expenses/(recoveries)
Property general and administrative expenses
Depreciation and amortization
Interest expense
Loss on extinguishment of debt and modification costs
Gain on sales of real estate
Acquisition costs
NOI
Less Non-Same Store
Revenues
Operating expenses
Same Store NOI
For the Year Ended December 31,
2018
2017
2016
$
(1,614) $
56,359 $
25,888
7,474
7,808
(663)
1,294
47,470
28,572
3,576
(13,742)
—
80,175 $
(43,978)
20,939
57,136 $
7,419
6,275
(287)
1,130
48,752
29,576
5,719
(78,365)
—
76,578 $
(46,094)
22,761
53,245 $
6,802
4,014
151
879
35,643
20,167
1,722
(25,932)
386
69,720
(41,001)
20,374
49,093
(1)
(2)
$
$
(1) Adjustment to net income (loss) to exclude certain property operating expenses that are casualty-related expenses/(recoveries).
(2) Adjustment to net income (loss) to exclude certain property general and administrative expenses that are not reflective of the
continuing operations of the properties or are incurred on our behalf at the property for expenses such as legal, professional and
franchise tax fees.
FFO, Core FFO and AFFO
We believe that net income, as defined by GAAP, is the most appropriate earnings measure. We also believe that funds from
operations (“FFO”), as defined by the National Association of Real Estate Investment Trusts (“NAREIT”), core funds from operations
(“Core FFO”) and adjusted funds from operations (“AFFO”) are important non-GAAP supplemental measures of operating
performance for a REIT.
Since the historical cost accounting convention used for real estate assets requires depreciation except on land, such accounting
presentation implies that the value of real estate assets diminishes predictably over time. However, since real estate values have
historically risen or fallen with market and other conditions, presentations of operating results for a REIT that use historical cost
accounting for depreciation could be less informative. Thus, NAREIT created FFO as a supplemental measure of operating
performance for REITs that excludes historical cost depreciation and amortization, among other items, from net income, as defined by
GAAP. FFO is defined by NAREIT as net income computed in accordance with GAAP, excluding gains or losses from real estate
dispositions, plus real estate depreciation and amortization and impairment charges. We compute FFO attributable to common
stockholders in accordance with NAREIT’s definition. Our presentation differs slightly in that we begin with net income (loss) before
adjusting for amounts attributable to (1) noncontrolling interests in consolidated joint ventures and (2) redeemable noncontrolling
interests in the OP and we show the combined amounts attributable to such noncontrolling interests as an adjustment to arrive at FFO
attributable to common stockholders.
Core FFO makes certain adjustments to FFO, which are either not likely to occur on a regular basis or are otherwise not
representative of the ongoing operating performance of our portfolio. Core FFO adjusts FFO to remove items such as acquisition
expenses, losses on extinguishment of debt and modification costs (including prepayment penalties and defeasance costs incurred on
the early repayment of debt, the write-off of unamortized deferred financing costs and fair market value adjustments of assumed debt
related to the early repayment of debt, costs incurred in a debt modification that are not capitalized as deferred financing costs and
other costs incurred in a debt extinguishment), casualty-related expenses and recoveries, the amortization of deferred financing costs
incurred in connection with obtaining short-term debt financing, the ineffective portion of fair value adjustments on interest rate
derivatives designated as cash flow hedges (see Notes 2 and 7 to our consolidated financial statements), and the noncontrolling
interests (as described above) related to these items. We believe Core FFO is useful to investors as a supplemental gauge of our
operating performance and is useful in comparing our operating performance with other REITs that are not as involved in the
aforementioned activities.
61
AFFO makes certain adjustments to Core FFO in order to arrive at a more refined measure of the operating performance of our
portfolio. There is no industry standard definition of AFFO and practice is divergent across the industry. AFFO adjusts Core FFO to
remove items such as equity-based compensation expense and the amortization of deferred financing costs incurred in connection with
obtaining long-term debt financing, and the noncontrolling interests (as described above) related to these items. We believe AFFO is
useful to investors as a supplemental gauge of our operating performance and is useful in comparing our operating performance with
other REITs that are not as involved in the aforementioned activities.
The effect of the conversion of OP Units held by noncontrolling limited partners is not reflected in the computation of basic and
diluted FFO, Core FFO and AFFO per share, as they are exchangeable for common stock on a one-for-one basis. The FFO, Core FFO
and AFFO allocable to such units is allocated on this same basis and reflected in the adjustments for noncontrolling interests in the
table below. As such, the assumed conversion of these units would have no net impact on the determination of diluted FFO, Core FFO
and AFFO per share. See Note 9 to our consolidated financial statements for additional information.
We believe that the use of FFO, Core FFO and AFFO, combined with the required GAAP presentations, improves the
understanding of operating results of REITs among investors and makes comparisons of operating results among such companies
more meaningful. While FFO, Core FFO and AFFO are relevant and widely used measures of operating performance of REITs, they
do not represent cash flows from operations or net income (loss) as defined by GAAP and should not be considered as an alternative
or substitute to those measures in evaluating our liquidity or operating performance. FFO, Core FFO and AFFO do not purport to be
indicative of cash available to fund our future cash requirements. Further, our computation of FFO, Core FFO and AFFO may not be
comparable to FFO, Core FFO and AFFO reported by other REITs that do not define FFO in accordance with the current NAREIT
definition or that interpret the current NAREIT definition or define Core FFO or AFFO differently than we do.
62
The following table reconciles our calculations of FFO, Core FFO and AFFO to net income (loss), the most directly comparable
GAAP financial measure, for the years ended December 31, 2018, 2017 and 2016 (in thousands, except per share amounts):
2018
For the Year Ended December 31,
2017
2016
Net income (loss)
Depreciation and amortization
Gain on sales of real estate
Adjustment for noncontrolling interests
FFO attributable to common stockholders
FFO per share - basic
FFO per share - diluted
Acquisition costs
Loss on extinguishment of debt and modification costs
Casualty-related expenses/(recoveries)
Change in fair value on derivative instruments - ineffective portion
Amortization of deferred financing costs - acquisition term notes
Adjustment for noncontrolling interests
Core FFO attributable to common stockholders
Core FFO per share - basic
Core FFO per share - diluted
Amortization of deferred financing costs - long term debt
Equity-based compensation expense
Adjustment for noncontrolling interests
AFFO attributable to common stockholders
$
$
$
(1)
$
$
$
(1,614)
47,470
(13,742)
(96)
32,018
$
56,359
48,752
(78,365)
(1,695)
25,051
1.51
1.48
$
$
1.19
1.17
$
$
—
3,576
(663)
—
159
(9)
35,081
—
5,719
(287)
(309)
403
(430)
30,147
1.66
1.62
$
$
1.43
1.41
$
$
1,491
4,198
(17)
40,753
1,592
3,109
(76)
34,772
AFFO per share - basic
AFFO per share - diluted
$
$
1.92
1.88
$
$
1.65
1.62
$
$
Weighted average common shares outstanding - basic
Weighted average common shares outstanding - diluted
21,189
21,667
21,057
21,399
Dividends declared per common share
$
1.025
$
0.910
$
FFO Coverage - diluted
Core FFO Coverage - diluted
AFFO Coverage - diluted
(2)
(2)
(2)
1.44x
1.58x
1.84x
1.29x
1.55x
1.79x
25,888
35,643
(25,932)
(4,583)
31,016
1.46
1.46
386
1,722
151
(1,683)
—
(107)
31,485
1.48
1.48
1,423
825
(140)
33,593
1.58
1.58
21,232
21,314
0.838
1.74x
1.76x
1.88x
(1)
(2)
Prior to our adoption of ASU 2017-12 on January 1, 2018, the ineffective portion of changes in the fair value of our derivatives
designated as cash flow hedges was recognized directly in net income (loss) as interest expense. The adoption of ASU 2017-12
eliminates the separate measurement of effectiveness and ineffectiveness, and all changes in the fair value of derivatives that are
designated as cash flow hedges are recorded directly in OCI. See Notes 2 and 7 to our consolidated financial statements for
additional information.
Indicates coverage ratio of FFO/Core FFO/AFFO per common share (diluted) over dividends declared per common share during
the period.
63
The year ended December 31, 2018 as compared to the year ended December 31, 2017
FFO was $32.0 million for the year ended December 31, 2018 compared to $25.1 million for the year ended December 31,
2017, which was an increase of approximately $6.9 million. The change in our FFO between the periods primarily relates to an
increase in total revenues of $2.4 million and decreases in total property operating expenses of $1.4 million, interest expense of $1.0
million and loss on extinguishment of debt and modification costs of $2.1 million, partially offset by an increase in corporate general
and administrative expenses of $1.5 million and adjustments for amounts attributable to noncontrolling interests.
Core FFO was $35.1 million for the year ended December 31, 2018 compared to $30.1 million for the year ended December 31,
2017, which was an increase of approximately $5.0 million. The change in our Core FFO between the periods primarily relates to an
increase in FFO, partially offset by a decrease in loss on extinguishment of debt and modification costs of $2.1 million and
adjustments for amounts attributable to noncontrolling interests.
AFFO was $40.8 million for the year ended December 31, 2018 compared to $34.8 million for the year ended December 31,
2017, which was an increase of approximately $6.0 million. The change in our AFFO between the periods primarily relates to
increases in Core FFO and equity-based compensation expense of $1.1 million.
The year ended December 31, 2017 as compared to the year ended December 31, 2016
FFO was $25.1 million for the year ended December 31, 2017 compared to $31.0 million for the year ended December 31,
2016, which was a decrease of approximately $5.9 million. The change in our FFO between the periods primarily relates to increases
in total property operating expenses of $4.0 million, interest expense of $9.4 million, loss on extinguishment of debt and modification
costs of $4.0 million and corporate general and administrative expenses of $2.3 million, partially offset by an increase in total
revenues of $11.4 million and adjustments for amounts attributable to noncontrolling interests.
Core FFO was $30.1 million for the year ended December 31, 2017 compared to $31.5 million for the year ended December 31,
2016, which was a decrease of approximately $1.4 million. The change in our Core FFO between the periods primarily relates to a
decrease in FFO and a decrease in gain recognized related to the ineffective portion of changes in fair value of our interest rate swap
derivatives designated as cash flow hedges of $1.4 million, partially offset by an increase in loss on extinguishment of debt and
modification costs of $4.0 million and adjustments for amounts attributable to noncontrolling interests.
AFFO was $34.8 million for the year ended December 31, 2017 compared to $33.6 million for the year ended December 31,
2016, which was an increase of approximately $1.2 million. The change in our AFFO between the periods primarily relates to an
increase in equity-based compensation expense of $2.3 million, partially offset by a decrease in Core FFO.
Liquidity and Capital Resources
Our short-term liquidity requirements consist primarily of funds necessary to pay for debt maturities, operating expenses and
other expenditures directly associated with our multifamily properties, including:
•
•
•
•
•
•
•
•
capital expenditures to continue our value-add program and to improve the quality and performance of our multifamily
properties;
interest expense and scheduled principal payments on outstanding indebtedness (see “—Obligations and Commitments”
below);
recurring maintenance necessary to maintain our multifamily properties;
distributions necessary to qualify for taxation as a REIT;
advisory and administrative fees payable to our Adviser;
general and administrative expenses;
reimbursements to our Adviser; and
property management fees payable to BH.
We expect to meet our short-term liquidity requirements generally through net cash provided by operations and existing cash
balances. As of December 31, 2018, we had approximately $2.0 million of renovation value-add reserves for our planned capital
expenditures to implement our value-add program. Renovation value-add reserves are not required to be held in escrow by a third
party. We may reallocate these funds, at our discretion, to pursue other investment opportunities or meet our short-term liquidity
requirements.
64
Our long-term liquidity requirements consist primarily of funds necessary to pay for the costs of acquiring additional
multifamily properties, renovations and other capital expenditures to improve our multifamily properties and scheduled debt payments
and distributions. We expect to meet our long-term liquidity requirements through various sources of capital, which may include a
revolving credit facility and future debt or equity issuances, existing working capital, net cash provided by operations, long-term
mortgage indebtedness and other secured and unsecured borrowings, and property dispositions. However, there are a number of
factors that may have a material adverse effect on our ability to access these capital sources, including the state of overall equity and
credit markets, our degree of leverage, our unencumbered asset base and borrowing restrictions imposed by lenders (including as a
result of any failure to comply with financial covenants in our existing and future indebtedness), general market conditions for REITs,
our operating performance and liquidity, market perceptions about us and restrictions on sales of properties under the Code. The
success of our business strategy will depend, in part, on our ability to access these various capital sources.
In addition to our value-add program, our multifamily properties will require periodic capital expenditures and renovation to
remain competitive. Also, acquisitions, redevelopments, or expansions of our multifamily properties will require significant capital
outlays. Long-term, we may not be able to fund such capital improvements solely from net cash provided by operations because we
must distribute annually at least 90% of our REIT taxable income, determined without regard to the deductions for dividends paid and
excluding net capital gains, to qualify and maintain our qualification as a REIT, and we are subject to tax on any retained income and
gains. As a result, our ability to fund capital expenditures, acquisitions, or redevelopment through retained earnings long-term is
limited. Consequently, we expect to rely heavily upon the availability of debt or equity capital for these purposes. If we are unable to
obtain the necessary capital on favorable terms, or at all, our financial condition, liquidity, results of operations, and prospects could
be materially and adversely affected.
We believe that our available cash, expected operating cash flows, and potential debt or equity financings will provide sufficient
funds for our operations, anticipated scheduled debt service payments and dividend requirements for the twelve-month period
following December 31, 2018.
Cash Flows
The following table presents selected data from our consolidated statements of cash flows for the years ended December 31,
2018, 2017 and 2016 (in thousands):
Net cash provided by operating activities
Net cash provided by (used in) investing activities
Net cash provided by (used in) financing activities
Net decrease in cash, cash equivalents and restricted cash
Cash, cash equivalents and restricted cash, beginning of period
Cash, cash equivalents and restricted cash, end of period
2018
For the Year Ended December 31,
2017
2016
$
$
41,743 $
(136,954)
95,092
(119)
43,248
43,129 $
37,506 $
2,324
(51,843)
(12,013)
55,261
43,248 $
33,776
(51,904)
10,294
(7,834)
63,095
55,261
The year ended December 31, 2018 as compared to the year ended December 31, 2017
Cash flows from operating activities. During the year ended December 31, 2018, net cash provided by operating activities was
$41.7 million compared to net cash provided by operating activities of $37.5 million for the year ended December 31, 2017. The
change in cash flows from operating activities was mainly due to an increase in total revenues, decreases in total property operating
expenses, prepayment penalties and defeasance costs and debt modification and other extinguishment costs paid and changes in
operating assets and liabilities.
Cash flows from investing activities. During the year ended December 31, 2018, net cash used in investing activities was $137.0
million compared to net cash provided by investing activities of $2.3 million for the year ended December 31, 2017. The change in
cash flows from investing activities was mainly due to a decrease in net proceeds from sales of real estate. We sold one property for
net proceeds of approximately $29.6 million during the period in 2018; we sold nine properties for net proceeds of approximately
$224.4 million during the period in 2017. The change in cash flows from investing activities was partially offset by the acquisition of
three properties for a combined purchase price of approximately $131.0 million during the period in 2018 compared to the acquisition
of three properties for a combined purchase price of approximately $197.2 million during the period in 2017.
Cash flows from financing activities. During the year ended December 31, 2018, net cash provided by financing activities was
$95.1 million compared to net cash used in financing activities of $51.8 million for the year ended December 31, 2017. The change in
cash flows from financing activities was mainly due to receiving net proceeds of approximately $84.8 million in the 2018 Offering
and a net increase in debt of approximately $14.1 million between the periods, partially offset by increases in common stock
repurchases of approximately $7.2 million and common stock dividends paid of approximately $3.0 million between the periods and
the $51.7 million purchase amount of the purchase of 100% of the joint venture interests in our Portfolio owned by BH Equities, LLC
65
and its affiliates (collectively, “BH Equity”) (the “BH Buyout”) during the period in 2017 (see Note 10 to our consolidated financial
statements).
The year ended December 31, 2017 as compared to the year ended December 31, 2016
Cash flows from operating activities. During the year ended December 31, 2017, net cash provided by operating activities was
$37.5 million compared to net cash provided by operating activities of $33.8 million for the year ended December 31, 2016. The
change in cash flows from operating activities was mainly due to an increase in total revenues, partially offset by increases in total
property operating expenses, interest on debt, prepayment penalties and defeasance costs and debt modification and other
extinguishment costs paid and changes in operating assets and liabilities.
Cash flows from investing activities. During the year ended December 31, 2017, net cash provided by investing activities was
$2.3 million compared to net cash used in investing activities of $51.9 million for the year ended December 31, 2016. The change in
cash flows from investing activities was mainly due to the acquisition of three properties for a combined purchase price of
approximately $197.2 million during the period in 2017, compared to the acquisition of four properties for a combined purchase price
of approximately $175.1 million during the period in 2016. The change in cash flows from investing activities was partially offset by
an increase in net proceeds from sales of real estate; we sold nine properties for net proceeds of approximately $224.4 million during
the period in 2017, compared to selling seven properties for net proceeds of approximately $131.8 million during the period in 2016.
Cash flows from financing activities. During the year ended December 31, 2017, net cash used in financing activities was $51.8
million compared to net cash provided by financing activities of $10.3 million for the year ended December 31, 2016. The change in
cash flows from financing activities was mainly due to a net decrease in debt of approximately $13.9 million between the periods and
the $51.7 million purchase amount of the BH Buyout during the period in 2017.
Debt, Derivatives and Hedging Activity
Mortgage Debt
As of December 31, 2018, our subsidiaries had aggregate mortgage debt outstanding to third parties of approximately $845.7
million at a weighted average interest rate of 4.07% and an adjusted weighted average interest rate of 3.17%. For purposes of
calculating the adjusted weighted average interest rate of our mortgage debt outstanding, we have included the weighted average fixed
rate of 1.3388% for one-month LIBOR on our combined $650.0 million notional amount of interest rate swap agreements, which
effectively fix the interest rate on $650.0 million of our floating rate mortgage debt. See Notes 6 and 7 to our consolidated financial
statements for additional information.
We have entered into and expect to continue to enter into interest rate swap and cap agreements with various third parties to fix
or cap the floating interest rates on a majority of our floating rate mortgage debt outstanding. The interest rate swap agreements
generally have a term of four to five years and effectively establish a fixed interest rate on debt on the underlying notional amounts.
The interest rate swap agreements involve the receipt of variable-rate amounts from a counterparty in exchange for us making fixed-
rate payments over the life of the agreements without exchange of the underlying notional amount. As of December 31, 2018, interest
rate swap agreements effectively covered $650.0 million, or 80%, of our $808.0 million of floating rate mortgage debt outstanding.
The interest rate cap agreements generally have a term of three to four years, cover the outstanding principal amount of the
underlying debt and are generally required by our lenders. Under the interest rate cap agreements, we pay a fixed fee in exchange for
the counterparty to pay any interest above a maximum rate. As of December 31, 2018, interest rate cap agreements covered $255.2
million of our $808.0 million of floating rate mortgage debt outstanding. These interest rate cap agreements effectively cap one-month
LIBOR on $255.2 million of our floating rate mortgage debt at a weighted average rate of 5.82%.
66
Refinancings. During the year ended December 31, 2018, we refinanced mortgages on seven properties, as detailed in the table
below (dollars in thousands). See Note 6 to our consolidated financial statements for additional information.
Property Name
Date of
Refinance
Accounting
Treatment
Write-off of
Deferred
Financing
Costs (1)
Capitalized
Deferred
Financing
Costs
Prepayment
Penalties
and
Defeasance
Costs (1)
Debt
Modification
and Other
Extinguishment
Costs (1)
Reduction in
Spread
(in basis
points) (2)
Belmont at Duck Creek 6/1/2018 Extinguishment $
Sabal Palm at Lake
Buena Vista
Abbington Heights
Beechwood Terrace
Timber Creek
Radbourne Lake
Hollister Place
8/20/2018 Extinguishment
8/21/2018 Extinguishment
8/31/2018 Extinguishment
9/28/2018 Extinguishment
9/28/2018 Extinguishment
9/28/2018 Modification
$
— (3)$
293 $
— $
—
79 (4)
228
—
405
151
144
—
928
$
442
105
100
296
266
141
1,643 $
371
446
202
191
189
135
1,534 $
—
202
196
—
—
87
485
51
4 (4)
24
56
52
90
50 (5)
(1)
(2)
(3)
Included in loss on extinguishment of debt and modification costs on the accompanying consolidated statements of operations
and comprehensive income.
For previous floating rate mortgages, represents the reduction in the borrowing spread from the previous mortgage to the current
mortgage. For previous fixed-rate mortgages, represents the reduction in the borrowing rate from the previous mortgage to the
current mortgage (using one-month LIBOR as of December 31, 2018).
There were no existing deferred financing costs related to the prior fixed rate mortgage. We wrote-off the unamortized fair
market value adjustment as of June 1, 2018, a premium of less than $0.1 million, related to the prior fixed rate mortgage, which
is recorded in loss on extinguishment of debt and modification costs on the accompanying consolidated statements of operations
and comprehensive income.
Previous mortgage was an assumed fixed-rate loan.
(4)
(5) Represents the weighted average reduction in the borrowing spreads.
We intend to invest in additional multifamily properties as suitable opportunities arise and adequate sources of equity and debt
financing are available. We expect that future investments in properties, including any improvements or renovations of current or
newly acquired properties, will depend on and will be financed by, in whole or in part, our existing cash, future borrowings and the
proceeds from additional issuances of common stock or other securities or property dispositions.
