UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[Mark One]
[Mark One] | |
ýx | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the fiscal year ended December 31, 2006
OR
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| o | For the fiscal year ended December 31, 2005
OR
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¨ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from ______________ to ______________
| Commission File Number: 000-50256
Hartman Commercial Properties REIT (Exact Name of Registrant as Specified in Its Charter) Commission File Number: 000-50256
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Hartman Commercial Properties REIT
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(Exact Name of Registrant as Specified in Its Charter) |
Maryland (State or Other Jurisdiction of Incorporation or Organization) | | 76-0594970 (I.R.S. Employer Identification No.) |
1450 West Sam Houston Parkway North, Suite 100,111, Houston, Texas | 77043-3124
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(Address of Principal Executive Offices) | | 77043-3124 (Zip Code) |
Registrant's telephone number, including area code: (713) 467-2222Registrant’s telephone number, including area code: (713) 827-9595
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Securities registered pursuant to section 12(b) of the Act: None |
Securities registered pursuant to section 12(g) of the Act: Common Shares of Beneficial Interest, par value $0.001 per share Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ¨ No ý Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. Yes ¨ No ý 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 ý No ¨ Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best or 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. ¨ Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one) Large accelerated filer ¨ Accelerated filer ¨ Non-accelerated filer ý Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No ý The aggregate market value of the voting stock held by nonaffiliates of the Registrant as of June 30, 2006 (the last business day of the Registrant’s most recently completed second fiscal quarter) was $91,796,082 assuming a market value of $10 per share. As of March 30, 2007, the Registrant had 10,001,269 common shares of beneficial interest outstanding. DOCUMENTS INCORPORATED BY REFERENCE: We incorporate by reference into Part III portions of our proxy statement for the 2007 annual meeting of shareholders.
Common Shares of Beneficial Interest, par value $0.001 per share
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Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ¨ No ý
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Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. Yes ¨ No ý
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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 ý No ¨
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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 or 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. ¨
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Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of "accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check one)
Large accelerated filer ¨Accelerated filer ¨Non-accelerated filer ý
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Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No ý
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The aggregate market value of the voting stock held by nonaffiliates of the Registrant as of June 30, 2005 (the last business day of the Registrant's most recently completed second fiscal quarter) was $72,048,630 assuming a market value of $10 per share. |
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As of March 30, 2006, the Registrant had 9,346,614 common shares of beneficial interest outstanding. |
DOCUMENTS INCORPORATED BY REFERENCE
The Registrant incorporates by reference portions of its Definitive Proxy Statement for the 2006 Annual Meeting of Shareholders, which shall be filed no later than April 30, 2006, into Part III of this Form 10-K to the extent stated herein.
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HARTMAN COMMERCIAL PROPERTIES REIT
FORM 10-K
Year Ended December 31, 20052006
TABLE OF CONTENTS
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Unless the context otherwise requires, all references in this report to “HCP,” “we,” “us” or “our” are to Hartman Commercial Properties REIT and its subsidiaries.
Forward-Looking Statements
This annual report contains forward-looking statements, including discussion and analysis of the Company’sour financial condition, anticipated capital expenditures required to complete projects, amounts of anticipated cash distributions to itsour shareholders in the future and other matters. These forward-looking statements are not historical facts but are the intent, belief or current expectations of the Company’sour management based on its knowledge and understanding of the Company’sour business and industry. Forward-looking statements are typically identified by the use of terms such as “may,” “will,” “should,” “potential,” “predicts,” “anticipates,” “expects,” “intends,” “plans,” “believes,” “seeks,” “estimates” or the negative of such terms and variations of these words and similar expressions. These statements are not guarantees of future performance and are subject to risks, uncertainties and other factors, some of which are beyond the Company’sour control, are difficult to predict and could cause actual results to differ materially from those expressed or forecasted in the forward-looking statements.
Forward-looking statements that were true at the time made may ultimately prove to be incorrect or false. You are cautioned to not place undue reliance on forward-looking statements, which reflect our management’s view only as of the date of this Form 10-K. The Company undertakesWe undertake no obligation to update or revise forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events or changes to future operating results. Factors that could cause actual results to differ materially from any forward-looking statements made in this Form 10-K include changes in general economic conditions, changes in real estate conditions, construction costs that may exceed estimates, construction delays, increases in interest rates, lease-up risks, inability to obtain new tenants upon the expiration of existing leases, and the potential need to fund tenant improvements or other capital expenditures out of operating cash flow. include:
| · | changes in general economic conditions; |
| · | changes in real estate conditions; |
| · | construction costs that may exceed estimates; |
| · | increases in interest rates; |
| · | inability to obtain new tenants upon the expiration of existing leases; and |
| · | the potential need to fund tenant improvements or other capital expenditures out of operating cash flow. |
The forward-looking statements should be read in light of these factors and the factors identified in the “Risk Factors” sections of this Form 10-K and the Company’sour Registration Statement on Form S-11, as amended, as previously filed with the Securities and Exchange Commission.