Although we expect to be subject to restrictions on our ability to incur indebtedness, we expect that we will be able to refinance
existing indebtedness or incur additional indebtedness for acquisitions or other purposes, if needed. However, there can be no
assurance that we will be able to refinance our indebtedness, incur additional indebtedness or access additional sources of capital, such
as by issuing common stock or other debt or equity securities, on terms that are acceptable to us or at all.
Furthermore, following the completion of our value-add and capital expenditures programs and depending on the interest rate
environment at the applicable time, we may seek to refinance our floating rate debt into longer-term fixed rate debt at lower leverage
levels.
$60 Million Credit Facility
On December 29, 2016, we, through the OP, entered into a $30.0 million credit facility (the “$30 Million Credit Facility”) with
KeyBank. On April 27, 2018, we, through the OP, amended the $30 Million Credit Facility to temporarily increase the loan
commitment by $5.0 million (the “Temporary Increase”) and immediately drew $5.0 million. The $5.0 million drawn under the
Temporary Increase was repaid in full on July 25, 2018.
On September 26, 2018, we, through the OP, repaid the $30.0 million outstanding under the $30 Million Credit Facility and
amended the loan agreement, extending the maturity date to September 26, 2020 and increasing the loan commitment to $60.0 million
(the “$60 Million Credit Facility”). We, through the OP, immediately drew $50.0 million to fund a portion of the purchase price of
Brandywine I & II and Crestmont Reserve.
The $60 Million Credit Facility was a full-term, interest-only facility with a 24-month term and was guaranteed by us. Interest
accrued on the $60 Million Credit Facility at an interest rate of one-month LIBOR plus 2.00%. In November 2018, we, through the
OP, used net proceeds from the 2018 Offering to repay the $50.0 million outstanding under the $60 Million Credit Facility, which
retired the credit facility. In connection with the repayment, we, through the OP, received a commitment fee rebate of approximately
$0.8 million from KeyBank, which was previously capitalized as a deferred financing cost on our consolidated balance sheet as of
September 30, 2018. See Notes 5, 6 and 8 to our consolidated financial statements for additional information.
67
$30 Million Bridge Facility
On September 26, 2018, we, through the OP, entered into a $30.0 million bridge facility (the “$30 Million Bridge Facility”)
with KeyBank and immediately drew $30.0 million to fund a portion of the purchase price of Brandywine I & II and Crestmont
Reserve. The $30 Million Bridge Facility was a full-term, interest-only facility with a six-month term and was guaranteed by us.
Interest accrued on the $30 Million Bridge Facility at an interest rate of one-month LIBOR plus 2.00%. In November 2018, we,
through the OP, used net proceeds from the 2018 Offering to repay the $30.0 million outstanding under the $30 Million Bridge
Facility, which retired the bridge facility. In connection with the repayment, we, through the OP, received a commitment fee rebate of
approximately $0.3 million from KeyBank, which was previously capitalized as a deferred financing cost on our consolidated balance
sheet as of September 30, 2018. See Notes 5, 6 and 8 to our consolidated financial statements for additional information.
2017 Bridge Facility
On June 30, 2017, we, through the OP, entered into a $65.9 million bridge facility (the “2017 Bridge Facility”) with KeyBank.
The 2017 Bridge Facility was a full-term, interest-only facility with an initial four-month term. The 2017 Bridge Facility was
guaranteed by us. Interest accrued on the 2017 Bridge Facility at an interest rate of one-month LIBOR plus 3.75%. In July 2017, we
used proceeds from the sale of Regatta Bay to pay down $11.3 million on the 2017 Bridge Facility. In October 2017, we used
proceeds from the sale of four properties to pay down $46.0 million on the 2017 Bridge Facility, bringing the outstanding principal
balance to $8.6 million, and also extended the maturity date to March 31, 2018. In February 2018, we used proceeds from the sale of
Timberglen to pay the remaining $8.6 million outstanding on the 2017 Bridge Facility, which retired the bridge facility. See Note 6 to
our consolidated financial statements for additional information.
$75 Million Credit Facility
On January 28, 2019, we, through the OP, entered into a $75.0 million credit facility (the “$75 Million Credit Facility”) with
SunTrust Bank, as administrative agent and the lenders party thereto, and immediately drew $52.5 million to fund a portion of the
purchase price of three properties we acquired on January 28, 2019. The $75 Million Credit Facility is a full-term, interest-only
facility with an initial 24-month term, has one 12-month extension option, bears interest at a rate of one-month LIBOR plus a range
from 2.00% to 2.50%, depending on our leverage level as determined under the credit facility agreement, and is guaranteed by us. See
Note 13 to our consolidated financial statements for additional information.
Interest Rate Swap Agreements
In order to fix a portion of, and mitigate the risk associated with, our floating rate indebtedness (without incurring substantial
prepayment penalties or defeasance costs typically associated with fixed rate indebtedness when repaid early or refinanced), we,
through the OP, have entered into seven interest rate swap transactions with KeyBank (the “Counterparty”) with a combined notional
amount of $650.0 million. As of December 31, 2018, the interest rate swaps we have entered into effectively replace the floating
interest rate (one-month LIBOR) with respect to $650.0 million of our floating rate mortgage debt outstanding with a weighted
average fixed rate of 1.3388%. During the term of these interest rate swap agreements, we are required to make monthly fixed rate
payments of 1.3388%, on a weighted average basis, on the notional amounts, while the Counterparty is obligated to make monthly
floating rate payments based on one-month LIBOR to us referencing the same notional amounts. For purposes of hedge accounting
under Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 815, Derivatives and Hedging,
we have designated these interest rate swaps as cash flow hedges of interest rate risk. See Notes 6 and 7 to our consolidated financial
statements for additional information.
The following table contains summary information regarding our outstanding interest rate swaps (dollars in thousands):
Effective Date
July 1, 2016
July 1, 2016
July 1, 2016
September 1, 2016
April 1, 2017
May 1, 2017
July 1, 2017
Termination Date
June 1, 2021
June 1, 2021
June 1, 2021
June 1, 2021
April 1, 2022
April 1, 2022
July 1, 2022
$
$
Notional
Fixed Rate (1)
100,000
100,000
100,000
100,000
100,000
50,000
100,000
650,000
1.1055%
1.0210%
0.9000%
0.9560%
1.9570%
1.9610%
1.7820%
1.3388%(2)
(1)
The floating rate option for the interest rate swaps is one-month LIBOR. As of December 31, 2018, one-month LIBOR was
2.5027%.
(2) Represents the weighted average fixed rate of the interest rate swaps.
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Obligations and Commitments
The following table summarizes our contractual obligations and commitments as of December 31, 2018 for the next five
calendar years subsequent to December 31, 2018. We used one-month LIBOR as of December 31, 2018 to calculate interest expense
due by period on our floating rate debt and net interest expense due by period on our interest rate swaps.
Total
2019
Payments Due by Period (in thousands)
2021
2022
2020
Operating Properties Mortgage Debt
Principal payments
Interest expense
Total
817
$ 832,324 $
(1)
33,550
178,398
$1,010,722 $ 27,262 $ 27,352 $ 30,846 $ 34,367
782 $
30,064
744 $
26,608
716 $
26,546
2023
Thereafter
$ 20,598 $ 808,667
28,270
$ 53,958 $ 836,937
33,360
Held For Sale Property Mortgage Debt
Principal payments
Interest expense
$
Total
$
13,389 $
1,832
15,221 $
207 $
621
828 $
205 $
612
817 $
219 $ 12,758
—
599
818 $ 12,758
$
$
— $
—
— $
—
—
—
Total contractual obligations and
commitments
$1,025,943 $ 28,090 $ 28,169 $ 31,664 $ 47,125
$ 53,958 $ 836,937
(1)
Interest expense obligations includes the impact of expected settlements on interest rate swaps which have been entered into in
order to fix the interest rate on the hedged portion of our floating rate debt obligations. As of December 31, 2018, we had
entered into seven interest rate swap transactions with a combined notional amount of $650.0 million. We have allocated the
total impact of expected settlements on the $650.0 million notional amount of interest rate swaps to ‘Operating Properties
Mortgage Debt.’ We used one-month LIBOR as of December 31, 2018 to determine our expected settlements through the terms
of the interest rate swaps.
Capital Expenditures and Value-Add Program
We anticipate incurring average annual repairs and maintenance expense of $575 to $725 per apartment unit in connection with
the ongoing operations of our business. These expenditures are expensed as incurred. In addition, we reserve, on average,
approximately $250 to $350 per apartment unit for non-recurring capital expenditures and/or lender required replacement reserves.
When incurred, these expenditures are either capitalized or expensed, in accordance with GAAP, depending on the type of the
expenditure. Although we will continuously monitor the adequacy of this average, we believe these figures to be sufficient to maintain
the properties at a high level in the markets in which we operate. A majority of the properties in our Portfolio were underwritten and
acquired with the premise that we would invest $4,000 to $10,000 per unit in the first 36 months of ownership, in an effort to add
value to the asset’s exterior and interiors. In most cases, we reserved cash at closing to fund these planned capital expenditures and
value-add improvements. As of December 31, 2018, we had approximately $2.0 million of renovation value-add reserves for our
planned capital expenditures and other expenses to implement our value-add program, which will complete approximately 325
planned interior rehabs. The following table sets forth a summary of our capital expenditures related to our value-add program for the
years ended December 31, 2018, 2017 and 2016 (in thousands):
Rehab Expenditures
Interior
Exterior and common area
Total rehab expenditures
2018
For the Year Ended December 31,
2017
2016
(1)$
$
8,559 $
9,133
17,692 $
8,393 $
7,621
16,014 $
9,974
10,297
20,271
(1)
Includes total capital expenditures during the period on completed and in-progress interior rehabs. For the years ended
December 31, 2018, 2017 and 2016, we completed full and partial interior rehabs on 1,432, 1,588 and 1,812 units, respectively.
69
Freddie Mac Multifamily Green Advantage
In order to obtain more favorable pricing on our mortgage debt financing with Freddie Mac, we have decided to participate in
Freddie Mac’s new Multifamily Green Advantage program (the “Green Program”). In the second quarter of 2017, we escrowed
approximately $4.2 million to finance smarter, greener property improvements at 18 of our properties. In connection with the three
acquisitions and seven refinancings we completed in 2018, we escrowed approximately $1.2 million related to the Green Program.
Since the inception of the Green Program through December 31, 2018, we had spent approximately $2.5 million on green
improvements and completed 17 Green Programs. We expect to spend approximately $1.1 million on green improvements in 2019.
We expect to reduce water/sewer costs at each property where the Green Program is implemented by at least 15% through the
replacement of showerheads, plumbing fixtures and toilets with modern energy efficient upgrades. In 2018, for the 17 properties
where the Green Program was completed, this resulted in an estimated reduction of utility costs of approximately $1.4 million.
Emerging Growth Company
Section 107 of the JOBS Act provides that an emerging growth company can take advantage of the extended transition period
provided in Section 13(a) of the Exchange Act, for complying with new or revised accounting standards applicable to public
companies. In other words, an emerging growth company can delay the adoption of certain accounting standards until those standards
would otherwise apply to private companies. We have elected to take advantage of this extended transition period. As a result of this
election, our financial statements may not be comparable to companies that comply with public company effective dates for such new
or revised standards. We may elect to comply with public company effective dates at any time, and such election would be irrevocable
pursuant to Section 107(b) of the JOBS Act.
We could remain an “emerging growth company” until the earliest of (1) the last day of the fiscal year following the fifth
anniversary of becoming a public company, (2) the last day of the first fiscal year in which we have total annual gross revenue of
$1.07 billion or more, (3) the date on which we are deemed to be a “large accelerated filer” as defined in Rule 12b-2 under the
Exchange Act (which would occur if the market value of our common stock held by non-affiliates exceeds $700 million, measured as
of the last business day of our most recently completed second fiscal quarter, and we have been publicly reporting for at least 12
months) or (4) the date on which we have, during the preceding three year period, issued more than $1.0 billion in non-convertible
debt.
Income Taxes
We anticipate that we will continue to qualify to be taxed as a REIT for U.S. federal income tax purposes, and we intend to
continue to be organized and to operate in a manner that will permit us to qualify as a REIT. To qualify as a REIT, we must meet
certain organizational and operational requirements, including a requirement to distribute at least 90% of our annual REIT taxable
income to stockholders. As a REIT, we will be subject to federal income tax on our undistributed REIT taxable income and net capital
gain and to a 4% nondeductible excise tax on any amount by which distributions we pay with respect to any calendar year are less than
the sum of (1) 85% of our ordinary income, (2) 95% of our capital gain net income and (3) 100% of our undistributed income from
prior years. Taxable income from certain non-REIT activities is managed through a TRS and is subject to applicable federal, state, and
local income and margin taxes. We had no significant taxes associated with our TRS for the years ended December 31, 2018, 2017
and 2016.
If we fail to qualify as a REIT in any taxable year, we will be subject to U.S. federal income tax on our taxable income at
regular corporate income tax rates, and dividends paid to our stockholders would not be deductible by us in computing taxable
income. Any resulting corporate liability could be substantial and could materially and adversely affect our net income and net cash
available for distribution to stockholders. Unless we were entitled to relief under certain Code provisions, we also would be
disqualified from re-electing to be taxed as a REIT for the four taxable years following the year in which we failed to qualify to be
taxed as a REIT.
We evaluate the accounting and disclosure of tax positions taken or expected to be taken in the course of preparing our tax
returns to determine whether the tax positions are “more-likely-than-not” (greater than 50 percent probability) of being sustained by
the applicable tax authority. Tax positions not deemed to meet the more-likely-than-not threshold would be recorded as a tax benefit
or expense in the current year. Our management is required to analyze all open tax years, as defined by the statute of limitations, for
all major jurisdictions, which include federal and certain states. We have no examinations in progress and none are expected at this
time.
We recognize our tax positions and evaluate them using a two-step process. First, we determine whether a tax position is more
likely than not to be sustained upon examination, including resolution of any related appeals or litigation processes, based on the
technical merits of the position. Second, we will determine the amount of benefit to recognize and record the amount that is more
likely than not to be realized upon ultimate settlement.
70
We had no material unrecognized tax benefit or expense, accrued interest or penalties as of December 31, 2018. We and our
subsidiaries are subject to federal income tax as well as income tax of various state and local jurisdictions. The 2017, 2016 and 2015
tax years remain open to examination by tax jurisdictions to which our subsidiaries and we are subject. When applicable, we recognize
interest and/or penalties related to uncertain tax positions on our consolidated statements of operations and comprehensive income.
Dividends
We intend to make regular quarterly dividend payments to holders of our common stock. U.S. federal income tax law generally
requires that a REIT distribute annually at least 90% of its REIT taxable income, without regard to the deduction for dividends paid
and excluding net capital gains. As a REIT, we will be subject to federal income tax on our undistributed REIT taxable income and net
capital gain and to a 4% nondeductible excise tax on any amount by which distributions we pay with respect to any calendar year are
less than the sum of (1) 85% of our ordinary income, (2) 95% of our capital gain net income and (3) 100% of our undistributed income
from prior years. We intend to make regular quarterly dividend payments of all or substantially all of our taxable income to holders of
our common stock out of assets legally available for this purpose, if and to the extent authorized by our Board. Before we make any
dividend payments, whether for U.S. federal income tax purposes or otherwise, we must first meet both our operating requirements
and debt service on our debt payable. If our cash available for distribution is less than our taxable income, we could be required to sell
assets, borrow funds or raise additional capital to make cash dividends or we may make a portion of the required dividend in the form
of a taxable distribution of stock or debt securities.
We will make dividend payments based on our estimate of taxable earnings per share of common stock, but not earnings
calculated pursuant to GAAP. Our dividends and taxable income and GAAP earnings will typically differ due to items such as
depreciation and amortization, fair value adjustments, differences in premium amortization and discount accretion, and non-deductible
general and administrative expenses. Our quarterly dividends per share may be substantially different than our quarterly taxable
earnings and GAAP earnings per share. Our Board declared our fourth quarterly dividend of 2018 of $0.275 per share on October 29,
2018, which was paid on December 31, 2018 and funded out of cash flows from operations.
Off-Balance Sheet Arrangements
As of December 31, 2018 and 2017, we had no off-balance sheet arrangements that have or are reasonably likely to have a
current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity,
capital expenditures or capital resources.
Critical Accounting Policies and Estimates
Management’s discussion and analysis of financial condition and results of operations is based upon our consolidated financial
statements, which have been prepared in accordance with GAAP. The preparation of these financial statements requires our
management to make judgments, assumptions and estimates that affect the reported amounts of assets, liabilities, revenues and
expenses, and related disclosure of contingent assets and liabilities. We evaluate these judgments, assumptions and estimates for
changes that would affect the reported amounts. These estimates are based on management’s historical industry experience and on
various other judgments and assumptions that are believed to be reasonable under the circumstances. Actual results may differ from
these judgments, assumptions and estimates. Below is a discussion of the accounting policies that we consider critical to
understanding our financial condition or results of operations where there is uncertainty or where significant judgment is required. A
discussion of our significant accounting policies, including further discussion of the accounting policies described below, can be found
in Note 2 to our consolidated financial statements included in this annual report.
Principles of Consolidation
We account for subsidiary partnerships, joint ventures and other similar entities in which we hold an ownership interest in
accordance with FASB ASC 810, Consolidation. We first evaluate whether each entity is a VIE. Under the VIE model, we consolidate
an entity when we have control to direct the activities of the VIE and the obligation to absorb losses or the right to receive benefits that
could potentially be significant to the VIE. Under the voting model, we consolidate an entity when we control the entity through
ownership of a majority voting interest. The accompanying consolidated financial statements include the accounts of us and our
subsidiaries, including the OP and its subsidiaries.
71
Revenue Recognition
Our primary operations consist of rental income earned from our residents under lease agreements typically with terms of one
year or less. Rental income is recognized when earned. This policy effectively results in income recognition on the straight-line
method over the related terms of the leases. Resident reimbursements and other income consist of charges billed to residents for
utilities, carport and garage rental, and pets, administrative, application and other fees and are recognized when earned.
Real Estate Investments
Upon acquisition of a property, the purchase price and related acquisition costs (“total consideration”) are allocated to land,
buildings, improvements, furniture, fixtures, and equipment, and intangible lease assets in accordance with FASB ASC 805, Business
Combinations, and ASU 2017-01, Clarifying the Definition of a Business (Topic 805) (“ASU 2017-01”), which we early adopted on
October 1, 2016. We believe most future acquisition costs will be capitalized in accordance with ASU 2017-01. Prior to our adoption
of ASU 2017-01, acquisition costs were expensed as incurred.
The allocation of total consideration, which is determined using inputs that are classified within Level 3 of the fair value
hierarchy established by FASB ASC 820, Fair Value Measurement and Disclosures (see Note 7 to our consolidated financial
statements), is based on management’s estimate of the property’s “as-if” vacant fair value and is calculated by using all available
information such as the replacement cost of such asset, appraisals, property condition reports, market data and other related
information. The allocation of the total consideration to intangible lease assets represents the value associated with the in-place leases,
which may include lost rent, leasing commissions, legal and other related costs, which we, as buyer of the property, did not have to
incur to obtain the residents. If any debt is assumed in an acquisition, the difference between the fair value, which is estimated using
inputs that are classified within Level 2 of the fair value hierarchy, and the face value of debt is recorded as a premium or discount and
amortized as interest expense over the life of the debt assumed.
Real estate assets, including land, buildings, improvements, furniture, fixtures and equipment, and intangible lease assets are
stated at historical cost less accumulated depreciation and amortization. Costs incurred in making repairs and maintaining real estate
assets are expensed as incurred. Expenditures for improvements, renovations, and replacements are capitalized at cost.
Real estate assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount
of an asset may not be recoverable. In such cases, we will evaluate the recoverability of such real estate assets based on estimated
future cash flows and the estimated liquidation value of such real estate assets, and provide for impairment if such undiscounted cash
flows are insufficient to recover the carrying amount of the real estate asset. If impaired, the real estate asset will be written down to
its estimated fair value.
Recent Accounting Pronouncements
Section 107 of the JOBS Act provides that an emerging growth company can take advantage of the extended transition period
provided in Section 13(a) of the Exchange Act, for complying with new or revised accounting standards applicable to public
companies. In other words, an emerging growth company can delay the adoption of certain accounting standards until those standards
would otherwise apply to private companies. We have elected to take advantage of this extended transition period. As a result of this
election, our financial statements may not be comparable to companies that comply with public company effective dates for such new
or revised standards. We may elect to comply with public company effective dates at any time, and such election would be irrevocable
pursuant to Section 107(b) of the JOBS Act. The following recent accounting pronouncements reflect effective dates that delay the
adoption until those standards would otherwise apply to private companies.
In August 2017, the FASB issued ASU 2017-12, Derivatives and Hedging (Topic 815) (“ASU 2017-12”), which clarifies hedge
accounting requirements, improves disclosure of hedging arrangements, and better aligns risk management activities and financial
reporting for hedging relationships. We early adopted ASU 2017-12 on January 1, 2018, on a modified retrospective basis. For cash flow
hedges existing as of the date of adoption, we eliminated the separate measurement of ineffectiveness by means of a cumulative-effect
adjustment to accumulated OCI with a corresponding adjustment to the opening balance of accumulated earnings less dividends on
January 1, 2018. The cumulative-effect adjustment, which eliminated the cumulative ineffectiveness that was previously reported in
interest expense, resulted in an increase to OCI of approximately $1.4 million, with a corresponding decrease to accumulated earnings
less dividends.
72
In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (“ASU 2014-09”), which requires an entity
to recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to
which the entity expects to be entitled in exchange for those goods or services. An entity should also disclose sufficient quantitative and
qualitative information to enable users of financial statements to understand the nature, amount, timing, and uncertainty of revenue and
cash flows arising from contracts with customers. In August 2015, the FASB issued ASU 2015-14, Revenue from Contracts with
Customers – Deferral of the Effective Date, which amends ASU 2014-09 to defer the effective date by one year. The new standard is
effective for annual and interim periods in fiscal years beginning after December 15, 2018. Entities are allowed to use either the full or
modified retrospective approach when transitioning to the ASU. We will implement the provisions of ASU 2014-09 as of January 1, 2019
using the modified retrospective approach. The adoption of ASU 2014-09 will not have a material impact on our consolidated financial
statements as a substantial portion of our revenue consists of rental income from leasing arrangements, which is specifically excluded
from ASU 2014-09.
In January 2016, the FASB issued ASU 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities
(“ASU 2016-01”), which changes certain recognition, measurement, presentation, and disclosure requirements for financial instruments.
The ASU requires all equity investments, except those accounted for under the equity method of accounting or resulting in consolidation,
to be measured at fair value with changes in fair value recognized in net income. The ASU also simplifies the impairment assessment for
equity investments without readily determinable fair values, amends the presentation requirements for changes in the fair value of
financial liabilities, requires presentation of financial instruments by measurement category and form of financial asset, and eliminates the
requirement to disclose the methods and significant assumptions used in estimating the fair value of financial instruments. The ASU is
effective for annual and interim periods in fiscal years beginning after December 15, 2018. We will implement the provisions of ASU
2016-01 as of January 1, 2019. The adoption of ASU 2016-01 will not have a material impact on our consolidated financial statements as
we do not, nor do we expect to, have a material amount of financial assets or financial liabilities that would be subject to the provisions of
ASU 2016-01.
In February 2016, the FASB issued ASU 2016-02, Leases (“ASU 2016-02”), which supersedes the current accounting for leases
and while retaining two distinct types of leases, finance and operating, (1) requires lessees to record a right of use asset and a related
liability for the rights and obligations associated with a lease, regardless of lease classification, and recognize lease expense in a manner
similar to current accounting, (2) eliminates most real estate specific lease provisions and (3) aligns many of the underlying lessor model
principles with those in the new revenue standard. Leases with a term of 12 months or less will be accounted for similar to existing
guidance for operating leases today. The ASU is effective for annual and interim periods in fiscal years beginning after December 15,
2019. Entities are required to use a modified retrospective approach when transitioning to the ASU for leases that exist as of or are
entered into after the beginning of the earliest comparative period presented in the financial statements. We expect to implement the
provisions of ASU 2016-02 as of January 1, 2020. As lessors, substantially all of our agreements have a term of 12 months or less. Based
on a preliminary assessment, we expect most of our operating leases will be subject to the new guidance and recognized as operating
lease liabilities and right-of-use assets upon adoption, resulting in an immaterial increase in the assets and liabilities on our consolidated
balance sheets. We are continuing our evaluation, which may identify additional impacts this standard will have on our consolidated
financial statements and related disclosures.
In July 2018, the FASB issued ASU 2018-11, Leases – Targeted Improvements (“ASU 2018-11”), which provides entities with
relief from the costs of implementing certain aspects of ASU 2016-02. The ASU provides a practical expedient which allows lessors to
not separate lease and non-lease components in a contract and allocate the consideration in the contract to the separate components if both
(i) the timing and pattern of revenue recognition for the non-lease component and the related lease component are the same and (ii) the
combined single lease component would be classified as an operating lease. We intend to elect the practical expedient to account for lease
and non-lease components as a single component in lease contracts where we are the lessor. The ASU also provides a transition option
that permits entities to not recast the comparative periods presented when transitioning to the standard. We also intend to elect the
transition option.
73
In August 2018, the SEC adopted SEC Release No. 33-10532, Disclosure Update and Simplification (the “SEC Release”), which
amends certain disclosure requirements that were redundant, duplicative, overlapping or superseded by other SEC disclosure
requirements or GAAP. The amendments generally eliminated or otherwise reduced certain disclosure requirements of various SEC rules
and regulations. However, in some cases, the amendments require additional information to be disclosed, including changes in
stockholders’ equity in interim periods. Under the SEC Release, registrants will be required to disclose in interim periods on Form 10-Q
the changes in each caption of stockholders’ equity and noncontrolling interests for the current and comparative year-to-date periods, with
subtotals for each interim period and the amount of dividends per share for each class of shares. The amendments require registrants,
including smaller reporting companies, to provide information as prescribed by Rule 3-04 of Regulation S-X. Therefore, the interim
disclosures of changes in stockholders’ equity, including dividends per share amounts, may be given in a note to the financial statements
or in a separate financial statement. Under Rule 3-04, the interim disclosures of the changes in stockholders’ equity should be in the form
of a reconciliation of the beginning balance to the ending balance for each period for which an income statement is required to be filed,
with all significant reconciling items described by appropriate captions. The reconciliation should also reflect any adjustments to the
balance at the beginning of the earliest period presented for items retroactively applied to periods prior to that period. We adopted the
provisions of the SEC Release on September 30, 2018, on a retrospective basis.
Inflation
The real estate market has not been affected significantly by inflation in the past several years due to a relatively low inflation
rate. The majority of our lease terms are for a period of one year or less and reset to market if renewed. The majority of our leases also
contain protection provisions applicable to reimbursement billings for utilities. Should inflation return, due to the short-term nature of
our leases, we do not believe our results will be materially affected.
Inflation may also affect the overall cost of debt, as the implied cost of capital increases. Currently, interest rates are less than
historical averages. However, the Federal Reserve, in response to or in anticipation of continued inflation concerns, could continue to
raise interest rates. We intend to mitigate these risks through long-term fixed interest rate loans and interest rate hedges, which to date
have included interest rate cap and interest rate swap agreements.
REIT Tax Election
We have elected to be taxed as a REIT under Sections 856 through 860 of the Code and expect to continue to qualify as a REIT.
To qualify as a REIT, we must meet a number of organizational and operational requirements, including a requirement that we
distribute at least 90% of our “REIT taxable income,” as defined by the Code, to our stockholders. Taxable income from certain non-
REIT activities is managed through a TRS and is subject to applicable federal, state, and local income and margin taxes. We had no
significant taxes associated with our TRS for the years ended December 31, 2018, 2017 and 2016. We believe we qualify for taxation
as a REIT under the Code, and we intend to continue to operate in such a manner, but no assurance can be given that we will operate
in a manner so as to qualify as a REIT.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Market risk is the adverse effect on the value of assets and liabilities that results from a change in market conditions. Our
primary market risk exposure is interest rate risk with respect to our indebtedness and counterparty credit risk with respect to our
interest rate derivatives. In order to minimize counterparty credit risk, we enter into and expect to enter into hedging arrangements
only with major financial institutions that have high credit ratings. As of December 31, 2018, we had total indebtedness of $845.7
million at a weighted average interest rate of 4.07%, of which $808.0 million was debt with a floating interest rate. The interest rate
swap agreements we have entered into effectively fix the interest rate on $650.0 million, or 80%, of our $808.0 million of floating rate
mortgage debt outstanding (see below). As of December 31, 2018, the adjusted weighted average interest rate of our total indebtedness
was 3.13%. For purposes of calculating the adjusted weighted average interest rate of the total indebtedness, we have included the
weighted average fixed rate of 1.3388% for one-month LIBOR on the $650.0 million notional amount of interest rate swap
agreements that we have entered into as of December 31, 2018, which effectively fix the interest rate on $650.0 million of our floating
rate mortgage debt outstanding.
An increase in interest rates could make the financing of any acquisition by us costlier. Rising interest rates could also limit our
ability to refinance our debt when it matures or cause us to pay higher interest rates upon refinancing and increase interest expense on
refinanced indebtedness. We may manage, or hedge, interest rate risks related to our borrowings by means of interest rate cap and
interest rate swap agreements. As of December 31, 2018, the interest rate cap agreements we have entered into effectively cap one-
month LIBOR on $255.2 million of our floating rate mortgage debt at a weighted average rate of 5.82% for the term of the
agreements, which is generally 3 to 4 years. We also expect to manage our exposure to interest rate risk by maintaining a mix of fixed
and floating rates for our indebtedness.
74
In order to fix a portion of, and mitigate the risk associated with, our floating rate indebtedness (without incurring substantial
prepayment penalties or defeasance costs typically associated with fixed rate indebtedness when repaid early or refinanced), we,
through the OP, have entered into seven interest rate swap transactions with the Counterparty with a combined notional amount of
$650.0 million. The interest rate swaps we have entered into effectively replace the floating interest rate (one-month LIBOR) with
respect to that amount with a weighted average fixed rate of 1.3388%. During the term of these interest rate swap agreements, we are
required to make monthly fixed rate payments of 1.3388%, on a weighted average basis, on the notional amounts, while the
Counterparty is obligated to make monthly floating rate payments based on one-month LIBOR to us referencing the same notional
amounts. We have designated these interest rate swaps as cash flow hedges of interest rate risk.
Until our interest rates reach the caps provided by our interest rate cap agreements, each quarter point change in LIBOR would
result in an approximate increase to annual interest expense costs on our floating rate indebtedness, reduced by any payments due
from the Counterparty under the terms of the interest rate swap agreements we had entered into as of December 31, 2018, of the
amounts illustrated in the table below for our indebtedness as of December 31, 2018 (dollars in thousands):
Change in Interest Rates
0.25%
0.50%
0.75%
1.00%
Annual Increase to Interest Expense
$
400
800
1,200
1,600
There is no assurance that we would realize such expense as such changes in interest rates could alter our liability positions or
strategies in response to such changes.
We may also be exposed to credit risk in the derivative financial instruments we use. Credit risk is the failure of the counterparty
to perform under the terms of the derivative financial instruments. If the fair value of a derivative financial instrument is positive, the
counterparty will owe us, which creates credit risk for us. If the fair value of a derivative financial instrument is negative, we will owe
the counterparty and, therefore, do not have credit risk. We seek to minimize the credit risk in derivative financial instruments by
entering into transactions with major financial institutions that have high credit ratings.
In July 2017, the Financial Conduct Authority (the authority that regulates LIBOR) announced it intends to stop compelling
banks to submit rates for the calculation of LIBOR after 2021. The ARRC has proposed that SOFR is the rate that represents best
practice as the alternative to USD-LIBOR for use in derivatives and other financial contracts that are currently indexed to USD-
LIBOR. ARRC has proposed a paced market transition plan to SOFR from USD-LIBOR and organizations are currently working on
industry wide and company specific transition plans as it relates to derivatives and cash markets exposed to USD-LIBOR. We have
material contracts that are indexed to USD-LIBOR and are monitoring this activity and evaluating the related risks.
Item 8. Financial Statements and Supplementary Data
The information required by this Item 8 is included in our consolidated financial statements and the notes thereto beginning on
page F-1 in this Annual Report on Form 10-K.
Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure
None.
Item 9A. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
As required by Rule 13a-15(b) and Rule 15d-15(b) under the Exchange Act, our management, including our President and Chief
Financial Officer, evaluated, as of December 31, 2018, the effectiveness of our disclosure controls and procedures as defined in
Exchange Act Rule 13a-15(e) and Rule 15d-15(e). Based on that evaluation, our President and Chief Financial Officer concluded that
our disclosure controls and procedures were effective as of December 31, 2018, to provide reasonable assurance that information
required to be disclosed by us in reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported
within the time periods specified by the rules and forms of the Exchange Act and is accumulated and communicated to management,
including the President and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosures.
We believe, however, that a controls system, no matter how well designed and operated, cannot provide absolute assurance that
the objectives of the controls systems are met, and no evaluation of controls can provide absolute assurance that all control issues and
instances of fraud or error, if any, within a company have been detected.
75
Management’s Annual Report on Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting (as that term
is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) and for our assessment of the effectiveness of internal control
over financial reporting. Our internal control over financial reporting is a process designed under the supervision of our President and
our Chief Financial Officer, and effected by our Board of Directors, management and other personnel, to provide reasonable assurance
regarding the reliability of financial reporting and the preparation of the financial statements for external purposes in accordance with
U.S. generally accepted accounting principles.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also,
projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of
changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Our management, including our President and Chief Financial Officer, has conducted an assessment of the effectiveness of our
internal control over financial reporting as of December 31, 2018, based on the framework established in Internal Control – Integrated
Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on our assessment
under the criteria described above, management has concluded that our internal control over financial reporting was effective as of
December 31, 2018.
Attestation Report of the Independent Registered Public Accounting Firm
As long as we remain an “emerging growth company,” as defined in the JOBS Act, we will not be required to comply with the
auditor attestation requirements related to internal controls over financial reporting pursuant to Section 404(b) of the Sarbanes-Oxley
Act.
Changes in Internal Control over Financial Reporting
There has been no change in internal control over financial reporting that occurred during the quarter ended December 31, 2018
that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
Item 9B. Other Information
None.
76
Item 10. Directors, Executive Officers and Corporate Governance
PART III
The information required in response to this Item 10 is incorporated herein by reference to our definitive proxy statement to be
filed with the SEC pursuant to Regulation 14A promulgated under the Exchange Act not later than 120 days after the end of the fiscal
year covered by this Annual Report on Form 10-K.
Item 11. Executive Compensation
The information required in response to this Item 11 is incorporated herein by reference to our definitive proxy statement to be
filed with the SEC pursuant to Regulation 14A promulgated under the Exchange Act not later than 120 days after the end of the fiscal
year covered by this Annual Report on Form 10-K.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
The information required in response to this Item 12 is incorporated herein by reference to our definitive proxy statement to be
filed with the SEC pursuant to Regulation 14A promulgated under the Exchange Act not later than 120 days after the end of the fiscal
year covered by this Annual Report on Form 10-K.
Item 13. Certain Relationships and Related Transactions, and Director Independence
The information required in response to this Item 13 is incorporated herein by reference to our definitive proxy statement to be
filed with the SEC pursuant to Regulation 14A promulgated under the Exchange Act not later than 120 days after the end of the fiscal
year covered by this Annual Report on Form 10-K.
Item 14. Principal Accountant Fees and Services
The information required in response to this Item 14 is incorporated herein by reference to our definitive proxy statement to be
filed with the SEC pursuant to Regulation 14A promulgated under the Exchange Act not later than 120 days after the end of the fiscal
year covered by this Annual Report on Form 10-K.
77
Item 15. Exhibits and Financial Statement Schedules
(a) The following documents are filed as part of this Report:
PART IV
1. Financial Statements. See Index to Consolidated Financial Statements and Schedules of NexPoint Residential Trust, Inc. on
page F-1 of this Report.
2. Financial Statement Schedules. See Index to Consolidated Financial Statements and Schedules of NexPoint Residential Trust,
Inc. on page S-1 of this Report. All other schedules are omitted because they are not required, are inapplicable, or the required
information is included in the financial statements or notes thereto.
3. Exhibits. The exhibits filed with this Report are set forth in the Exhibit Index.
78
Exhibit Number
EXHIBIT INDEX
Description
2.1
3.1
3.2
10.1
10.2*
10.3
10.4
10.5
10.6
10.7
10.8
10.9
10.10
10.11
10.12
10.13
10.14
Separation and Distribution Agreement (incorporated by reference to Exhibit 2.1 to the Company’s Registration
Statement on Form 10 filed with the SEC on March 12, 2015)
Articles of Amendment and Restatement of NexPoint Residential Trust, Inc. (incorporated by reference to
Exhibit 3.1 to the Company’s Current Report on 8-K filed with the SEC on June 15, 2016)
Amended and Restated Bylaws of NexPoint Residential Trust, Inc. (incorporated by reference to Exhibit 3.2 to the
Company’s Registration Statement on Form 10 filed with the SEC on March 12, 2015)
Amended and Restated Limited Partnership Agreement of NexPoint Residential Trust Operating Partnership, L.P.
(incorporated by reference to Exhibit 10.2 to the Company’s Quarterly Report on Form 10-Q for the quarter ended June
30, 2017, filed with the SEC on August 1, 2017)
First Amendment to Amended and Restated Limited Partnership Agreement of NexPoint Residential Trust
Operating Partnership, L.P.
Advisory Agreement by and among NexPoint Residential Trust, Inc., NexPoint Residential Trust Operating
Partnership, L.P. and NexPoint Real Estate Advisors, L.P. (incorporated by reference to Exhibit 10.2 to the Company’s
Quarterly Report on Form 10-Q for the quarter ended March 31, 2015, filed with the SEC on May 15, 2015)
Amendment to Advisory Agreement, dated June 15, 2016, by and among the Company, NexPoint Residential Trust
Operating Partnership, L.P. and NexPoint Real Estate Advisors, L.P. (incorporated by reference to Exhibit 10.1 to
the Company’s Current Report on 8-K filed with the SEC on June 15, 2016)
Registration Rights Agreement by and between NexPoint Residential Trust, Inc. and NexPoint Real Estate Advisors,
L.P. (incorporated by reference to Exhibit 10.3 to the Company’s Quarterly Report on Form 10-Q for the quarter
ended March 31, 2015, filed with the SEC on May 15, 2015)
Form of Director and Officer Indemnification Agreement (incorporated by reference to Exhibit 10.4 to the
Company’s Registration Statement on Form 10 filed with the SEC on January 9, 2015)
NexPoint Residential Trust, Inc. 2016 Long Term Incentive Plan (incorporated by reference to Exhibit 10.2 to the
Company’s Current Report on 8-K filed with the SEC on June 15, 2016)
Confirmation of swap transaction, dated May 18, 2016, from KeyBank National Association to NexPoint Residential
Trust Operating Partnership, L.P. (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on 8-
K filed with the SEC on May 19, 2016)
Confirmation of swap transaction, dated June 13, 2016, from KeyBank National Association to NexPoint Residential
Trust Operating Partnership, L.P. (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on 8-
K filed with the SEC on June 17, 2016)
Confirmation of swap transaction, dated June 30, 2016, from KeyBank National Association to NexPoint Residential
Trust Operating Partnership, L.P. (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on 8-
K filed with the SEC on July 1, 2016)
Confirmation of swap transaction, dated August 12, 2016, from KeyBank National Association to NexPoint
Residential Trust Operating Partnership, L.P. (incorporated by reference to Exhibit 10.1 to the Company’s Current
Report on 8-K filed with the SEC on August 16, 2016)
Confirmation of swap transaction, dated March 27, 2017, from KeyBank National Association to NexPoint
Residential Trust Operating Partnership, L.P. (incorporated by reference to Exhibit 10.1 to the Company’s Current
Report on Form 8-K filed with the SEC on March 28, 2017)
Confirmation of swap transaction, dated June 14, 2017, from KeyBank National Association to NexPoint Residential
Trust Operating Partnership, L.P. (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on
Form 8-K filed with the SEC on June 15, 2017)
Form of Restricted Stock Units Agreement (Officers) (incorporated by reference to Exhibit 10.12 to the Company’s
Annual Report on Form 10-K for the year ended December 31, 2016, filed with the SEC on March 15, 2017)
79
10.15
21.1*
23.1*
31.1*
31.2*
32.1+
Form of Restricted Stock Units Agreement (Directors) (incorporated by reference to Exhibit 10.13 to the Company’s
Annual Report on Form 10-K for the year ended December 31, 2016, filed with the SEC on March 15, 2017)
List of Subsidiaries of NexPoint Residential Trust, Inc.
Consent of KPMG LLP
Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
Certification of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes- Oxley Act of 2002
101.INS*
XBRL Instance Document
101.SCH*
XBRL Taxonomy Extension Schema Document
101.CAL*
XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF*
XBRL Taxonomy Extension Definition Linkbase Document
101.LAB*
XBRL Taxonomy Extension Label Linkbase Document
101.PRE*
XBRL Taxonomy Extension Presentation Linkbase Document
*
+
Filed herewith.
Furnished herewith.
80
Pursuant to the requirements of Section 13 or 15(d) 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.
SIGNATURES
February 19, 2019
NEXPOINT RESIDENTIAL TRUST, INC.
/s/ Jim Dondero
Jim Dondero
President and Principal Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons
on behalf of the registrant and in the capacities and on the dates indicated.
Signature
Title
/s/ Jim Dondero
Jim Dondero
/s/ Brian Mitts
Brian Mitts
/s/ Edward Constantino
Edward Constantino
/s/ Dr. Arthur Laffer
Dr. Arthur Laffer
/s/ Scott Kavanaugh
Scott Kavanaugh
President and Director
(Principal Executive Officer)
Chief Financial Officer and Director
(Principal Financial Officer and Principal
Accounting Officer)
Director
Director
Director
Date
February 19, 2019
February 19, 2019
February 19, 2019
February 19, 2019
February 19, 2019
81
INDEX TO FINANCIAL STATEMENTS
Financial Statements
NexPoint Residential Trust, Inc.—Consolidated Financial Statements
Report of Independent Registered Public Accounting Firm
Consolidated Balance Sheets as of December 31, 2018 and 2017
Consolidated Statements of Operations and Comprehensive Income for the Years Ended December 31, 2018, 2017 and
2016
Consolidated Statements of Equity for the Years Ended December 31, 2018, 2017 and 2016
Consolidated Statements of Cash Flows for the Years Ended December 31, 2018, 2017 and 2016
Notes to Consolidated Financial Statements
Financial Statements Schedules
Schedule III—Real Estate and Accumulated Depreciation
Page
F-2
F-3
F-4
F-5
F-6
F-8
S-1
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Stockholders and Board of Directors
NexPoint Residential Trust, Inc.:
Opinion on the Consolidated Financial Statements
We have audited the accompanying consolidated balance sheets of NexPoint Residential Trust, Inc. and subsidiaries (the Company) as
of December 31, 2018 and 2017, the related consolidated statements of operations and comprehensive income, equity, and cash flows
for each of the years in the three year period ended December 31, 2018, and the related notes and financial statement Schedule III Real
Estate and Accumulated Depreciation (collectively, the consolidated financial statements). In our opinion, the consolidated financial
statements present fairly, in all material respects, the financial position of the Company as of December 31, 2018 and 2017, and the
results of its operations and its cash flows for each of the years in the three year period ended December 31, 2018, in conformity with
U.S. generally accepted accounting principles.