General DevelopmentDescription of Business
Hartman Commercial Properties REIT (the “Company”) isWe are a Maryland real estate investment trust (“REIT”) organized in December 2003 for the purpose of merging with Hartman Commercial Properties REIT, a Texas real estate investment trust organized in August 1998. We are the surviving entity resulting from the merger, which was consummated on July 28, 2004. We have elected to be taxed as a real estate investmentREIT trust under federal income tax laws. The Company investsWe invest in and operatesoperate retail, office-warehouse,office and officewarehouse properties located primarily in the Houston, Dallas and San Antonio, Texas metropolitan areas, and plansareas. In the future, we plan to expand itsour investments to retail, office and office-warehousesimilar properties located in major metropolitan cities in the United States, principally in the southern United States. The Company leases each respective propertyEach of our properties is leased to one or more tenants.
Substantially all of our business is conducted through Hartman REIT Operating Partnership, L.P., a Delaware limited partnership organized in 1998 (the “Operating Partnership”). As of December 31, 2005 we were the owner of a 59.55% interest in the Operating Partnership, and weWe are the sole general partner of the Operating Partnership.
Our external advisor is Hartman Management, L.P. (the “Management Company”), As of December 31, 2006, we owned a Texas limited partnership formed62.34% interest in 1990. The Management Company is an affiliate of the Company and is wholly owned by Allen R. Hartman, our president, chief executive officer and chairman of our board of trustees. The Management Company is responsible for managing our affairs on a day-to-day basis and for identifying and making acquisitions and investments on our behalf.Operating Partnership.
On December 31, 2005,2006, we owned 3736 properties. All of our properties are located in the Houston, Dallas and San Antonio, Texas metropolitan areas. The properties consist of 19 retail, office-warehouse6 office and office11 warehouse properties, and each is designed to meet the needs of surrounding local communities. In the aggregate, atAs of December 31, 2005 the2006, our properties contained approximately 3,121,0003,093,000 square feet of gross leasable area.area in the aggregate.
As of December 31, 2005, the2006, our properties were approximately 82.3%83.3% leased. Substantially all of our revenues consist of base rents and percentage rents received under long-term leases. For the year ended December 31, 2005,2006, our total rents and other incomerevenues were $24,888,214 and percentage rents were $-0-.approximately $29.8 million. Approximately 67.9%84.7% of allour existing leases contain “step up” rental clauses that provide for annual increases in the base rental payments with a “step up” rental clause.payments.
OurBusiness Objectives and Strategy
With the helpOur strategy is to remain focused on being a value-added commercial property REIT that acquires and expands its ownership of the Management Company, we seek to maximize shareholder returnsprimarily C-class retail, office and warehouse properties. We will look for properties that are under leased and/or under managed in markets with potential upside, and add-value through a balanced strategy of aggressiveour management and leasing and property management, conservative expense controls and opportunistic portfolio management, with a goal of continuously increasing both current cash available for distribution to shareholders and the value of our properties.expertise. The key elements of thisour strategy include:
| · | ExploitCapitalize on Our Value-Added Acquisition Strategy. We invest in a mixture of (i) properties that we perceive are undervalued due to low occupancy, poor management, market inefficiencies and/or inadequate capitalization where we can create value through improved earnings by implementingusing our aggressive marketing, leasing and property management programs,expertise, and (ii) stabilized properties that are relatively well occupied and managed and provide steady current net operating income with lower growth potential.
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· | Leverage Our Local Market Knowledge. We leverage our Houston market expertise and business relationships with both tenants and brokers to increase occupancy and rental rates through aggressive marketing and leasing, value-added management of and strategic improvements to our Houston properties.
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| · | Take Advantage of Economic Cycles. We diversify our property and tenant mixes in order to take advantage of opportunities in, and manage the risks resulting from, different economic cycles that occur among various property types. |
| · | Expand Into Target MarketsInvestment Outside of Texas Market.. We seek to acquireinvest in similar properties outside of Texasin other Texas markets that we can effectively manage from our centralized Houston base and which have similarcities with exceptional demographics to diversify market demographics and characteristics to our Houston properties.risk.