Basis for Opinion
These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audits. We are a public accounting firm registered with the Public
Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in
accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission
and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to
error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial
reporting. As part of our audits, we are required to obtain an understanding of internal control over financial reporting but not for the
purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we
express no such opinion.
Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements,
whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test
basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the
accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the
consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ KPMG LLP
We have served as the Company’s auditor since 2014.
Dallas, Texas
February 19, 2019
F-2
NEXPOINT RESIDENTIAL TRUST, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share amounts)
December 31, 2018 December 31, 2017
ASSETS
Operating Real Estate Investments
Land
Buildings and improvements
Intangible lease assets
Construction in progress
Furniture, fixtures, and equipment
Total Gross Operating Real Estate Investments
Accumulated depreciation and amortization
Total Net Operating Real Estate Investments
Real estate held for sale, net of accumulated depreciation of $897 and $3,397,
respectively
Total Net Real Estate Investments
Cash and cash equivalents
Restricted cash
Accounts receivable
Prepaid and other assets
Fair market value of interest rate swaps
TOTAL ASSETS
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Mortgages payable, net
Mortgages payable held for sale, net
Credit facility, net
Bridge facility, net
Accounts payable and other accrued liabilities
Accrued real estate taxes payable
Accrued interest payable
Security deposit liability
Prepaid rents
Total Liabilities
$
$
$
202,347 $
935,604
3,049
1,881
61,456
1,204,337
(134,124)
1,070,213
17,329
1,087,542
19,864
23,265
3,340
9,058
18,141
1,161,210 $
824,702 $
13,318
—
—
5,765
12,607
2,852
1,889
1,482
862,615
189,615
806,981
1,340
3,786
44,725
1,046,447
(88,252)
958,195
32,961
991,156
16,036
27,212
2,932
1,559
16,480
1,055,375
724,057
30,348
29,843
8,576
6,226
9,684
2,074
1,518
1,470
813,796
Redeemable noncontrolling interests in the Operating Partnership
2,567
2,135
Stockholders' Equity:
Preferred stock, $0.01 par value: 100,000,000 shares authorized; 0 shares issued
Common stock, $0.01 par value: 500,000,000 shares authorized; 23,499,635 and
21,049,565 shares issued and outstanding, respectively
Additional paid-in capital
Accumulated earnings less dividends
Accumulated other comprehensive income
Total Stockholders' Equity
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY
$
—
—
234
285,511
(6,764)
17,047
296,028
1,161,210 $
210
206,227
19,288
13,719
239,444
1,055,375
See Notes to Consolidated Financial Statements
F-3
NEXPOINT RESIDENTIAL TRUST, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE INCOME
(in thousands, except per share amounts)
For the Year Ended December 31,
2017
2016
2018
Revenues
Rental income
Other income
Total revenues
Expenses
Property operating expenses
Acquisition costs
Real estate taxes and insurance
Property management fees (1)
Advisory and administrative fees (2)
Corporate general and administrative expenses
Property general and administrative expenses
Depreciation and amortization
Total expenses
Operating income
Interest expense
Loss on extinguishment of debt and modification costs
Gain on sales of real estate
Net income (loss)
Net income attributable to noncontrolling interests
Net income (loss) attributable to redeemable noncontrolling interests in
the Operating Partnership
Net income (loss) attributable to common stockholders
Other comprehensive income
Unrealized gains on interest rate derivatives
Total comprehensive income
Comprehensive income attributable to noncontrolling interests
Comprehensive income attributable to redeemable noncontrolling
interests in the Operating Partnership
Comprehensive income attributable to common stockholders
Weighted average common shares outstanding - basic
Weighted average common shares outstanding - diluted
Earnings (loss) per share - basic
Earnings (loss) per share - diluted
Dividends declared per common share
$
$
$
$
$
127,964 $
18,633
146,597
$
125,023
19,212
144,235
35,824
—
20,713
4,382
7,474
7,808
6,134
47,470
129,805
16,792
(28,572)
(3,576)
13,742
(1,614)
—
38,850
—
19,161
4,330
7,419
6,275
6,159
48,752
130,946
13,289
(29,576)
(5,719)
78,365
56,359
2,836
$
(5)
(1,609) $
149
53,374
$
1,931
317
—
4,568
60,927
2,720
1
316 $
166
58,041
$
21,189
21,667
21,057
21,399
(0.08) $
(0.08) $
2.53
2.49
$
$
115,419
17,429
132,848
38,236
386
16,062
3,983
6,802
4,014
5,877
35,643
111,003
21,845
(20,167)
(1,722)
25,932
25,888
4,006
—
21,882
10,833
36,721
5,090
—
31,631
21,232
21,314
1.03
1.03
1.025 $
0.910
$
0.838
(1)
(2)
Fees incurred to an unaffiliated third party that is an affiliate of the noncontrolling limited partner of the Company’s Operating
Partnership (see Notes 10 and 11).
Fees incurred to the Adviser (see Note 11).
See Notes to Consolidated Financial Statements
F-4
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O
NEXPOINT RESIDENTIAL TRUST, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
For the Year Ended December 31,
2018
2017
2016
$
(1,614) $
56,359 $
25,888
Cash flows from operating activities
Net income (loss)
Adjustments to reconcile net income (loss) to net cash provided by
operating activities:
Gain on sales of real estate
Depreciation and amortization
Amortization/write-off of deferred financing costs
Change in fair value on derivative instruments included in interest
expense
Net cash received (paid) on derivative settlements
Amortization/write-off of fair market value adjustment of assumed
debt
Vesting of stock-based compensation
Changes in operating assets and liabilities, net of effects of acquisitions:
Operating assets
Operating liabilities
Net cash provided by operating activities
Cash flows from investing activities
Net proceeds from sales of real estate
Prepaid acquisition deposits
Additions to real estate investments
Acquisitions of real estate investments
Net cash provided by (used in) investing activities
Cash flows from financing activities
Mortgage proceeds received
Mortgage payments
Credit facilities proceeds received
Credit facilities payments
Bridge facilities proceeds received
Bridge facilities payments
Deferred financing costs paid
Interest rate cap fees paid
Proceeds from the issuance of common shares through public offering,
net
Repurchase of common stock
Dividends paid to common stockholders
Distributions to redeemable noncontrolling interests in the Operating
Partnership
Contributions from noncontrolling interests
Distributions to noncontrolling interests
Purchase of noncontrolling interests
Net cash provided by (used in) financing activities
(13,742)
47,470
3,062
(3,948)
3,832
(169)
4,198
209
2,445
41,743
29,553
(7,653)
(28,481)
(130,373)
(136,954)
232,252
(148,942)
55,000
(85,000)
30,000
(38,597)
(2,410)
(56)
84,782
(9,672)
(22,265)
—
—
—
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95,092
(78,365)
48,752
2,998
1,311
(921)
(206)
3,109
1,150
3,319
37,506
224,416
—
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(197,649)
2,324
613,213
(276,235)
25,000
(310,000)
65,875
(87,278)
(4,047)
(18)
—
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(19,258)
(69)
38
(4,789)
(51,840)
(51,843)
Net decrease in cash, cash equivalents and restricted cash
Cash, cash equivalents and restricted cash, beginning of period
Cash, cash equivalents and restricted cash, end of period
(119)
43,248
43,129 $
(12,013)
55,261
43,248 $
$
See Notes to Consolidated Financial Statements
F-6
(25,932)
35,643
2,121
(646)
(872)
(150)
825
(578)
(2,523)
33,776
131,786
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(159,346)
(51,904)
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315,000
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(3,842)
—
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(17,784)
—
30
(6,571)
(1,381)
10,294
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63,095
55,261
NEXPOINT RESIDENTIAL TRUST, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Supplemental Disclosure of Cash Flow Information
Interest paid
Prepayment penalties and defeasance costs paid
Supplemental Disclosure of Noncash Activities
Issuance of operating partnership units for purchase of noncontrolling
interests
Capitalized construction costs included in accounts payable and other
accrued liabilities
Change in fair value on derivative instruments designated as hedges
Other assets acquired from acquisitions
Liabilities assumed from acquisitions
Assumed debt on acquisitions
Fair market value adjustment of assumed debt
Increase in dividends payable on restricted stock units
$
30,261 $
1,706
25,467 $
2,701
—
1,715
1,931
76
1,382
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336
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2,263
4,568
325
849
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244
19,935
827
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1,494
10,833
87
738
15,812
863
89
See Notes to Consolidated Financial Statements
F-7
NEXPOINT RESIDENTIAL TRUST, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Organization and Description of Business
NexPoint Residential Trust, Inc. (the “Company”, “we”, “our”) was incorporated in Maryland on September 19, 2014, and has
elected to be taxed as a real estate investment trust (“REIT”). The Company is focused on “value-add” multifamily investments primarily
located in the Southeastern and Southwestern United States. Substantially all of the Company’s business is conducted through NexPoint
Residential Trust Operating Partnership, L.P. (the “OP”), the Company’s operating partnership. The Company owns its properties (the
“Portfolio”) through the OP and its wholly owned taxable REIT subsidiary (“TRS”). The OP owns approximately 99.9% of the Portfolio;
the TRS owns approximately 0.1% of the Portfolio. The Company’s wholly owned subsidiary, NexPoint Residential Trust Operating
Partnership GP, LLC (the “OP GP”), is the sole general partner of the OP. As of December 31, 2018, there were 23,819,402 common
units in the OP (“OP Units”) outstanding, of which 23,746,169, or 99.7%, were owned by the Company and 73,233, or 0.3%, were owned
by a noncontrolling limited partner (see Note 10).
The Company began operations on March 31, 2015 as a result of the transfer and contribution by NexPoint Strategic
Opportunities Fund (fka NexPoint Credit Strategies Fund) (“NHF”) of all but one of the multifamily properties owned by NHF
through its wholly owned subsidiary NexPoint Real Estate Opportunities, LLC (fka Freedom REIT, LLC) (“NREO”). We use the term
“predecessor” to mean the carve-out business of NREO. On March 31, 2015, NHF distributed all of the outstanding shares of the
Company’s common stock held by NHF to holders of NHF common shares. We refer to the distribution of our common stock by NHF
as the “Spin-Off.”
The Company is externally managed by NexPoint Real Estate Advisors, L.P. (the “Adviser”), through an agreement dated
March 16, 2015, as amended, and renewed on February 13, 2019 for a one-year term set to expire on March 16, 2020 (the “Advisory
Agreement”), by and among the Company, the OP and the Adviser. The Adviser conducts substantially all of the Company’s
operations and provides asset management services for its real estate investments. The Company expects it will only have accounting
employees while the Advisory Agreement is in effect. All of the Company’s investment decisions are made by the Adviser, subject to
general oversight by the Adviser’s investment committee and the Company’s board of directors (the “Board”). The Adviser is wholly
owned by NexPoint Advisors, L.P., which is an affiliate of Highland Capital Management, L.P. (the “Sponsor” or “Highland”).
The Company’s investment objectives are to maximize the cash flow and value of properties owned, acquire properties with
cash flow growth potential, provide quarterly cash distributions and achieve long-term capital appreciation for its stockholders through
targeted management and a value-add program. Consistent with the Company’s policy to acquire assets for both income and capital
gain, the Company intends to hold at least majority interests in its properties for long-term appreciation and to engage in the business
of directly or indirectly acquiring, owning, and operating well-located multifamily properties with a value-add component in large
cities and suburban submarkets of large cities primarily in the Southeastern and Southwestern United States consistent with its
investment objectives. Economic and market conditions may influence the Company to hold properties for different periods of time.
From time to time, the Company may sell a property if, among other deciding factors, the sale would be in the best interest of its
stockholders.
The Company may also participate with third parties in property ownership through limited liability companies (“LLCs”), funds
or other types of co-ownership or acquire real estate or interests in real estate in exchange for the issuance of common stock, OP
Units, preferred stock or options to purchase stock. These types of investments may permit the Company to own interests in larger
assets without unduly restricting diversification, which provides flexibility in structuring the Company’s portfolio.
The Company may allocate up to 30% of the Portfolio to investments in real estate-related debt and securities with the potential
for high current income or total returns. These allocations may include first and second mortgages and subordinated, bridge,
mezzanine, construction and other loans, as well as debt securities related to or secured by multifamily real estate and common and
preferred equity securities, which may include securities of other REITs or real estate companies.
2. Summary of Significant Accounting Policies
Predecessor
With the exception of a nominal amount of initial cash funded at inception, the Company did not own any assets prior to March
31, 2015. The business and operations of the Company prior to March 31, 2015 occurred under the predecessor. The predecessor
included all of the properties in the Portfolio that were held directly or indirectly by NREO prior to the Spin-Off that occurred on
March 31, 2015. However, the Company’s consolidated financial statements reflect operations of the predecessor through March 31,
2015 as if they were incurred by the Company. The predecessor was determined in accordance with the rules and regulations of the
U.S. Securities and Exchange Commission (“SEC”). References throughout these consolidated financial statements to the “Company”,
“we”, or “our”, include the activity of the predecessor defined above.
F-8
Basis of Accounting
The accompanying consolidated financial statements are presented in accordance with accounting principles generally accepted
in the United States (“GAAP”). GAAP requires management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and the disclosure of contingent liabilities at the dates of the consolidated financial statements and the amounts of
revenues and expenses during the reporting periods. Actual amounts realized or paid could differ from those estimates. All significant
intercompany accounts and transactions have been eliminated in consolidation. There have been no significant changes to the
Company’s significant accounting policies during the year ended December 31, 2018.
Principles of Consolidation
The Company accounts for subsidiary partnerships, joint ventures and other similar entities in which it holds an ownership
interest in accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 810,
Consolidation. The Company first evaluates whether each entity is a variable interest entity (“VIE”). Under the VIE model, the
Company consolidates an entity when it has control to direct the activities of the VIE and the obligation to absorb losses or the right to
receive benefits that could potentially be significant to the VIE. Under the voting model, the Company consolidates an entity when it
controls the entity through ownership of a majority voting interest. The consolidated financial statements include the accounts of the
Company and its subsidiaries, including the OP and its subsidiaries.
Revenue Recognition
The Company’s primary operations consist of rental income earned from its residents under lease agreements typically with
terms of one year or less. Rental income is recognized when earned. This policy effectively results in income recognition on the
straight-line method over the related terms of the leases. Resident reimbursements and other income consist of charges billed to
residents for utilities, carport and garage rental, and pets, administrative, application and other fees and are recognized when earned.
Real Estate Investments
Upon acquisition of a property, the purchase price and related acquisition costs (“total consideration”) are allocated to land,
buildings, improvements, furniture, fixtures, and equipment, and intangible lease assets in accordance with FASB ASC 805, Business
Combinations, and Accounting Standards Update (“ASU”) 2017-01, Clarifying the Definition of a Business (Topic 805) (“ASU 2017-
01”), which the Company early adopted on October 1, 2016. The Company believes most future acquisition costs will be capitalized
in accordance with ASU 2017-01. Prior to the Company’s adoption of ASU 2017-01, acquisition costs were expensed as incurred.
The allocation of total consideration, which is determined using inputs that are classified within Level 3 of the fair value
hierarchy established by FASB ASC 820, Fair Value Measurement and Disclosures (“ASC 820”) (see Note 7), is based on
management’s estimate of the property’s “as-if” vacant fair value and is calculated by using all available information such as the
replacement cost of such asset, appraisals, property condition reports, market data and other related information. The allocation of the
total consideration to intangible lease assets represents the value associated with the in-place leases, which may include lost rent,
leasing commissions, legal and other related costs, which the Company, as buyer of the property, did not have to incur to obtain the
residents. If any debt is assumed in an acquisition, the difference between the fair value, which is estimated using inputs that are
classified within Level 2 of the fair value hierarchy, and the face value of debt is recorded as a premium or discount and amortized as
interest expense over the life of the debt assumed.
Real estate assets, including land, buildings, improvements, furniture, fixtures and equipment, and intangible lease assets are
stated at historical cost less accumulated depreciation and amortization. Costs incurred in making repairs and maintaining real estate
assets are expensed as incurred. Expenditures for improvements, renovations, and replacements are capitalized at cost. Real estate-
related depreciation and amortization are computed on a straight-line basis over the estimated useful lives as described in the
following table:
Land
Buildings
Improvements
Furniture, fixtures, and equipment
Intangible lease assets
Not depreciated
30 years
15 years
3 years
6 months
Construction in progress includes the cost of renovation projects being performed at the various properties. Once a project is
complete, the historical cost of the renovation is placed into service in one of the categories above depending on the type of renovation
project and is depreciated over the estimated useful lives as described in the table above.
F-9
Real estate assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount
of an asset may not be recoverable. In such cases, the Company will evaluate the recoverability of such real estate assets based on
estimated future cash flows and the estimated liquidation value of such real estate assets, and provide for impairment if such
undiscounted cash flows are insufficient to recover the carrying amount of the real estate asset. If impaired, the real estate asset will be
written down to its estimated fair value.
The Company periodically classifies real estate assets as held for sale when certain criteria are met, in accordance with GAAP.
At that time, the Company presents the net real estate assets and the net debt associated with the real estate held for sale separately in
its consolidated balance sheet, and the Company ceases recording depreciation and amortization expense related to that property. Real
estate held for sale is reported at the lower of its carrying amount or its estimated fair value less estimated costs to sell.
Reportable Segment
Substantially all of the Company’s net income (loss) is from investments in real estate properties within the multifamily sector
that the Company owns through LLCs. The Company evaluates operating performance on an individual property level and views its
real estate assets as one industry segment and, accordingly, its properties are aggregated into one reportable segment.
Income Taxes
The Company has elected to be taxed as a REIT under Sections 856 through 860 of the Internal Revenue Code of 1986, as
amended (the “Code”), and expects to continue to qualify as a REIT. To qualify as a REIT, the Company must meet a number of
organizational and operational requirements, including a requirement to distribute annually at least 90% of its “REIT taxable income,”
as defined by the Code, to its stockholders. As a REIT, the Company will be subject to federal income tax on its undistributed REIT
taxable income and net capital gain and to a 4% nondeductible excise tax on any amount by which distributions it pays with respect to
any calendar year are less than the sum of (1) 85% of its ordinary income, (2) 95% of its capital gain net income and (3) 100% of its
undistributed income from prior years. The Company intends to operate in such a manner so as to qualify as a REIT, but no assurance
can be given that the Company will operate in a manner so as to qualify as a REIT. Taxable income from certain non-REIT activities
is managed through a TRS and is subject to applicable federal, state, and local income and margin taxes. The Company had no
significant taxes associated with its TRS for the years ended December 31, 2018, 2017 and 2016.
If the Company fails to meet these requirements, it could be subject to federal income tax on all of the Company’s taxable
income at regular corporate rates for that year. The Company would not be able to deduct distributions paid to stockholders in any
year in which it fails to qualify as a REIT. Additionally, the Company will also be disqualified from electing to be taxed as a REIT for
the four taxable years following the year during which qualification was lost unless the Company is entitled to relief under specific
statutory provisions. As of December 31, 2018, the Company believes it is in compliance with all applicable REIT requirements.
The Company evaluates the accounting and disclosure of tax positions taken or expected to be taken in the course of preparing
the Company’s tax returns to determine whether the tax positions are “more-likely-than-not” (greater than 50 percent probability) of
being sustained by the applicable tax authority. Tax positions not deemed to meet the more-likely-than-not threshold would be
recorded as a tax benefit or expense in the current year. The Company’s management is required to analyze all open tax years, as
defined by the statute of limitations, for all major jurisdictions, which include federal and certain states. The Company has no
examinations in progress and none are expected at this time.
The Company recognizes its tax positions and evaluates them using a two-step process. First, the Company determines whether
a tax position is more likely than not to be sustained upon examination, including resolution of any related appeals or litigation
processes, based on the technical merits of the position. Second, the Company will determine the amount of benefit to recognize and
record the amount that is more likely than not to be realized upon ultimate settlement.
The Company had no material unrecognized tax benefit or expense, accrued interest or penalties as of December 31, 2018. The
Company and its subsidiaries are subject to federal income tax as well as income tax of various state and local jurisdictions. The 2017,
2016 and 2015 tax years remain open to examination by tax jurisdictions to which the Company and its subsidiaries are subject. When
applicable, the Company recognizes interest and/or penalties related to uncertain tax positions on its consolidated statements of
operations and comprehensive income.
F-10
Recent Accounting Pronouncements
Section 107 of the JOBS Act provides that an emerging growth company can take advantage of the extended transition period
provided in Section 13(a) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), for complying with new or
revised accounting standards applicable to public companies. In other words, an emerging growth company can delay the adoption of
certain accounting standards until those standards would otherwise apply to private companies. The Company has elected to take
advantage of this extended transition period. As a result of this election, the Company’s financial statements may not be comparable to
companies that comply with public company effective dates for such new or revised standards. The Company may elect to comply
with public company effective dates at any time, and such election would be irrevocable pursuant to Section 107(b) of the JOBS Act.
The following recent accounting pronouncements reflect effective dates that delay the adoption until those standards would otherwise
apply to private companies.
In August 2017, the FASB issued ASU 2017-12, Derivatives and Hedging (Topic 815) (“ASU 2017-12”), which clarifies hedge
accounting requirements, improves disclosure of hedging arrangements, and better aligns risk management activities and financial
reporting for hedging relationships. The Company early adopted ASU 2017-12 on January 1, 2018, on a modified retrospective basis. For
cash flow hedges existing as of the date of adoption, the Company eliminated the separate measurement of ineffectiveness by means
of a cumulative-effect adjustment to accumulated other comprehensive income (“OCI”) with a corresponding adjustment to the
opening balance of accumulated earnings less dividends on January 1, 2018. The cumulative-effect adjustment, which eliminated the
cumulative ineffectiveness that was previously reported in interest expense, resulted in an increase to OCI of approximately $1.4
million, with a corresponding decrease to accumulated earnings less dividends.
In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (“ASU 2014-09”), which requires an entity
to recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to
which the entity expects to be entitled in exchange for those goods or services. An entity should also disclose sufficient quantitative and
qualitative information to enable users of financial statements to understand the nature, amount, timing, and uncertainty of revenue and
cash flows arising from contracts with customers. In August 2015, the FASB issued ASU 2015-14, Revenue from Contracts with
Customers – Deferral of the Effective Date, which amends ASU 2014-09 to defer the effective date by one year. The new standard is
effective for annual and interim periods in fiscal years beginning after December 15, 2018. Entities are allowed to use either the full or
modified retrospective approach when transitioning to the ASU. The Company will implement the provisions of ASU 2014-09 as of
January 1, 2019 using the modified retrospective approach. The adoption of ASU 2014-09 will not have a material impact on the
Company’s consolidated financial statements as a substantial portion of its revenue consists of rental income from leasing arrangements,
which is specifically excluded from ASU 2014-09.
In January 2016, the FASB issued ASU 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities
(“ASU 2016-01”), which changes certain recognition, measurement, presentation, and disclosure requirements for financial instruments.
The ASU requires all equity investments, except those accounted for under the equity method of accounting or resulting in consolidation,
to be measured at fair value with changes in fair value recognized in net income. The ASU also simplifies the impairment assessment for
equity investments without readily determinable fair values, amends the presentation requirements for changes in the fair value of
financial liabilities, requires presentation of financial instruments by measurement category and form of financial asset, and eliminates the
requirement to disclose the methods and significant assumptions used in estimating the fair value of financial instruments. The ASU is
effective for annual and interim periods in fiscal years beginning after December 15, 2018. The Company will implement the provisions
of ASU 2016-01 as of January 1, 2019. The adoption of ASU 2016-01 will not have a material impact on the Company’s consolidated
financial statements as the Company does not, nor does it expect to, have a material amount of financial assets or financial liabilities that
would be subject to the provisions of ASU 2016-01.
In February 2016, the FASB issued ASU 2016-02, Leases (“ASU 2016-02”), which supersedes the current accounting for leases
and while retaining two distinct types of leases, finance and operating, (1) requires lessees to record a right of use asset and a related
liability for the rights and obligations associated with a lease, regardless of lease classification, and recognize lease expense in a manner
similar to current accounting, (2) eliminates most real estate specific lease provisions and (3) aligns many of the underlying lessor model
principles with those in the new revenue standard. Leases with a term of 12 months or less will be accounted for similar to existing
guidance for operating leases today. The ASU is effective for annual and interim periods in fiscal years beginning after December 15,
2019. Entities are required to use a modified retrospective approach when transitioning to the ASU for leases that exist as of or are
entered into after the beginning of the earliest comparative period presented in the financial statements. The Company expects to
implement the provisions of ASU 2016-02 as of January 1, 2020. As lessors, substantially all of the Company’s agreements have a term
of 12 months or less. Based on a preliminary assessment, the Company expects most of its operating leases will be subject to the new
guidance and recognized as operating lease liabilities and right-of-use assets upon adoption, resulting in an immaterial increase in the
assets and liabilities on its consolidated balance sheets. The Company is continuing its evaluation, which may identify additional impacts
this standard will have on its consolidated financial statements and related disclosures.
F-11
In July 2018, the FASB issued ASU 2018-11, Leases – Targeted Improvements (“ASU 2018-11”), which provides entities with
relief from the costs of implementing certain aspects of ASU 2016-02. The ASU provides a practical expedient which allows lessors to
not separate lease and non-lease components in a contract and allocate the consideration in the contract to the separate components if both
(i) the timing and pattern of revenue recognition for the non-lease component and the related lease component are the same and (ii) the
combined single lease component would be classified as an operating lease. The Company intends to elect the practical expedient to
account for lease and non-lease components as a single component in lease contracts where the Company is the lessor. The ASU also
provides a transition option that permits entities to not recast the comparative periods presented when transitioning to the standard. The
Company also intends to elect the transition option.
In August 2018, the SEC adopted SEC Release No. 33-10532, Disclosure Update and Simplification (the “SEC Release”), which
amends certain disclosure requirements that were redundant, duplicative, overlapping or superseded by other SEC disclosure
requirements or GAAP. The amendments generally eliminated or otherwise reduced certain disclosure requirements of various SEC rules
and regulations. However, in some cases, the amendments require additional information to be disclosed, including changes in
stockholders’ equity in interim periods. Under the SEC Release, registrants will be required to disclose in interim periods on Form 10-Q
the changes in each caption of stockholders’ equity and noncontrolling interests for the current and comparative year-to-date periods, with
subtotals for each interim period and the amount of dividends per share for each class of shares. The amendments require registrants,
including smaller reporting companies, to provide information as prescribed by Rule 3-04 of Regulation S-X. Therefore, the interim
disclosures of changes in stockholders’ equity, including dividends per share amounts, may be given in a note to the financial statements
or in a separate financial statement. Under Rule 3-04, the interim disclosures of the changes in stockholders’ equity should be in the form
of a reconciliation of the beginning balance to the ending balance for each period for which an income statement is required to be filed,
with all significant reconciling items described by appropriate captions. The reconciliation should also reflect any adjustments to the
balance at the beginning of the earliest period presented for items retroactively applied to periods prior to that period. The Company
adopted the provisions of the SEC Release on September 30, 2018, on a retrospective basis.
3. Investments in Subsidiaries
The Company has in the past and may in the future invest in joint ventures. The Company consolidates the entities that it
controls as well as any VIEs where it is the primary beneficiary. In connection with its indirect equity investments in the properties
acquired, the Company, through the OP and the TRS, directly or indirectly holds 100% of the membership interests in single-asset
LLCs that directly own the properties. All of the properties the Company has acquired are consolidated in the Company’s consolidated
financial statements. The assets of each entity can only be used to settle obligations of that particular entity, and the creditors of each
entity have no recourse to the assets of other entities or the Company.
Additionally, the Company has in the past and may in the future enter into purchase and sale transactions structured as reverse
like-kind exchanges (“1031 Exchanges”) under Section 1031 of the Code. For a reverse 1031 Exchange in which the Company
purchases a new property prior to selling the property to be matched in the like-kind exchange (the Company refers to the new
property being acquired in the 1031 Exchange prior to the sale of the related property as a “Parked Asset”), legal title to the Parked
Asset is held by an Exchange Accommodation Titleholder (“EAT”) engaged to execute the 1031 Exchange until the sale transaction
and the 1031 Exchange are completed. The Company, through a wholly owned subsidiary, enters into a master lease agreement with
the EAT whereby the EAT leases the acquired property and all other rights acquired in connection with the acquisition to the
Company. The term of the master lease agreement is the earlier of the completion of the reverse 1031 Exchange or 180 days from the
date that the property was acquired. The EAT is classified as a VIE as it does not have sufficient equity investment at risk to finance
its activities without additional subordinated financial support. The Company consolidates the EAT as its primary beneficiary because
it has the ability to control the activities that most significantly impact the EAT’s economic performance and the Company retains all
of the legal and economic benefits and obligations related to the Parked Assets prior to completion of the 1031 Exchange. As such, the
Parked Assets are included in the Company’s consolidated financial statements as VIEs until legal title is transferred to the Company
upon either completion of the 1031 Exchange or termination of the master lease agreement, at which time they will be consolidated as
wholly owned subsidiaries.
F-12
As of December 31, 2018, the Company, through the OP and the wholly owned TRS, owned 35 properties through single-asset
LLCs. The following table represents the Company’s ownership in each property by virtue of its 100% ownership of the single-asset
LLCs that directly own the title to each property as of December 31, 2018 and 2017:
Property Name
Arbors on Forest Ridge
Cutter's Point
Eagle Crest
Silverbrook
Timberglen
Edgewater at Sandy Springs
Beechwood Terrace
Willow Grove
Woodbridge
Abbington Heights
The Summit at Sabal Park
Courtney Cove
Radbourne Lake
Timber Creek
Belmont at Duck Creek
Sabal Palm at Lake Buena Vista
Southpoint Reserve at Stoney Creek
Cornerstone
The Preserve at Terrell Mill
The Ashlar
Heatherstone
Versailles
Seasons 704 Apartments
Madera Point
The Pointe at the Foothills
Venue at 8651
Parc500
The Colonnade
Old Farm
Stone Creek at Old Farm
Hollister Place
Rockledge Apartments
Atera Apartments
Cedar Pointe
Crestmont Reserve
Brandywine I & II
Location
Bedford, Texas
Richardson, Texas
Irving, Texas
Grand Prairie, Texas
Dallas, Texas
Atlanta, Georgia
Antioch, Tennessee
Nashville, Tennessee
Nashville, Tennessee
Antioch, Tennessee
Tampa, Florida
Tampa, Florida
Charlotte, North Carolina
Charlotte, North Carolina
Garland, Texas
Orlando, Florida
(2)Fredericksburg, Virginia
Orlando, Florida
Marietta, Georgia
Dallas, Texas
Dallas, Texas
Dallas, Texas
West Palm Beach, Florida
Mesa, Arizona
Mesa, Arizona
Fort Worth, Texas
West Palm Beach, Florida
Phoenix, Arizona
Houston, Texas
Houston, Texas
Houston, Texas
Marietta, Georgia
(3)Dallas, Texas
(4)Antioch, Tennessee
Dallas, Texas
Nashville, Tennessee
Year Acquired
2014
2014
2014
2014
2014
2014
2014
2014
2014
2014
2014
2014
2014
2014
2014
2014
2014
2015
2015
2015
2015
2015
2015
2015
2015
2015
2016
2016
2016
2016
2017
2017
2017
2018
2018
2018
Effective Ownership Percentage at December
31,
2018
2017
100%
100%
100%
100%
— (1)
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
— (5)
— (5)
— (5)
(1)
(2)
(3)
(4)
(5)
Property was sold in 2018.
Property was classified as held for sale as of December 31, 2018.
The EAT that directly owned Atera Apartments was consolidated as a VIE at December 31, 2017. The Company completed the
reverse portion of the 1031 Exchange of Atera Apartments with the sale of Timberglen on January 31, 2018, at which time legal
title to Atera Apartments transferred to the Company. Upon the transfer of title, the entity that directly owns Atera Apartments
was no longer considered a VIE (see Note 5).
The EAT that directly owned Cedar Pointe was consolidated as a VIE at December 31, 2018. The Company does not expect to
complete a reverse 1031 Exchange of Cedar Pointe prior to February 20, 2019, the date which the master lease agreement with
the EAT that directly owns Cedar Pointe terminates. As such, legal title to Cedar Pointe will transfer to the Company at a date
no later than February 20, 2019. Upon the transfer of title, the entity that directly owns Cedar Pointe will no longer be
considered a VIE.
Properties were acquired in 2018; therefore, no ownership as of December 31, 2017.
F-13
4. Real Estate Investments Statistics
As of December 31, 2018, the Company was invested in a total of 35 multifamily properties, as listed below:
Average Effective Monthly
Rent Per Unit
as of December 31, *(1)
% Occupied as of December
31, *(2)
Rentable Square
Footage
Number
of
Date
Property Name
Arbors on Forest Ridge
Cutter's Point
Eagle Crest
Silverbrook
Edgewater at Sandy Springs
Beechwood Terrace
Willow Grove
Woodbridge
Abbington Heights
The Summit at Sabal Park
Courtney Cove
Radbourne Lake
Timber Creek
Belmont at Duck Creek
Sabal Palm at Lake Buena Vista
Southpoint Reserve at Stoney Creek(3)
Cornerstone
The Preserve at Terrell Mill
The Ashlar
Heatherstone
Versailles
Seasons 704 Apartments
Madera Point
The Pointe at the Foothills
Venue at 8651
Parc500
The Colonnade
Old Farm
Stone Creek at Old Farm
Hollister Place
Rockledge Apartments
Atera Apartments
Cedar Pointe
Crestmont Reserve
Brandywine I & II
(in thousands)*
155
198
396
526
727
272
229
247
239
205
225
247
248
198
371
116
318
692
206
116
301
217
193
473
289
266
256
697
186
246
802
334
224
199
414
Units*
Acquired
210 1/31/2014 $
196 1/31/2014
447 1/31/2014
642 1/31/2014
760 7/18/2014
300 7/21/2014
244 7/21/2014
220 7/21/2014
274 8/1/2014
252 8/20/2014
324 8/20/2014
225 9/30/2014
352 9/30/2014
240 9/30/2014
400 11/5/2014
156 12/18/2014
430 1/15/2015
752 2/6/2015
264 2/26/2015
152 2/26/2015
388 2/26/2015
222 4/15/2015
256 8/5/2015
528 8/5/2015
333 10/30/2015
217 7/27/2016
415 10/11/2016
734 12/29/2016
190 12/29/2016
260 2/1/2017
708 6/30/2017
380 10/25/2017
210 8/24/2018
242 9/26/2018
632 9/26/2018
11,028 12,555
2018
2017
2018
2017
870 $
1,109
922
835
950
933
960
1,028
889
955
895
1,082
847
1,030
1,255
1,093
1,007
921
859
874
884
1,130
866
859
875
1,254
719
1,176
1,173
984
1,186
1,232
1,051
914
957
862
1,063
887
791
940
927
919
952
890
913
836
1,061
817
999
1,167
1,067
927
855
835
839
865
1,076
807
814
809
1,179
685
1,183
1,165
959
1,149
1,265
— (4)
— (4)
— (4)
95.2%
95.4%
94.9%
94.9%
94.1%
93.7%
95.1%
94.1%
92.0%
94.4%
95.7%
96.0%
92.6%
92.1%
96.5%
98.1%
94.2%
94.8%
94.3%
94.7%
96.4%
96.8%
94.5%
95.1%
92.8%
94.9%
93.3%
92.9%
96.8%
93.5%
94.6%
97.4%
95.7%
94.6%
93.8%
96.2%
95.4%
93.3%
95.2%
93.8%
94.3%
95.5%
93.6%
94.2%
92.9%
94.4%
93.3%
94.0%
95.4%
96.8%
93.6%
94.4%
93.1%
91.7%
89.5%
94.8%
96.4%
93.0%
90.9%
94.3%
94.9%
94.0%
92.6%
94.7%
95.0%
92.9%
92.1%
— (4)
— (4)
— (4)
* Information is unaudited.
(1) Average effective monthly rent per unit is equal to the average of the contractual rent for commenced leases as of December 31
for the respective year minus any tenant concessions over the term of the lease, divided by the number of units under
commenced leases as of December 31 for the respective year.
Percent occupied is calculated as the number of units occupied as of December 31, 2018 and 2017, divided by the total number
of units, expressed as a percentage.
Property was classified as held for sale as of December 31, 2018.
Properties were acquired in 2018.
(3)
(4)
(2)
F-14
5. Real Estate Investments
As of December 31, 2018, the major components of the Company’s investments in multifamily properties were as follows (in
thousands):
Operating Properties
Land
Buildings and
Improvements
$
11,319
13,347
22,969
26,485
44,186
21,123
10,829
13,125
17,140
13,447
13,170
22,138
13,582
17,397
41,336
30,513
49,091
12,845
8,132
21,513
14,223
17,570
46,998
18,084
20,692
37,086
70,471
19,394
21,389
95,484
36,563
23,458
19,544
70,961
935,604
Intangible Lease
Assets
Construction in
Progress
Furniture,
Fixtures and
Equipment
Totals
$
$
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
600
687
1,762
3,049
$
—
—
—
60
349
31
—
—
—
43
—
72
—
—
—
—
57
—
—
—
—
—
—
—
37
567
—
—
135
428
86
16
—
—
1,881
$
1,047
1,320
1,563
3,230
5,083
1,670
1,231
1,536
1,539
1,347
1,268
1,536
1,556
1,471
1,280
1,885
4,843
2,017
1,199
3,033
1,288
1,431
2,078
2,499
2,600
1,604
1,800
467
1,410
3,314
1,151
441
504
1,215
61,456
14,696
17,997
29,982
34,635
63,908
24,214
16,000
18,311
20,449
20,607
20,318
26,186
26,398
20,778
50,196
33,898
64,161
18,952
11,651
31,266
22,991
23,921
53,916
22,933
27,189
47,597
83,349
23,354
25,716
116,677
60,171
26,886
24,859
80,175
1,204,337
$
(1)
2,330
3,330
5,450
4,860
14,290
1,390
3,940
3,650
1,770
5,770
5,880
2,440
11,260
1,910
7,580
1,500
10,170
4,090
2,320
6,720
7,480
4,920
4,840
2,350
3,860
8,340
11,078
3,493
2,782
17,451
22,371
2,371
4,124
6,237
202,347
—
202,347
$
(95,364)
840,240
$
(1,625)
1,424
$
—
1,881
$
(37,135)
24,321
$
(134,124)
1,070,213
6,120
—
6,120
208,467
$
$
11,319
(736)
10,583
850,823
$
$
—
—
—
1,424
$
$
—
—
—
1,881
$
$
787
(161)
626
24,947
$
$
18,226
(897)
17,329
1,087,542
$
$
$
Arbors on Forest Ridge
Cutter's Point
Eagle Crest
Silverbrook
Edgewater at Sandy Springs
Beechwood Terrace
Willow Grove
Woodbridge
Abbington Heights
The Summit at Sabal Park
Courtney Cove
Radbourne Lake
Timber Creek
Belmont at Duck Creek
Sabal Palm at Lake Buena Vista
Cornerstone
The Preserve at Terrell Mill
The Ashlar
Heatherstone
Versailles
Seasons 704 Apartments
Madera Point
The Pointe at the Foothills
Venue at 8651
Parc500
The Colonnade
Old Farm
Stone Creek at Old Farm
Hollister Place
Rockledge Apartments
Atera Apartments
Cedar Pointe
Crestmont Reserve
Brandywine I & II
Accumulated depreciation and
amortization
Total Operating Properties
Held For Sale Property
Southpoint Reserve at Stoney Creek
Accumulated depreciation and
amortization
Total Held For Sale Property
Total
(1)
The EAT that directly owned Cedar Pointe was consolidated as a VIE at December 31, 2018. The Company does not expect to
complete a reverse 1031 Exchange of Cedar Pointe prior to February 20, 2019, the date which the master lease agreement with
the EAT that directly owns Cedar Pointe terminates. As such, legal title to Cedar Pointe will transfer to the Company at a date
no later than February 20, 2019. Upon the transfer of title, the entity that directly owns Cedar Pointe will no longer be
considered a VIE.
F-15
As of December 31, 2017, the major components of the Company’s investments in multifamily properties were as follows (in
thousands):
Operating Properties
Land
Arbors on Forest Ridge
Cutter's Point
Eagle Crest
Silverbrook
Edgewater at Sandy Springs
Beechwood Terrace
Willow Grove
Woodbridge
Abbington Heights
The Summit at Sabal Park
Courtney Cove
Radbourne Lake
Timber Creek
Belmont at Duck Creek
Sabal Palm at Lake Buena Vista
Cornerstone
The Preserve at Terrell Mill
The Ashlar
Heatherstone
Versailles
Seasons 704 Apartments
Madera Point
The Pointe at the Foothills
Venue at 8651
Parc500
The Colonnade
Old Farm
Stone Creek at Old Farm
Hollister Place
Rockledge Apartments
Atera Apartments
Accumulated depreciation and
amortization
Total Operating Properties
Held For Sale Properties
Timberglen
Southpoint Reserve at Stoney Creek
Accumulated depreciation and
amortization
Total Held For Sale Properties
Total
$
$
$
$
Buildings and
Improvements
$
11,089
13,030
22,346
25,665
44,004
20,729
10,766
13,031
16,796
13,377
12,961
21,924
13,479
17,190
41,229
30,452
48,630
12,640
7,868
19,798
14,079
17,481
46,723
17,625
19,885
36,828
69,881
19,227
20,754
92,397
35,097
806,981
Intangible Lease
Assets
Construction in
Progress
Furniture,
Fixtures and
Equipment
Totals
$
$
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
1,340
1,340
$
—
—
—
—
—
—
—
—
—
—
2
—
—
—
1
17
32
—
36
914
—
9
142
300
676
62
323
15
89
1,168
—
3,786
$
829
1,080
1,299
2,509
4,291
1,271
942
1,093
1,171
1,136
1,096
1,300
1,158
1,216
1,064
1,487
4,074
1,575
1,000
2,365
1,009
1,188
1,739
1,835
1,470
934
1,392
374
698
1,457
673
44,725
14,248
17,440
29,095
33,034
62,585
23,390
15,648
17,774
19,737
20,283
19,939
25,664
25,897
20,316
49,874
33,456
62,906
18,305
11,224
29,797
22,568
23,598
53,444
22,110
25,891
46,164
82,674
23,109
24,323
112,473
59,481
1,046,447
2,330
3,330
5,450
4,860
14,290
1,390
3,940
3,650
1,770
5,770
5,880
2,440
11,260
1,910
7,580
1,500
10,170
4,090
2,320
6,720
7,480
4,920
4,840
2,350
3,860
8,340
11,078
3,493
2,782
17,451
22,371
189,615
—
189,615
$
(65,016)
741,965
$
(497)
843
$
—
3,786
$
(22,739)
21,986
$
(88,252)
958,195
2,510
6,120
8,630
—
8,630
198,245
$
$
14,717
11,255
25,972
(2,630)
23,342
765,307
$
$
—
—
—
—
—
843
$
$
—
—
—
—
—
3,786
$
$
1,077
679
1,756
(767)
989
22,975
$
$
18,304
18,054
36,358
(3,397)
32,961
991,156
Depreciation expense was $45.0 million, $39.9 million and $34.2 million for the years ended December 31, 2018, 2017 and
2016, respectively.