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| · | Selectively Develop Properties. We intend to selectively develop properties principally in the retail and office-warehouse sectors, in our existing markets where land prices and economic trends indicate higher potential future returns from development than from acquisitions. |
| · | Recycle Capital for Greater ReturnsStrengthen Our Balance Sheet. . We seekintend to selectively dispose of assets that have little or no growth potential and recycle the capital through opportunistic property dispositions where demographic, economic and/or growth trends with respect to a property or its sub-market indicate decreasing returns, followed by redeployment of the sale proceeds into propertiesassets having the potential for greater returns.
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Recent Developments
Initial Property Management and Advisory Agreements
On October 2, 2006, our Board of Trustees (our “Board”) terminated for cause our amended and restated property management agreement, dated September 1, 2004, with Hartman Management, L.P. (“Hartman Management”). Our Board determined that it was in the best interests of HCP and our shareholders to terminate this agreement because of numerous unresolved issues and conflicts of interest between Allen R. Hartman, Hartman Management and HCP. In addition, our Board believed that it was in the best interests of HCP and our shareholders to move forward as a self-managed, self-administered REIT with a new, fully integrated management team.
In addition, our Board elected not to renew our advisory agreement, dated August 31, 2004, with Hartman Management. This agreement had been extended on a month-to-month basis and ultimately expired on September 30, 2006.
Pursuant to these agreements, Hartman Management had acted as our advisor and manager of our day-to-day operations and portfolio of properties. Mr. Hartman, our former President, Secretary, Chief Executive Officer, and Chairman of the Board, is the sole limited partner of Hartman Management, as well as the president, secretary, sole trustee and sole shareholder of the general partner of Hartman Management. As described below, Mr. Hartman was removed by our Board as our President, Secretary, and Chief Executive Officer on October 2, 2006, and he resigned from our Board on October 27, 2006.
Departure of Directors or Principal Officers; Election of Directors; Appointment of Principal Officer
On October 2, 2006, our Board voted to terminate Mr. Hartman from his positions as our President, Secretary and Chief Executive Officer and appointed James C. Mastandrea to serve as our interim Chief Executive Officer and Chairman of our Board. Mr. Mastandrea had served as an independent member of our Board since July 5, 2006. There are no arrangements or understandings between Mr. Mastandrea and any other person pursuant to which Mr. Mastandrea was selected as an officer. Since the beginning of our last fiscal year, Mr. Mastandrea has had no direct or indirect interest in any transaction to which we were a party. On October 27, 2006, Mr. Hartman resigned from our Board.
Litigation between HCP and Allen R. Hartman and Hartman Management
In October 2006, we initiated an action in the 333rd Judicial District Court of Harris County, Texas against Mr. Hartman and Hartman Management. We are seeking damages for breach of contract, fraudulent inducement and breach of fiduciary duties.
In November 2006, Mr. Hartman and Hartman Management filed a counterclaim against us, the members of our Board, and our Chief Operating Officer, John J. Dee. The counterclaim has since been amended to drop the claims against the individual defendants with the exception of Messrs. Mastandrea and Dee. The amended counterclaim asserts claims against us for alleged breach of contract and alleges that we owe Mr. Hartman and Hartman Management fees for the termination of an advisory agreement. The amended counterclaim asserts claims against Messrs. Mastandrea and Dee for tortious interference with the advisory agreement and a management agreement and conspiracy to seize control of us for their own financial gains. We have indemnified Messrs. Mastandrea and Dee to the extent allowed by our governing documents and Maryland law. The amended counterclaim also asserts claims against our prior outside law firm and one of its partners.
Limited discovery has been conducted in this case as of the date of this filing. The case is set for trial in July 2007.
It is too early to express an opinion concerning the likelihood of an adverse outcome on the counterclaim, although we intend to vigorously defend against those claims and vigorously prosecute our affirmative claims.
In December 2006, we also initiated an actionin the United States District Court for the Southern District of Texas complaining of the attempts by Mr. Hartman and Hartman Management to solicit written consents from shareholders to replace our Board.
Mr. Hartman and Hartman Management have filed a counterclaim claiming that changes to our bylaws and declaration of trust are invalid and that their enactment is a breach of fiduciary duty. They are seeking a declaration that the changes to our bylaws and declaration of trust are invalid and an injunction barring their enforcement. These changes, among other things, stagger the terms of our Board members over three years, require two-thirds vote of the outstanding common shares to remove a Board member and provide that our secretary may call a special meeting of shareholders only upon the written request of a majority of outstanding common shares. We believe the changes to our bylaws and declaration of trust are valid under Maryland law and in the best interest of our shareholders. We have filed a motion to dismiss the counterclaims. A group of shareholders has filed a request to intervene in this action to assert claims similar to those asserted by Mr. Hartman and Hartman Management. We have opposed the intervention.