Amortization expense related to the Company’s intangible lease assets was $2.5 million, $8.9 million and $1.4 million for the
years ended December 31, 2018, 2017 and 2016, respectively. Amortization expense related to the Company’s intangible lease assets
for all acquisitions completed through December 31, 2018 is expected to be $1.4 million in 2019. Due to the six-month useful life
attributable to intangible lease assets, the value of intangible lease assets on any acquisition prior to June 30, 2018 has been fully
amortized and the assets and related accumulated amortization have been written off as of December 31, 2018.
F-16
Acquisitions
The Company acquired three properties during the year ended December 31, 2018, as detailed in the table below (dollars in
thousands). The Company acquired three properties for a combined purchase price of approximately $197.2 million during the year
ended December 31, 2017. See Notes 3, 4 and 6 for additional information.
Property Name
Location
Cedar Pointe
Antioch, Tennessee
Crestmont Reserve
Brandywine I & II
Dallas, Texas
Nashville,
Tennessee
(2)
Date of
Acquisition
August 24,
2018
September 26,
2018
September 26,
2018
Purchase Price
Mortgage Debt (1)
# Units
Effective
Ownership
$
26,500
$
17,300
24,680
79,800
130,980
$
$
12,061
43,835
73,196
210
242
632
1,084
100%
100%
100%
For additional information regarding the Company’s debt, see Note 6.
(1)
(2) Brandywine I & II are two separate properties which the Company combined and operates as a single property.
Dispositions
The Company sold one property during the year ended December 31, 2018, as detailed in the table below (in thousands). The
Company sold nine properties for approximately $228.1 million during the year ended December 31, 2017.
Property Name
Timberglen
Location
(2)Dallas, Texas
Date of Sale
January 31, 2018
Sales Price
Net Cash
Proceeds (1)
Gain on Sale
of Real Estate
$
30,000
$
29,553 $
13,742
(1) Represents sales price, net of closing costs.
(2)
The Company completed the reverse portion of the 1031 Exchange of Atera Apartments with the sale of Timberglen, at which
time legal title to Atera Apartments transferred to the Company.
F-17
6. Debt
Mortgage Debt
The following table contains summary information concerning the mortgage debt of the Company as of December 31, 2018
(dollars in thousands):
Operating Properties
Arbors on Forest Ridge
Cutter's Point
Eagle Crest
Silverbrook
Edgewater at Sandy Springs
Beechwood Terrace
Willow Grove
Woodbridge
The Summit at Sabal Park
Courtney Cove
The Preserve at Terrell Mill
The Ashlar
Heatherstone
Versailles
Seasons 704 Apartments
Madera Point
The Pointe at the Foothills
Venue at 8651
The Colonnade
Old Farm
Stone Creek at Old Farm
Timber Creek
Radbourne Lake
Sabal Palm at Lake Buena Vista
Abbington Heights
Belmont at Duck Creek
Cornerstone
Parc500
Hollister Place
Rockledge Apartments
Atera Apartments
Cedar Pointe
Crestmont Reserve
Brandywine I & II
Fair market value adjustment
Deferred financing costs, net of
accumulated amortization of $1,781
Held For Sale Property
Southpoint Reserve at Stoney Creek
Deferred financing costs, net of
accumulated amortization of $94
(3)
(3)
(3)
(3)
(3)
(4)
(3)
(3)
(3)
(3)
(3)
(3)
(3)
(3)
(3)
(3)
(3)
(3)
(3)
(3)
(3)
(5)
(6)
(7)
(8)
(9)
(10)
(11)
(12)
(3)
(13)
(14)
(3)
(3)
Type
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Floating
Fixed
Fixed
Floating
Floating
Floating
Floating
Floating
Floating
Term (months)
Outstanding
Principal (1)
84
84
84
84
84
84
84
84
84
84
84
84
84
84
84
84
84
84
84
84
84
84
84
84
84
84
120
120
84
84
84
84
84
84
$
$
$
13,130
16,640
29,510
30,590
52,000
23,365
14,818
13,677
13,560
13,680
42,480
14,520
8,880
23,880
17,460
15,150
34,800
13,734
28,093
52,886
15,274
24,100
20,000
42,100
16,920
17,760
22,227
15,483
14,811
68,100
29,500
17,300
12,061
43,835
832,324
632 (15)
(8,254)
824,702
Interest Rate (2)
4.18%
4.18%
4.18%
4.18%
4.18%
3.94%
4.28%
4.28%
4.12%
4.12%
4.12%
4.12%
4.12%
4.12%
4.12%
4.12%
4.12%
4.28%
4.18%
4.18%
4.18%
3.76%
3.79%
3.80%
3.75%
3.89%
4.24%
4.49%
3.84%
4.07%
3.98%
3.85%
3.68%
3.68%
Maturity Date
7/1/2024
7/1/2024
7/1/2024
7/1/2024
7/1/2024
9/1/2025
7/1/2024
7/1/2024
7/1/2024
7/1/2024
7/1/2024
7/1/2024
7/1/2024
7/1/2024
7/1/2024
7/1/2024
7/1/2024
7/1/2024
7/1/2024
7/1/2024
7/1/2024
10/1/2025
10/1/2025
9/1/2025
9/1/2025
6/1/2025
3/1/2023
8/1/2025
10/1/2025
7/1/2024
11/1/2024
9/1/2025
10/1/2025
10/1/2025
(3)
Floating
84
13,389
4.61%
1/1/2022
$
(71)
13,318
(1) Mortgage debt that is non-recourse to the Company and encumbers the multifamily properties.
(2)
Interest rate is based on one-month LIBOR plus an applicable margin, except for fixed rate mortgage debt. One-month LIBOR
as of December 31, 2018 was 2.5027%.
Loan can be pre-paid in the first 12 months of the term in certain circumstances at par plus 5.00%. Starting in the 13th month of
the term through the 81st month of the term, the loan can be pre-paid at par plus 1.00% of the unpaid principal balance and at par
during the last three months of the term.
(3)
F-18
(4) On August 31, 2018, the Company refinanced the existing floating rate mortgage of approximately $20.2 million. The Company
accounted for the refinancing as an extinguishment of a debt instrument. See “Refinancings” below for additional information.
Loan can be pre-paid in the first 12 months of the term in certain circumstances at par plus 5.00%. Starting in the 13th month of
the term through the 81st month of the term, the loan can be pre-paid at par plus 1.00% of the unpaid principal balance and at par
during the last three months of the term.
(5) On September 28, 2018, the Company refinanced the existing floating rate mortgage of approximately $19.1 million. The
Company accounted for the refinancing as an extinguishment of a debt instrument. See “Refinancings” below for additional
information. Loan can be pre-paid in the first 12 months of the term in certain circumstances at par plus 5.00%. Starting in the
13th month of the term through the 81st month of the term, the loan can be pre-paid at par plus 1.00% of the unpaid principal
balance and at par during the last three months of the term.
(6) On September 28, 2018, the Company refinanced the existing floating rate mortgage of approximately $18.9 million. The
Company accounted for the refinancing as an extinguishment of a debt instrument. See “Refinancings” below for additional
information. Loan can be pre-paid in the first 12 months of the term in certain circumstances at par plus 5.00%. Starting in the
13th month of the term through the 81st month of the term, the loan can be pre-paid at par plus 1.00% of the unpaid principal
balance and at par during the last three months of the term.
(7) On August 20, 2018, the Company refinanced the existing floating rate mortgage of approximately $37.2 million. The Company
accounted for the refinancing as an extinguishment of a debt instrument. See “Refinancings” below for additional information.
Loan can be pre-paid in the first 12 months of the term in certain circumstances at par plus 5.00%. Starting in the 13th month of
the term through the 81st month of the term, the loan can be pre-paid at par plus 1.00% of the unpaid principal balance and at par
during the last three months of the term.
(8) On August 21, 2018, the Company refinanced the existing fixed rate mortgage of approximately $9.9 million, which was
assumed upon acquisition of this property, into a floating rate mortgage. The Company accounted for the refinancing as an
extinguishment of a debt instrument. See “Refinancings” below for additional information. Loan can be pre-paid in the first 12
months of the term in certain circumstances at par plus 5.00%. Starting in the 13th month of the term through the 81st month of
the term, the loan can be pre-paid at par plus 1.00% of the unpaid principal balance and at par during the last three months of the
term.
(9) On June 1, 2018, the Company refinanced the existing fixed rate mortgage of approximately $10.9 million, which was assumed
upon acquisition of this property and recorded at approximated fair value, into a floating rate mortgage. See “Refinancings”
below for additional information. Loan can be pre-paid in the first 12 months of the term in certain circumstances at par plus
5.00%. Starting in the 13th month of the term through the 81st month of the term, the loan can be pre-paid at par plus 1.00% of
the unpaid principal balance and at par during the last three months of the term.
(10) Debt in the amount of $18.0 million was assumed upon acquisition of this property and recorded at approximated fair value. The
assumed debt carries a 4.09% fixed rate, was originally issued in March 2013, and had a term of 120 months with an initial 24
months of interest only. At the time of acquisition, the principal balance of the first mortgage remained unchanged and had a
remaining term of 98 months with 2 months of interest only. The first mortgage is pre-payable and subject to yield maintenance
from the 13th month through August 31, 2022 and is pre-payable at par September 1, 2022 until maturity. Concurrently with the
acquisition of the property, the Company placed a supplemental second mortgage on the property with a principal amount of
approximately $5.8 million, a fixed rate of 4.70%, and with a maturity date that is the same time as the first mortgage. The
supplemental second mortgage is pre-payable and subject to yield maintenance from the date of issuance through August 31,
2022 and is pre-payable at par September 1, 2022 until maturity. As of December 31, 2018, the total indebtedness secured by
the property had a blended interest rate of 4.24%.
(11) Debt was assumed upon acquisition of this property and recorded at approximated fair value. The loan is open to pre-payment in
the last four months of the term.
(12) On September 28, 2018, the Company refinanced the existing floating rate mortgage of approximately $13.5 million. The
Company accounted for the refinancing as a modification of a debt instrument. As such, the existing $0.1 million of net deferred
financing costs related to the prior mortgage debt is included with the approximately $0.3 million of deferred financing costs
incurred in connection with the modification. Such costs are recorded as a reduction from mortgages payable on the
accompanying consolidated balance sheet as of December 31, 2018 and are amortized over the term of the new mortgage debt.
See “Refinancings” below for additional information. Loan can be pre-paid in the first 12 months of the term in certain
circumstances at par plus 5.00%. Starting in the 13th month of the term through the 81st month of the term, the loan can be pre-
paid at par plus 1.00% of the unpaid principal balance and at par during the last three months of the term.
(13) Loan can be pre-paid in the first 12 months of the term in certain circumstances at par plus 5.00%. Starting in the 13th month of
the term through the 81st month of the term, the loan can be pre-paid at par plus 1.00% of the unpaid principal balance and at par
during the last three months of the term. The EAT that directly owned Atera Apartments was consolidated as a VIE at December
31, 2017. The Company completed the reverse portion of the 1031 Exchange of Atera Apartments with the sale of Timberglen
on January 31, 2018, at which time legal title to Atera Apartments transferred to the Company. Upon the transfer of title, the
entity that directly owns Atera Apartments was no longer considered a VIE.
F-19
(14) Loan can be pre-paid in the first 12 months of the term in certain circumstances at par plus 5.00%. Starting in the 13th month of
the term through the 81st month of the term, the loan can be pre-paid at par plus 1.00% of the unpaid principal balance and at par
during the last three months of the term. The EAT that directly owned Cedar Pointe was consolidated as a VIE at December 31,
2018. The Company does not expect to complete a reverse 1031 Exchange of Cedar Pointe prior to February 20, 2019, the date
which the master lease agreement with the EAT that directly owns Cedar Pointe terminates. As such, legal title to Cedar Pointe
will transfer to the Company at a date no later than February 20, 2019. Upon the transfer of title, the entity that directly owns
Cedar Pointe will no longer be considered a VIE.
(15) The Company reflected a valuation adjustment on its fixed rate debt for Parc500 to adjust it to fair market value on the date of
acquisition for the difference between the fair value and the assumed principal amount of debt. The difference is amortized into
interest expense over the remaining term of the mortgage.
Refinancings. During the year ended December 31, 2018, the Company refinanced mortgages on seven properties, as detailed in
the table below (dollars in thousands):
Property Name
Date of
Refinance
Accounting
Treatment
Write-off of
Deferred
Financing
Costs (1)
Capitalized
Deferred
Financing
Costs
Prepayment
Penalties
and
Defeasance
Costs (1)
Debt
Modification
and Other
Extinguishment
Costs (1)
Reduction in
Spread
(in basis
points) (2)
Belmont at Duck Creek 6/1/2018 Extinguishment $
Sabal Palm at Lake
Buena Vista
Abbington Heights
Beechwood Terrace
Timber Creek
Radbourne Lake
Hollister Place
8/20/2018 Extinguishment
8/21/2018 Extinguishment
8/31/2018 Extinguishment
9/28/2018 Extinguishment
9/28/2018 Extinguishment
9/28/2018 Modification
$
— (3)$
293 $
— $
—
79 (4)
228
—
405
151
144
—
928
$
442
105
100
296
266
141
1,643 $
371
446
202
191
189
135
1,534 $
—
202
196
—
—
87
485
51
4 (4)
24
56
52
90
50 (5)
(1)
(2)
(3)
Included in loss on extinguishment of debt and modification costs on the accompanying consolidated statements of operations
and comprehensive income.
For previous floating rate mortgages, represents the reduction in the borrowing spread from the previous mortgage to the current
mortgage. For previous fixed-rate mortgages, represents the reduction in the borrowing rate from the previous mortgage to the
current mortgage (using one-month LIBOR as of December 31, 2018).
There were no existing deferred financing costs related to the prior fixed rate mortgage. The Company wrote-off the
unamortized fair market value adjustment as of June 1, 2018, a premium of less than $0.1 million, related to the prior fixed rate
mortgage, which is recorded in loss on extinguishment of debt and modification costs on the accompanying consolidated
statements of operations and comprehensive income.
Previous mortgage was an assumed fixed-rate loan.
(4)
(5) Represents the weighted average reduction in the borrowing spreads.
During the year ended December 31, 2018, the Company sold one property and repaid the related mortgage loan that
encumbered the property, as detailed in the table below (in thousands):
Property Name
Timberglen
Date of Sale
January 31, 2018
Type
Floating
Outstanding
Principal (1)
$
17,226
(1) Represents the outstanding principal balance when the loan was repaid.
The weighted average interest rate of the Company’s mortgage indebtedness was 4.07% as of December 31, 2018 and 3.34% as
of December 31, 2017. The increase between the periods is primarily related to an increase in one-month LIBOR of approximately 94
basis points to 2.5027% as of December 31, 2018 from 1.5643% as of December 31, 2017, partially offset by a weighted average
reduction of 50 basis points in the borrowing spreads related to the seven mortgages the Company refinanced in 2018, as described
above. As of December 31, 2018, the adjusted weighted average interest rate of the Company’s mortgage indebtedness was 3.17%.
For purposes of calculating the adjusted weighted average interest rate of the outstanding mortgage indebtedness, the Company has
included the weighted average fixed rate of 1.3388% for one-month LIBOR on its combined $650.0 million notional amount of
interest rate swap agreements, which effectively fix the interest rate on $650.0 million of the Company’s floating rate mortgage
indebtedness (see Note 7).
F-20
Each of the Company’s mortgages is a non-recourse obligation subject to customary provisions. The loan agreements contain
customary events of default, including defaults in the payment of principal or interest, defaults in compliance with the covenants
contained in the documents evidencing the loan, defaults in payments under any other security instrument covering any part of the
property, whether junior or senior to the loan, and bankruptcy or other insolvency events. As of December 31, 2018, the Company
believes it is in compliance with all provisions.
Freddie Mac Multifamily Green Advantage. In order to obtain more favorable pricing on the Company’s mortgage debt
financing with Freddie Mac, the Company has decided to participate in Freddie Mac’s new Multifamily Green Advantage program
(the “Green Program”). In the second quarter of 2017, the Company escrowed approximately $4.2 million to finance smarter, greener
property improvements at 18 of its properties. In connection with the three acquisitions and seven refinancings the Company
completed in 2018, the Company escrowed approximately $1.2 million related to the Green Program.
$60 Million Credit Facility. On December 29, 2016, the Company, through the OP, entered into a $30.0 million credit facility
(the “$30 Million Credit Facility”) with KeyBank National Association (“KeyBank”). On April 27, 2018, the Company, through the
OP, amended the $30 Million Credit Facility to temporarily increase the loan commitment by $5.0 million (the “Temporary Increase”)
and immediately drew $5.0 million. The $5.0 million drawn under the Temporary Increase was repaid in full on July 25, 2018. The
Company accounted for the Temporary Increase as an extinguishment of a debt instrument. As such, the Company wrote-off the
unamortized deferred financing costs of approximately $0.1 million as of April 27, 2018, which is recorded in loss on extinguishment
of debt and modification costs on the accompanying consolidated statements of operations and comprehensive income.
On September 26, 2018, the Company, through the OP, repaid the $30.0 million outstanding under the $30 Million Credit
Facility and amended the loan agreement, extending the maturity date to September 26, 2020 and increasing the loan commitment to
$60.0 million (the “$60 Million Credit Facility”). The Company accounted for the refinancing as an extinguishment of a debt
instrument. The Company, through the OP, immediately drew $50.0 million to fund a portion of the purchase price of Brandywine I &
II and Crestmont Reserve.
The $60 Million Credit Facility was a full-term, interest-only facility with a 24-month term and was guaranteed by the
Company. Interest accrued on the $60 Million Credit Facility at an interest rate of one-month LIBOR plus 2.00%. In November 2018,
the Company, through the OP, used net proceeds from the 2018 Offering (as defined below) (see Note 8) to repay the $50.0 million
outstanding under the $60 Million Credit Facility, which retired the credit facility. In connection with the repayment, the Company,
through the OP, received a commitment fee rebate of approximately $0.8 million from KeyBank, which was previously capitalized as
a deferred financing cost on the Company’s consolidated balance sheet as of September 30, 2018.
$30 Million Bridge Facility. On September 26, 2018, the Company, through the OP, entered into a $30.0 million bridge facility
(the “$30 Million Bridge Facility”) with KeyBank and immediately drew $30.0 million to fund a portion of the purchase price of
Brandywine I & II and Crestmont Reserve. The $30 Million Bridge Facility was a full-term, interest-only facility with a six-month
term and was guaranteed by the Company. Interest accrued on the $30 Million Bridge Facility at an interest rate of one-month LIBOR
plus 2.00%. In November 2018, the Company, through the OP, used net proceeds from the 2018 Offering to repay the $30.0 million
outstanding under the $30 Million Bridge Facility, which retired the bridge facility. In connection with the repayment, the Company,
through the OP, received a commitment fee rebate of approximately $0.3 million from KeyBank, which was previously capitalized as
a deferred financing cost on the Company’s consolidated balance sheet as of September 30, 2018.
2017 Bridge Facility. On June 30, 2017, the Company, through the OP, entered into a $65.9 million bridge facility (the “2017
Bridge Facility”) with KeyBank. The 2017 Bridge Facility was a full-term, interest-only facility with an initial four-month term and
was guaranteed by the Company. Interest accrued on the 2017 Bridge Facility at an interest rate of one-month LIBOR plus 3.75%. In
July 2017, the Company used proceeds from the sale of Regatta Bay to pay down $11.3 million on the 2017 Bridge Facility. In
October 2017, the Company used proceeds from the sale of four properties to pay down approximately $46.0 million on the 2017
Bridge Facility, bringing the outstanding balance to approximately $8.6 million, and also extended the maturity date to March 31,
2018. In February 2018, the Company used proceeds from the sale of Timberglen to pay the remaining $8.6 million outstanding on the
2017 Bridge Facility, which retired the bridge facility.
F-21
Deferred Financing Costs
The Company defers costs incurred in obtaining financing and amortizes the costs over the terms of the related loans using the
straight-line method, which approximates the effective interest method. Deferred financing costs, net of amortization, are recorded as
a reduction from the related debt on the Company’s consolidated balance sheets. Upon repayment of or in conjunction with a material
change in the terms of the underlying debt agreement, any unamortized costs are charged to loss on extinguishment of debt and
modification costs (see “Loss on Extinguishment of Debt and Modification Costs” below). For the years ended December 31, 2018,
2017 and 2016, the Company wrote-off deferred financing costs of approximately $1.4 million, $1.0 million and $0.7 million,
respectively, which is included in loss on extinguishment of debt and modification costs on the consolidated statements of operations
and comprehensive income. For the years ended December 31, 2018, 2017 and 2016, amortization of deferred financing costs of
approximately $1.7 million, $2.0 million and $1.4 million, respectively, is included in interest expense on the consolidated statements
of operations and comprehensive income.
Loss on Extinguishment of Debt and Modification Costs
Upon repayment of or in conjunction with a material change (i.e. a 10% or greater difference in the cash flows between
instruments) in the terms of an underlying debt agreement, the Company writes off any unamortized deferred financing costs and fair
market value adjustments related to the original debt. Loss on extinguishment of debt and modification costs also includes prepayment
penalties and defeasance costs incurred on the early repayment of debt, costs incurred in a debt modification that are not capitalized as
deferred financing costs and other costs incurred in a debt extinguishment.
Schedule of Debt Maturities
The aggregate scheduled maturities, including amortizing principal payments, of total debt for the next five calendar years
subsequent to December 31, 2018 are as follows (in thousands):
2019
2020
2021
2022
2023
Thereafter
Total
Operating
Properties
Held For Sale
Property
Total
$
$
716 $
744
782
817
20,598
808,667
832,324 $
207 $
205
219
12,758
—
—
13,389 $
923
949
1,001
13,575
20,598
808,667
845,713
7. Fair Value of Derivatives and Financial Instruments
Fair value measurements are determined based on the assumptions that market participants would use in pricing an asset or
liability. As a basis for considering market participant assumptions in fair value measurements, ASC 820 establishes a fair value
hierarchy that distinguishes between market participant assumptions based on market data obtained from sources independent of the
reporting entity (observable inputs that are classified within Levels 1 and 2 of the hierarchy) and the reporting entity’s own
assumptions about market participant assumptions (unobservable inputs classified within Level 3 of the hierarchy):
•
•
•
Level 1 inputs utilize quoted prices (unadjusted) in active markets for identical assets or liabilities that the Company has
the ability to access.
Level 2 inputs are inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either
directly or indirectly. Level 2 inputs may include quoted prices for similar assets and liabilities in active markets, as well
as inputs that are observable for the asset or liability (other than quoted prices), such as interest rates and yield curves that
are observable at commonly quoted intervals.
Level 3 inputs are the unobservable inputs for the asset or liability, which are typically based on an entity’s own
assumption, as there is little, if any, related market activity. In instances where the determination of the fair value
measurement is based on input from different levels of the fair value hierarchy, the level in the fair value hierarchy within
which the entire fair value measurement falls is based on the lowest level input that is significant to the fair value
measurement in its entirety.
F-22
The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires
judgment and considers factors specific to the asset or liability. The Company utilizes independent third parties to perform the
allocation of value analysis for each property acquisition and to perform the market valuations on its derivative financial instruments
and has established policies, as described above, processes and procedures intended to ensure that the valuation methodologies for
investments and derivative financial instruments are fair and consistent as of the measurement date.
Derivative Financial Instruments and Hedging Activities
The Company is exposed to certain risks arising from both its business operations and economic conditions. The Company
principally manages its exposures to a wide variety of business and operational risks through management of its core business
activities. The Company manages economic risks, including interest rate, liquidity, and credit risk primarily by managing the amount,
sources, and duration of its debt funding and the use of derivative financial instruments. Specifically, the Company may enter into
derivative financial instruments to manage exposures that arise from business activities that result in the receipt or payment of future
known and uncertain cash amounts, the value of which are determined by interest rates. The Company’s derivative financial
instruments are used to manage differences in the amount, timing, and duration of the Company’s known or expected cash payments
principally related to the Company’s borrowings. In order to minimize counterparty credit risk, the Company enters into and expects
to enter into hedging arrangements only with major financial institutions that have high credit ratings.
The Company utilizes an independent third party to perform the market valuations on its derivative financial instruments. The
valuation of these instruments is determined using widely accepted valuation techniques, including discounted cash flow analysis on
the expected cash flows of each derivative. This analysis reflects the contractual terms of the derivatives, including the period to
maturity, and uses observable market-based inputs, including interest rate curves and implied volatilities. The fair values of interest
rate swaps are determined using the market standard methodology of netting the discounted future fixed cash receipts (or payments)
and the discounted expected variable cash payments (or receipts). The variable cash payments (or receipts) are based on an
expectation of future interest rates (forward curves) derived from observable market interest rate curves. The fair values of interest rate
caps are determined using the market standard methodology of discounting the future expected cash receipts that would occur if
variable interest rates rise above the strike rate of the caps. The variable interest rates used in the calculation of projected receipts on
the cap are based on an expectation of future interest rates derived from observable market interest rate curves and volatilities. To
comply with the provisions of ASC 820, the Company incorporates credit valuation adjustments to appropriately reflect both the
Company’s own nonperformance risk and the respective counterparty’s nonperformance risk in the fair value measurements. In
adjusting the fair value of the Company’s derivative contracts for the effect of nonperformance risk, the Company has considered the
impact of netting and any applicable credit enhancements, such as collateral postings, thresholds, mutual puts and guarantees.
Although the Company has determined that the majority of the inputs used to value its derivatives fall within Level 2 of the fair value
hierarchy, the credit valuation adjustments associated with the Company’s derivatives utilize Level 3 inputs, such as estimates of
current credit spreads, to evaluate the likelihood of default by the Company and its counterparties. The Company has determined that
the significance of the impact of the credit valuation adjustments made to its derivative contracts, which determination was based on
the fair value of each individual contract, was not significant to the overall valuation. As a result, all of the Company’s derivatives
held as of December 31, 2018 and 2017 were classified as Level 2 of the fair value hierarchy.
The Company’s main objective in using interest rate derivatives is to add stability to interest expense related to floating rate
debt. To accomplish this objective, the Company primarily uses interest rate swaps and caps as part of its interest rate risk
management strategy. Interest rate swaps involve the receipt of variable-rate amounts from a counterparty in exchange for the
Company making fixed-rate payments over the life of the agreements without exchange of the underlying notional amount. The
interest rate swaps have terms ranging from four to five years. Interest rate caps involve the receipt of variable-rate amounts from a
counterparty if interest rates rise above the strike rate on the contract in exchange for an up-front premium. The interest rate caps have
terms ranging from three to four years. During the years ended December 31, 2018, 2017 and 2016, interest rate cap derivatives were
used to hedge the variable cash flows associated with a portion of the Company’s floating rate debt. The interest rate cap agreements
the Company has entered into effectively cap one-month LIBOR on $255.2 million of the Company’s floating rate mortgage
indebtedness at a weighted average rate of 5.82%.
The changes in the fair value of derivative financial instruments that are designated as cash flow hedges are recorded in OCI and
are subsequently reclassified into net income (loss) in the period that the hedged forecasted transaction affects earnings. Amounts
reported in OCI related to derivatives will be reclassified to interest expense as interest payments are made on the Company’s floating
rate debt. Prior to the Company’s adoption of ASU 2017-12 on January 1, 2018, the ineffective portion of changes in the fair value of
the Company’s derivatives designated as cash flow hedges was recognized directly in net income (loss) as interest expense. The
adoption of ASU 2017-12 eliminates the separate measurement of effectiveness and ineffectiveness, and all changes in the fair value
of derivatives that are designated as cash flow hedges are recorded directly in OCI. Therefore, during the year ended December 31,
2018, the Company recorded no gain or loss related to the ineffective portion of changes in the fair value of its derivatives designated
as cash flow hedges. During the years ended December 31, 2017 and 2016, the Company recorded approximately $0.3 million and
$1.7 million, respectively, of gain related to the ineffective portion of changes in the fair value of its derivatives designated as cash
flow hedges, which is recorded as a decrease to interest expense on the accompanying consolidated statements of operations and
comprehensive income.
F-23
In order to fix a portion of, and mitigate the risk associated with, the Company’s floating rate indebtedness (without incurring
substantial prepayment penalties or defeasance costs typically associated with fixed rate indebtedness when repaid early or
refinanced), the Company, through the OP, has entered into seven interest rate swap transactions with KeyBank (the “Counterparty”)
with a combined notional amount of $650.0 million. The interest rate swaps the Company has entered into effectively replace the
floating interest rate (one-month LIBOR) with respect to that amount with a weighted average fixed rate of 1.3388%. The Company
has designated these interest rate swaps as cash flow hedges of interest rate risk.
As of December 31, 2018, the Company had the following outstanding interest rate swaps that were designated as cash flow
hedges of interest rate risk (dollars in thousands):
Effective Date
July 1, 2016
July 1, 2016
July 1, 2016
September 1, 2016
April 1, 2017
May 1, 2017
July 1, 2017
Termination Date
June 1, 2021
June 1, 2021
June 1, 2021
June 1, 2021
April 1, 2022
April 1, 2022
July 1, 2022
$
$
Notional
Fixed Rate (1)
100,000
100,000
100,000
100,000
100,000
50,000
100,000
650,000
1.1055%
1.0210%
0.9000%
0.9560%
1.9570%
1.9610%
1.7820%
1.3388%(2)
(1)
The floating rate option for the interest rate swaps is one-month LIBOR. As of December 31, 2018, one-month LIBOR was
2.5027%.
(2) Represents the weighted average fixed rate of the interest rate swaps.
Derivatives not designated as hedges are not speculative and are used to manage the Company’s exposure to interest rate
movements but either do not meet the strict requirements to apply hedge accounting in accordance with FASB ASC 815, Derivatives
and Hedging, or the Company has elected not to designate such derivatives as hedges. Changes in the fair value of derivatives not
designated in hedging relationships are recorded directly in net income (loss) as interest expense.
As of December 31, 2018, the Company had the following outstanding derivatives that were not designated as hedges in
qualifying hedging relationships (dollars in thousands):
Product
Interest rate caps
Number of
Instruments
12
$
Notional
255,179
As of December 31, 2017, the Company had 16 interest rate cap derivatives, with a notional amount of $273.5 million, which
were not designated as hedges in qualifying hedging relationships. As of December 31, 2016, the Company had 36 interest rate cap
derivatives, with a notional amount of $578.3 million, which were not designated as hedges in qualifying hedging relationships.
The table below presents the fair value of the Company’s derivative financial instruments as well as their classification on the
consolidated balance sheets as of December 31, 2018 and 2017 (in thousands):
Balance Sheet Location
Asset Derivatives
Liability Derivatives
December 31,
2018
December 31,
2017
December 31,
2018
December 31,
2017
Derivatives designated as hedging
instruments:
Interest rate swaps
Derivatives not designated as
hedging instruments:
Interest rate caps
Total
Fair market value of
interest rate swaps
$
18,141 $
16,480 $
— $
—
Prepaid and other assets
$
10
18,151 $
4
16,484 $
—
— $
—
—
F-24
The tables below present the effect of the Company’s derivative financial instruments on the consolidated statements of
operations and comprehensive income for the years ended December 31, 2018, 2017 and 2016 (in thousands):
Amount of gain (loss)
recognized in OCI
Location of gain
(loss) reclassified
from accumulated
Amount of gain (loss)
reclassified from
OCI into income
Location of gain
(loss) recognized
Amount of gain (loss)
recognized in income
2017
*(2) (3)
2016
*(2)
2018 2017 (1) 2016 (1) OCI into income 2018 2017 (1) 2016 (1)
in income
2018
Derivatives
designated as
hedging
instruments:
For the year ended
December 31,
Interest rate
products
$ 5,928 $ 2,967 $ 9,800 Interest expense $ 3,997 $(1,416) $(1,033) Interest expense $ — $ 124 $1,683
Includes amounts excluded from effectiveness testing.
*
(1) Represents the effective portion of changes in fair value.
(2) Represents the ineffective portion of changes in fair value.
(3)
Includes approximately $185,000 of loss reclassified from OCI for missed forecasted transactions due to hedged forecasted
transactions being no longer probable.
Derivatives not designated as
hedging instruments:
For the year ended December
31,
Interest rate products
Location of gain
(loss)
recognized in
income
Amount of gain (loss)
recognized in income
2018
2017
2016
Interest expense $
(49) $
(19) $
(4)
Other Financial Instruments Carried at Fair Value
Redeemable noncontrolling interests in the OP have a redemption feature and are marked to their redemption value if such value
exceeds the carrying value of the redeemable noncontrolling interests in the OP (see Note 10). The redemption value is based on the fair
value of the Company’s common stock at the redemption date, and therefore, is calculated based on the fair value of the Company’s
common stock at the balance sheet date. Since the valuation is based on observable inputs such as quoted prices for similar instruments in
active markets, redeemable noncontrolling interests in the OP are classified as Level 2 if they are adjusted to their redemption value.
Financial Instruments Not Carried at Fair Value
At December 31, 2018 and 2017, the fair values of cash and cash equivalents, restricted cash, accounts receivable, prepaid assets,
accounts payable and other accrued liabilities, accrued real estate taxes payable, accrued interest payable, security deposits and prepaid
rent approximated their carrying values because of the short term nature of these instruments. The estimated fair values of other financial
instruments were determined by the Company using available market information and appropriate valuation methodologies. Considerable
judgment is necessary to interpret market data and develop estimated fair values. Accordingly, the estimates presented herein are not
necessarily indicative of the amounts the Company would realize on the disposition of the financial instruments. The use of different
market assumptions or estimation methodologies may have a material effect on the estimated fair value amounts.
Long-term indebtedness is carried at amounts that reasonably approximate their fair value. In calculating the fair value of its
long-term indebtedness, the Company used interest rate and spread assumptions that reflect current credit worthiness and market
conditions available for the issuance of long-term debt with similar terms and remaining maturities. These financial instruments utilize
Level 2 inputs.
F-25
Real estate assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount
of an asset may not be recoverable. In such cases, the Company will evaluate the recoverability of such real estate assets based on
estimated future cash flows and the estimated liquidation value of such real estate assets, and provide for impairment if such
undiscounted cash flows are insufficient to recover the carrying amount of the real estate asset. If impaired, the real estate asset will be
written down to its estimated fair value. There can be no assurance that the estimates discussed herein, using Level 3 inputs, are
indicative of the amounts the Company could realize on disposition of the real estate asset. For the years ended December 31, 2018,
2017 and 2016, the Company did not record any impairment charges related to real estate assets.
8. Stockholders’ Equity
Common Stock
On March 15, 2017, the Company filed a registration statement on Form S-3 (the “Registration Statement”), registering an
indeterminate aggregate principal amount and number of securities of each identified class of securities therein up to a proposed
aggregate offering price of $200,000,000, which may be offered from time to time in unspecified numbers and at indeterminate prices,
as may be issued upon conversion, redemption, repurchase, exchange or exercise of any securities registered thereunder, including
under any applicable anti-dilution provisions. The Registration Statement also covers an indeterminate number of securities that may
become issuable as a result of stock splits, stock dividends or similar transactions relating to the securities registered thereunder.
On November 14, 2018, the Company issued 2,702,500 shares of common stock, par value $0.01 per share, at a public offering
price of $33.00 per share (before underwriters’ discounts and offering costs) for gross proceeds of approximately $89.2 million (the
“2018 Offering”). The common stock was offered and sold pursuant to a prospectus supplement, dated November 14, 2018, and a base
prospectus, dated April 24, 2017, relating to the Registration Statement. The Company contributed the net proceeds from the 2018
Offering to the OP in exchange for 2,702,500 OP Units, and the OP in turn used a majority of the net proceeds to repay the $50.0
million outstanding under the $60 Million Credit Facility and the $30.0 million outstanding under the $30 Million Bridge Facility.
The following table contains summary information of the 2018 Offering:
Gross proceeds
Common shares sold (1)
Public offering price per share
Offering costs
Underwriters' discounts
Net proceeds
Average price per share
$
$
$
89,182,500
2,702,500
33.00
876,800
3,523,500
84,782,200
31.37
(1) Affiliates of the Adviser purchased 207,971 shares in the 2018 Offering. No underwriters’ discount applied to the
purchase of such shares.
During the year ended December 31, 2018, the Company issued 130,511 shares of common stock pursuant to its long-term
incentive plan and retired 382,941 shares of common stock it had repurchased pursuant to its share repurchase program (see “Share
Repurchase Program” and “Long Term Incentive Plan” below).
As of December 31, 2018, the Company had 23,499,635 shares of common stock, par value $0.01 per share, issued and
outstanding.
Share Repurchase Program
On June 15, 2016, the Board authorized the Company to repurchase up to $30.0 million of its common stock, par value $0.01
per share, during a two-year period that was set to expire on June 15, 2018 (the “Share Repurchase Program”). On April 30, 2018, the
Board increased the Share Repurchase Program to up to $40.0 million and extended it by an additional two years to June 15, 2020.
The Company may utilize various methods to effect the repurchases, and the timing and extent of the repurchases will depend upon
several factors, including market and business conditions, regulatory requirements and other corporate considerations, including
whether the Company’s common stock is trading at a significant discount to net asset value per share. Repurchases under this program
may be discontinued at any time. During the year ended December 31, 2018, the Company repurchased 382,941 shares of its common
stock, par value $0.01 per share, at a total cost of approximately $9,672,000, or $25.26 per share. As of December 31, 2018, the
Company had repurchased 737,458 shares of its common stock, par value $0.01 per share, at a total cost of approximately
$16,694,000, or $22.64 per share.
F-26
Treasury Stock
From time to time, in accordance with the Company’s share repurchase program, the Company may repurchase shares of its
common stock in the open market. Until any such shares are retired, the cost of the shares is included in common stock held in
treasury at cost on the consolidated balance sheet. The number of shares of common stock classified as treasury shares reduces the
number of shares of the Company’s common stock outstanding and, accordingly, are considered in the weighted average number of
shares outstanding during the period. During the year ended December 31, 2018, the Company retired 382,941 shares of its common
stock held in treasury. As of December 31, 2018 and 2017, the Company had no shares of common stock held in treasury.
Long Term Incentive Plan
On June 15, 2016, the Company’s stockholders approved a long-term incentive plan (the “2016 LTIP”) and the Company filed a
registration statement on Form S-8 registering 2,100,000 shares of common stock, par value $0.01 per share, which the Company may
issue pursuant to the 2016 LTIP. The 2016 LTIP authorizes the compensation committee of the Board to provide equity-based
compensation in the form of stock options, appreciation rights, restricted shares, restricted stock units, performance shares, performance
units and certain other awards denominated or payable in, or otherwise based on, the Company’s common stock or factors that may
influence the value of the Company’s common stock, plus cash incentive awards, for the purpose of providing the Company’s directors,
officers and other key employees (and those of the Adviser and the Company’s subsidiaries), the Company’s non-employee directors, and
potentially certain non-employees who perform employee-type functions, incentives and rewards for performance.
Restricted Stock Units. Under the 2016 LTIP, restricted stock units may be granted to the Company’s directors, officers and
other key employees (and those of the Adviser and the Company’s subsidiaries) and typically vest over a three to four-year period for
officers, employees and certain key employees of the Adviser and annually for directors. Beginning on the date of grant, restricted
stock units earn dividends that are payable in cash on the vesting date. On August 11, 2016, pursuant to the 2016 LTIP, the Company
granted 209,797 restricted stock units to its directors and officers. On March 16, 2017, pursuant to the 2016 LTIP, the Company
granted 219,802 restricted stock units to its directors and officers. On February 15, 2018, pursuant to the 2016 LTIP, the Company
granted 275,795 restricted stock units to its directors, officers, employees and certain key employees of the Adviser. The following
table includes the number of restricted stock units granted, vested, forfeited and outstanding as of December 31, 2018:
Outstanding January 1,
Granted
Vested
Forfeited
Outstanding December 31,
Number of Units
2018
Weighted Average
Grant Date Fair Value
$
319,342
275,795
(130,511)
—
464,626 (1) $
21.52
23.57
21.28
—
22.80
(1)
49,772 restricted stock units vest in August 2019. 69,529 restricted stock units vest in March 2019 and 69,530 restricted stock
units vest in March 2020. 78,563 restricted stock units vest in February 2019 and 65,744 restricted stock units vest in each of
February 2020, 2021 and 2022.
As of December 31, 2018, the Company had issued 240,768 shares of common stock under the 2016 LTIP. For the years ended
December 31, 2018, 2017 and 2016, the Company recognized approximately $4.2 million, $3.1 million and $0.8 million, respectively,
of equity-based compensation expense related to grants of restricted stock units, which is included in corporate general and
administrative expenses on the consolidated statements of operations and comprehensive income. As of December 31, 2018, the
Company had recognized a liability of approximately $0.7 million related to dividends earned on restricted stock units that are payable
in cash upon vesting.
9. Earnings (Loss) Per Share
Basic earnings (loss) per share is computed by dividing net income (loss) attributable to common stockholders by the weighted
average number of shares of the Company’s common stock outstanding, which is adjusted for shares classified as treasury shares
during the period and excludes any unvested restricted stock units issued pursuant to the 2016 LTIP. Diluted earnings (loss) per share
is computed by adjusting basic earnings (loss) per share for the dilutive effect of the assumed vesting of restricted stock units. During
periods of net loss, the assumed vesting of restricted stock units is anti-dilutive and is not included in the calculation of earnings (loss)
per share.
F-27
The effect of the conversion of OP Units held by noncontrolling limited partners is not reflected in the computation of basic and
diluted earnings (loss) per share, as they are exchangeable for common stock on a one-for-one basis. The income (loss) allocable to
such units is allocated on this same basis and reflected as net income (loss) attributable to redeemable noncontrolling interests in the
Operating Partnership in the accompanying consolidated statements of operations and comprehensive income. As such, the assumed
conversion of these units would have no net impact on the determination of diluted earnings (loss) per share. See Note 10 for
additional information.
The following table sets forth the computation of basic and diluted earnings (loss) per share for the periods presented (in
thousands, except per share amounts):
2018
For the Year Ended December 31,
2017
2016
Numerator for earnings (loss) per share:
Net income (loss)
Net income attributable to noncontrolling interests
Net income (loss) attributable to redeemable noncontrolling interests
in the Operating Partnership
$
Net income (loss) attributable to common stockholders
$
Denominator for earnings (loss) per share:
Weighted average common shares outstanding
Denominator for basic earnings (loss) per share
Weighted average unvested restricted stock units
Denominator for diluted earnings per share
(1,614)
—
(5)
(1,609)
$
$
21,189
21,189
478
21,667
56,359
2,836
149
53,374
$
$
21,057
21,057
342
21,399
Earnings (loss) per weighted average common share:
Basic
Diluted
$
$
(0.08)
(0.08)
$
$
2.53
2.49
$
$
25,888
4,006
—
21,882
21,232
21,232
82
21,314
1.03
1.03
10. Noncontrolling Interests
Redeemable Noncontrolling Interests in the OP
Interests in the OP held by limited partners are represented by OP Units. Net income (loss) is allocated to holders of OP Units
based upon net income (loss) attributable to common stockholders and the weighted average number of OP Units outstanding to total
common shares plus OP Units outstanding during the period. Capital contributions, distributions, and profits and losses are allocated
to OP Units in accordance with the terms of the partnership agreement of the OP. Each time the OP distributes cash to the Company,
outside limited partners of the OP receive their pro-rata share of the distribution. Redeemable noncontrolling interests in the OP have
a redemption feature and are marked to their redemption value if such value exceeds the carrying value of the redeemable
noncontrolling interests in the OP.
On June 30, 2017, the Company and the OP entered into a contribution agreement (the “Contribution Agreement”) with BH
Equities, LLC and its affiliates (collectively, “BH Equity”), whereby the Company purchased 100% of the joint venture interests in the
Portfolio owned by BH Equity, representing approximately 8.4% ownership in the Portfolio (the “BH Buyout”), for total consideration
of approximately $51.7 million (the “Purchase Amount”). The Purchase Amount consisted of approximately $49.7 million in cash that
was paid on June 30, 2017 and 73,233 OP Units (initially valued at $2.0 million) that were issued on August 1, 2017. The number of
OP Units issued was calculated by dividing $2.0 million by the midpoint of the range of the Company’s net asset value as publicly
disclosed in connection with the Company’s release of its second quarter of 2017 earnings results, which was $27.31 per share.
In connection with the issuance of OP Units to BH Equity on August 1, 2017, the Company and the OP amended the partnership
agreement of the OP (the “Amendment”). Pursuant to the Amendment, limited partners holding OP Units have the right to cause the
OP to redeem their units at a redemption price equal to and in the form of the Cash Amount (as defined in the partnership agreement
of the OP), provided that such OP Units have been outstanding for at least one year. The Company, through the OP GP, as the general
partner of the OP may, in its sole discretion, purchase the OP Units by paying to the limited partner either the Cash Amount or the
REIT Share Amount (one share of common stock of the Company for each OP Unit), as defined in the partnership agreement of the
OP. Notwithstanding the foregoing, a limited partner will not be entitled to exercise its redemption right to the extent the issuance of
the Company’s common stock to the redeeming limited partner would (1) be prohibited, as determined in the Company’s sole
discretion, under the Company’s charter or (2) cause the acquisition of common stock by such redeeming limited partner to be
“integrated” with any other distribution of the Company’s common stock for purposes of complying with the Securities Act of 1933,
as amended. Accordingly, the Company records the OP Units held by noncontrolling limited partners outside of permanent equity and
reports the OP Units at the greater of their carrying value or their redemption value using the Company’s stock price at each balance
sheet date.
F-28
The following table sets forth the redeemable noncontrolling interests in the OP for the year ended December 31, 2018 (in
thousands):
Redeemable noncontrolling interests in the OP, December 31, 2017
Net loss attributable to redeemable noncontrolling interests in the OP
Other comprehensive income attributable to redeemable noncontrolling interests in the OP
Contributions from redeemable noncontrolling interests in the OP
Distributions to redeemable noncontrolling interests in the OP
Adjustment to reflect redemption value of redeemable noncontrolling interests in the OP
Redeemable noncontrolling interests in the OP, December 31, 2018
$
$
2,135
(5)
6
180
(188)
439
2,567
Noncontrolling Interests
Noncontrolling interests have in the past and may in the future be comprised of joint venture partners’ interests in joint ventures
the Company consolidates. When applicable, the Company reports its joint venture partners’ interests in its consolidated joint ventures
and other subsidiary interests held by third parties as noncontrolling interests. The Company records these noncontrolling interests at
their initial fair value, adjusting the basis prospectively for their share of the respective consolidated investment’s net income or loss,
equity contributions, return of capital, and distributions. Generally, these noncontrolling interests are not redeemable by the equity
holders and are presented as part of permanent equity. Income and losses are allocated to the noncontrolling interest holder based on
its economic ownership percentage.
On June 30, 2017, in connection with the BH Buyout, the Company purchased 100% of the outstanding noncontrolling interests
in its joint ventures for approximately $51.7 million. On June 30, 2017, prior to the BH Buyout, the carrying value of such
noncontrolling interests was approximately $20.5 million. On June 30, 2017, the Company eliminated the carrying value of such
noncontrolling interests on its consolidated balance sheet. The remaining $31.2 million of the Purchase Amount resulted in a reduction
to additional paid-in capital on the Company’s consolidated balance sheet.
Fees and Reimbursements to BH and its Affiliates
The Company has entered into management agreements with BH Management Services, LLC (“BH”), the Company’s property
manager and an independently owned third party, who manages the Company’s properties and supervises the implementation of the
Company’s value-add program. BH is an affiliate of BH Equity, who was a noncontrolling interest member of the Company’s joint
ventures prior to the BH Buyout on June 30, 2017. Through BH Equity’s noncontrolling interests in such joint ventures, BH Equity
was deemed to be a related party. With the completion of the BH Buyout, BH Equity is no longer deemed to be a related party. BH
Equity became a noncontrolling limited partner of the OP upon execution of the Amendment. BH and its affiliates do not have
common ownership in any joint venture with the Adviser; there is also no common ownership between BH and its affiliates and the
Adviser.
The property management fee paid to BH is approximately 3% of the monthly gross income from each property managed.
Currently, BH manages all of the Company’s properties. Additionally, the Company may pay BH certain other fees, including: (1) a
fee of $15-25 per unit for the one-time setup and inspection of properties, (2) a construction supervision fee of 5-6% of total project
costs, which is capitalized, (3) acquisition fees and due diligence costs reimbursements, and (4) other owner approved fees at $55 per
hour. BH also acts as a paymaster for the properties and is reimbursed at cost for various operating expenses it pays on behalf of the
properties. The following is a summary of fees that the properties incurred to BH and its affiliates, as well as reimbursements paid to
BH from the properties for various operating expenses, for the years ended December 31, 2018, 2017 and 2016 (in thousands):
Fees incurred
Property management fees
Construction supervision fees
Acquisition fees
Reimbursements
Payroll and benefits
Other reimbursements
2018
For the Year Ended December 31,
2017
2016
$
(1)
(2)
(3)
(4)
(5)
4,382 $
1,076
348
4,330 $
869
675
14,100
2,200
15,344
1,982
3,983
885
589
15,586
2,078
Included in property management fees on the consolidated statements of operations and comprehensive income.
(1)
(2) Capitalized on the consolidated balance sheets and reflected in buildings and improvements.
F-29
(3)
(4)
(5)
Includes due diligence costs. Acquisition fees incurred prior to October 1, 2016 are included in acquisition costs on the
consolidated statements of operations and comprehensive income. Acquisition fees incurred for the period beginning on October
1, 2016 are capitalized to real estate assets on the consolidated balance sheets.
Included in property operating expenses on the consolidated statements of operations and comprehensive income.
Includes property operating expenses such as repairs and maintenance costs and certain property general and administrative
expenses, which are included on the consolidated statements of operations and comprehensive income.
11. Related Party Transactions
Asset Management Fee
Until the BH Buyout on June 30, 2017, in accordance with the operating agreement of each entity that owns the properties, the
Company earned an asset management fee for services provided in connection with monitoring the operations of the properties. The
asset management fee was equal to 0.5% per annum of the aggregate effective gross income of the properties, as defined in each of the
operating agreements. For the years ended December 31, 2017 and 2016, the properties incurred asset management fees to the
Company of approximately $0.4 million and $0.7 million, respectively. Since the fees were paid to the Company (and not the Adviser)
by consolidated properties, they have been eliminated in consolidation. However, because the Company’s previous joint venture
partners owned a portion of each of a majority of the properties in the Portfolio, prior to the Company’s purchase of 100% of their
joint venture interests, they absorbed their pro rata share of the asset management fee. This amount is reflected on the consolidated
statements of operations and comprehensive income in the net income attributable to noncontrolling interests.
Advisory and Administrative Fee
In accordance with the Advisory Agreement, the Company pays the Adviser an advisory fee equal to 1.00% of the Average Real
Estate Assets (as defined below). The duties performed by the Company’s Adviser under the terms of the Advisory Agreement
include, but are not limited to: providing daily management for the Company, selecting and working with third party service
providers, managing the Company’s properties or overseeing the third party property manager, formulating an investment strategy for
the Company and selecting suitable properties and investments, managing the Company’s outstanding debt and its interest rate
exposure through derivative instruments, determining when to sell assets, and managing the value-add program or overseeing a third
party vendor that implements the value-add program. “Average Real Estate Assets” means the average of the aggregate book value of
Real Estate Assets before reserves for depreciation or other non-cash reserves, computed by taking the average of the book value of
real estate assets at the end of each month (1) for which any fee under the Advisory Agreement is calculated or (2) during the year for
which any expense reimbursement under the Advisory Agreement is calculated. “Real Estate Assets” is defined broadly in the
Advisory Agreement to include, among other things, investments in real estate-related securities and mortgages and reserves for
capital expenditures (the value-add program). The advisory fee is payable monthly in arrears in cash, unless the Adviser elects, in its
sole discretion, to receive all or a portion of the advisory fee in shares of common stock, subject to certain limitations.
In accordance with the Advisory Agreement, the Company also pays the Adviser an administrative fee equal to 0.20% of the
Average Real Estate Assets. The administrative fee is payable monthly in arrears in cash, unless the Adviser elects, in its sole
discretion, to receive all or a portion of the administrative fee in shares of common stock, subject to certain limitations.
The advisory and administrative fees paid to the Adviser on the Contributed Assets (as defined below) are subject to an annual
cap of approximately $5.4 million (the “Contributed Assets Cap”) (see “Expense Cap” below).
Pursuant to the terms of the Advisory Agreement, the Company will reimburse the Adviser for all documented Operating
Expenses and Offering Expenses it incurs on behalf of the Company. “Operating Expenses” include legal, accounting, financial and
due diligence services performed by the Adviser that outside professionals or outside consultants would otherwise perform, the
Company’s pro rata share of rent, telephone, utilities, office furniture, equipment, machinery and other office, internal and overhead
expenses of the Adviser required for the Company’s operations, and compensation expenses under the 2016 LTIP. Operating
Expenses do not include expenses for the advisory and administrative services described in the Advisory Agreement. Certain
Operating Expenses, such as the Company’s ratable share of rent, telephone, utilities, office furniture, equipment, machinery and other
office, internal and overhead expenses incurred by the Adviser or its affiliates that relate to the operations of the Company, may be
billed monthly to the Company under a shared services agreement. “Offering Expenses” include all expenses (other than underwriters’
discounts) in connection with an offering, including, without limitation, legal, accounting, printing, mailing and filing fees and other
documented offering expenses. For the years ended December 31, 2018, 2017 and 2016, the Adviser did not bill any Operating
Expenses or Offering Expenses to the Company and any such expenses the Adviser incurred during the periods are considered to be
permanently waived.
F-30
Expense Cap
Pursuant to the terms of the Advisory Agreement, expenses paid or incurred by the Company for advisory and administrative
fees payable to the Adviser and Operating Expenses will not exceed 1.5% of Average Real Estate Assets per calendar year (or part
thereof that the Advisory Agreement is in effect (the “Expense Cap”)). The Expense Cap does not limit the reimbursement of
expenses related to Offering Expenses. The Expense Cap also does not apply to legal, accounting, financial, due diligence and other
service fees incurred in connection with mergers and acquisitions, extraordinary litigation or other events outside the Company’s
ordinary course of business or any out-of-pocket acquisitions or due diligence expenses incurred in connection with the acquisition or
disposition of real estate assets. Also, advisory and administrative fees are further limited on Contributed Assets to approximately $5.4
million in any calendar year. Contributed Assets refers to all Real Estate Assets contributed to the Company as part of the Spin-Off.
The Contributed Assets Cap is not reduced for dispositions of such assets subsequent to the Spin-Off. Advisory and administrative
fees on New Assets are not subject to the above limitation and are based on an annual rate of 1.2% on Average Real Estate Assets, but
are subject to the Expense Cap. New Assets are all Real Estate Assets that are not Contributed Assets.
For the years ended December 31, 2018, 2017 and 2016, the Company incurred advisory and administrative fees of $7.5 million,
$7.4 million and $6.8 million, respectively. The amount paid for the years ended December 31, 2018, 2017 and 2016 represents the
maximum fee allowed on Contributed Assets under the Advisory Agreement plus approximately $2.1 million, $2.0 million and $1.4
million, respectively, of advisory and administrative fees incurred on New Assets.
For the year ended December 31, 2018, the Adviser elected to voluntarily waive the advisory and administrative fees incurred
on the eight properties acquired subsequent to October 2016, which totaled approximately $4.1 million. For the year ended December
31, 2017, the Adviser elected to voluntarily waive the advisory and administrative fees incurred on the five properties acquired
subsequent to October 2016, which totaled approximately $2.4 million. For the year ended December 31, 2016, the Adviser elected to
voluntarily waive the advisory and administrative fees incurred on the two properties acquired subsequent to October 2016, which
totaled less than $0.1 million. The advisory and administrative fees waived by the Adviser for the years ended December 31, 2018,
2017 and 2016 are considered to be permanently waived for the periods. The Adviser is not contractually obligated to waive fees on
New Assets in the future and may cease waiving fees on New Assets at its discretion.
Other Related Party Transactions
The Company has in the past, and may in the future, utilize the services of affiliated parties. For the years ended December 31,
2018, 2017 and 2016, the Company paid approximately $0.3 million, $1.2 million and $0.6 million, respectively, to NexBank Title,
Inc. (“NexBank Title”). NexBank Title is an affiliate of the Adviser through common beneficial ownership. NexBank Title provides
title insurance and work related to providing title insurance on properties related to acquisitions, dispositions and refinancing
transactions. These amounts are either capitalized as real estate assets or deferred financing costs, expensed as loss on extinguishment
of debt and modification costs, or expensed as selling costs when determining gain (loss) on sales of real estate, depending on the
appropriate accounting as determined for each specific transaction.
On November 14, 2018, as part of the 2018 Offering, affiliates of the Adviser purchased 207,971 shares from the underwriters.
The shares were purchased on the same terms as other investors at a public offering price of $33.00 per share. However, no
underwriters’ discount applied to the purchase of such shares.
12. Commitments and Contingencies
Commitments
In the normal course of business, the Company enters into various rehabilitation construction related purchase commitments
with parties that provide these goods and services. In the event the Company were to terminate rehabilitation construction services
prior to the completion of projects, the Company could potentially be committed to satisfy outstanding or uncompleted purchase
orders with such parties. As of December 31, 2018, management does not anticipate any material deviations from schedule or budget
related to rehabilitation projects currently in process.
Contingencies
In the normal course of business, the Company is subject to claims, lawsuits, and legal proceedings. While it is not possible to
ascertain the ultimate outcome of all such matters, management believes that the aggregate amount of such liabilities, if any, in excess of
amounts provided or covered by insurance, will not have a material adverse effect on the consolidated balance sheets or consolidated
statements of operations and comprehensive income of the Company. The Company is not involved in any material litigation nor, to
management’s knowledge, is any material litigation currently threatened against the Company or its properties or subsidiaries.
F-31
The Company is not aware of any environmental liability with respect to the properties that could have a material adverse effect
on the Company’s business, assets, or results of operations. However, there can be no assurance that such a material environmental
liability does not exist. The existence of any such material environmental liability could have an adverse effect on the Company’s
results of operations and cash flows.
13. Subsequent Events
Acquisition of Multifamily Properties
The Company acquired the following properties, structured as a reverse 1031 Exchange, as a portfolio (the “Phoenix Portfolio”)
subsequent to December 31, 2018 (dollars in thousands) (unaudited):
Property Name
Bella Vista Apartment
Homes
The Enclave
Apartment Homes
The Heritage
Apartment Homes
Location
Date of Acquisition Purchase Price
Mortgage Debt
# Units
Effective Ownership
Phoenix, Arizona January 28, 2019 $
48,400
$
29,040
Tempe, Arizona
January 28, 2019
41,800
25,322
Phoenix, Arizona January 28, 2019
$
41,900
132,100 (1)$
24,625
78,987 (2)
248
204
204
656
100%
100%
100%
(1)
(2)
The Company used approximately $52.5 million of proceeds drawn under a credit facility (see “$75 Million Credit Facility”
below) to fund a portion of the purchase price of the Phoenix Portfolio and planned value-add improvements to the Phoenix
Portfolio.
Each of the first mortgages on the properties has an 84-month term and bears interest at a rate of one-month LIBOR plus 1.32%.
$75 Million Credit Facility
On January 28, 2019, the Company, through the OP, entered into a $75.0 million credit facility (the “$75 Million Credit
Facility”) with SunTrust Bank, as administrative agent and the lenders party thereto, and immediately drew $52.5 million to fund a
portion of the purchase price of the Phoenix Portfolio. The $75 Million Credit Facility is a full-term, interest-only facility with an
initial 24-month term, has one 12-month extension option, bears interest at a rate of one-month LIBOR plus a range from 2.00% to
2.50%, depending on the Company’s leverage level as determined under the credit facility agreement, and is guaranteed by the
Company.
Renewal of Advisory Agreement
On February 13, 2019, the Board, including the independent directors, unanimously approved the renewal of the Advisory
Agreement with the Adviser for a one-year term that expires on March 16, 2020.
Dividends Declared
On February 13, 2019, the Company’s board of directors declared a quarterly dividend of $0.275 per share, payable on March
29, 2019 to stockholders of record on March 15, 2019.
14. Quarterly Results (unaudited)
Presented below is a summary of the unaudited quarterly consolidated financial information for the years ended December 31,
2018, 2017 and 2016 (in thousands, except per share amounts):
Total revenues
Net income (loss)
$
35,057 $
10,094
35,655 $
(1,666)
March 31
June 30
September 30
2018 Quarters Ended
36,495 $
(5,260)
December 31
39,390
(4,782)
Net income (loss) attributable to common stockholders
Earnings (loss) per share - basic
Earnings (loss) per share - diluted
10,064
0.48
0.47
(1,661)
(0.08)
(0.08)
(5,245)
(0.25)
(0.25)
(4,767)
(0.21)
(0.21)
(1)
(1)
F-32
(1) Quarterly earnings (loss) per share amounts are based on the weighted average common shares outstanding during the
respective quarter and, therefore, may not agree in total with the loss per share amount calculated for the year ended
December 31, 2018.
Total revenues
Net income (loss)
$
36,991 $
(3,304)
35,234 $
9,930
March 31
June 30
September 30
2017 Quarters Ended
37,097 $
54,076
December 31
34,913
(4,343)
Net income (loss) attributable to common stockholders
Earnings (loss) per share - basic
Earnings (loss) per share - diluted
(3,616)
(0.17)
(0.17)
7,406
0.35
0.34
53,914
2.56
2.53
(4,330)
(0.21)
(0.21)
(1)
(1)
(1) Quarterly earnings (loss) per share amounts are based on the weighted average common shares outstanding during the
respective quarter and, therefore, may not agree in total with the earnings per share amount calculated for the year ended
December 31, 2017.
Total revenues
Net income
$
33,511 $
291
33,657 $
16,596
March 31
June 30
September 30
2016 Quarters Ended
33,079 $
8,825
December 31
32,601
176
Net income (loss) attributable to common stockholders
Earnings (loss) per share - basic
Earnings (loss) per share - diluted
(1)
(1)
(15)
(0.00)
(0.00)
14,590
0.69
0.69
7,090
0.33
0.33
217
0.01
0.01
(1) Quarterly earnings (loss) per share amounts are based on the weighted average common shares outstanding during the
respective quarter and, therefore, may not agree in total with the earnings per share amount calculated for the year ended
December 31, 2016.
F-33
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S
NEXPOINT RESIDENTIAL TRUST, INC. AND SUBSIDIARIES
SCHEDULE III
REAL ESTATE AND ACCUMULATED DEPRECIATION
DECEMBER 31, 2018
A summary of activity for real estate and accumulated depreciation for the years ended December 31, 2018, 2017 and 2016 is as
follows (in thousands):
For the Year Ended December 31,
2017
2016
2018
$
1,082,805 $
1,029,349 $
942,755
131,679
28,809
198,173
25,748
176,638
24,956
(18,311)
(2,419)
1,222,563 $
(160,250)
(10,215)
1,082,805 $
(112,427)
(2,573)
1,029,349
91,649 $
45,002
2,468
(2,500)
(1,598)
135,021 $
66,312 $
39,812
8,940
(14,199)
(9,216)
91,649 $
39,873
34,265
1,379
(6,632)
(2,573)
66,312
Real Estate:
Balance, beginning of year
Additions:
Real estate acquired
Improvements
Deductions:
Real estate sold
Write-off of fully amortized assets and other
Balance, end of year
Accumulated Depreciation and Amortization:
Balance, beginning of year
Depreciation expense
Amortization expense
Accumulated depreciation on sales
Write-off of fully amortized assets and other
Balance, end of year
$
$
$
S-3