There has been limited discovery in this case as of the date of this report. Documents have been produced and interrogatory responses exchanged. We have produced the members of our Board for deposition as well as Mr. Dee. The Court has conducted a hearing on the parties’ cross request for preliminary injunction, but has not yet ruled on that request.
It is too early to express an opinion concerning the likelihood of an adverse outcome on the counterclaim, although we intend to vigorously defend against those claims and vigorously prosecute our affirmative claim.
Public Offering
On September 15, 2004, our Registration Statement on Form S-11, with respect to a public offering (the “Public Offering”) of up to 10,000,000 common shares of beneficial interest to be offered at a price of $10.00$10 per share was declared effective under the Securities Act of 1933, as amended.1933. The Registration Statement also coverscovered up to 1,000,000 shares available for sale pursuant to our dividend reinvestment plan to be offered at a price of $9.50 per share. The shares are beingwere offered to investors on a best efforts basis, which means that the broker-dealers participating in the offering are only required to use their best efforts to sell the sharesbasis. Post-Effective Amendments No. 1, 2 and have no firm commitment or obligation to purchase any of the shares. Post-Effective Amendment No.13 to the Registration Statement waswere declared effective by the SEC on June 27, 2005, and Post-Effective Amendment No. 2 to the Registration Statement was declared effective by the SEC on March 9, 2006.2006 and May 3, 2006, respectively.
On October 2, 2006, our Board terminated the public offering. On March 27, 2006, we gave the required ten days notice to our participants informing them that we intend to terminate our dividend reinvestment plan. As a result our dividend reinvestment program will terminate on April 6, 2007. As of March 30,December 31, 2006, we2,831,184 shares had accepted subscriptions for andbeen issued 2,336,468 shares in the Public Offering for grosspursuant to our public offering with net offering proceeds received of $23,335,291. We pay a dealer manager fee of up to 2.5% of the gross offering proceeds to D.H. Hill Securities, LLP, our dealer manager for the Public Offering, and also selling commissions of up to 7.0% of the gross offering proceeds for any sales through participating broker-dealers and the dealer manager, other than sales by employees of the Management Company sponsored by the dealer manager. Additionally, in connection with the Public Offering, we have agreed to pay the Management Company, in its capacity as our advisor (i) up to 2.5% of the gross offering proceeds as reimbursement for the Management Company’s payment of organization and offering expenses on behalf of the Company and (ii) an acquisition fee equal to 2.0% of the gross offering proceeds for its services in connection with the selection, purchase, development or construction of real property (payable upon receipt by the Company of such proceeds, rather than when a property is acquired). We accrued an aggregate of $1,888,762 in dealer manager fees, discounts and selling commissions for the subscriptions accepted through March 30, 2006, resulting in net proceeds to the Company (after the payment of such fees, discounts and commissions) of $21,446,529. Out of such net proceeds, we accrued amounts payable to the Management Company of $569,423 as a reimbursement of organization and offering expenses and $455,538approximately $24.6 million. An additional 138,033 shares had been issued pursuant to the acquisition fee described above.
Additional subscription proceeds will be helddividend reinvestment plan in escrow until investors are admitted as shareholders. We close new subscriptions forlieu of dividends totaling approximately $1.3 million. Shareholders that received shares monthly pursuant to the Public Offering. At each closing we receive proceeds from subscriptions outour dividend reinvestment plan on or after October 2, 2006 may have recission rights. See “Dividend Reinvestment Plan”in Item 5 of escrow and use such funds to make investments and pay the dealer manager fee, selling commissions and other organization and offering expenses. Until required for such purposes, net offering proceeds are held in short-term, liquid investments.
Subscriptions were received for an aggregate of 11,840 shares from three of our independent trustees. These subscriptions were at a discounted price of $9.05 per share, reflecting the fact that selling commissions in the amount of $0.70 per share and dealer manager fees in the amount of $0.25 per share were not payable in connection with such sales. Accordingly, the net proceeds to us from such sales made net of commissions were substantially the same as the net proceeds we receive from sales of shares at the $10.00 per share offering price. The subscription price for these shares was paid through the trustees’ assignment to the Company of their right to receive accrued and unpaid trustee fees in the aggregate amount of $107,150. For a further discussion of discounted sales of shares to our trustees, see the “Plan of Distribution” section of our Registration Statement for the Public Offering.
Recent Acquisitionsthis report.
On March 14, 2005, we purchased Woodlake Plaza, an office building containing approximately 106,000 rentable square feet located on an approximately 3.4963-acre tract of land in Houston, Texas. The total purchase price of Woodlake Plaza was $5.5 million, plus closing costs. We funded $3.3 million of the purchase price with borrowings under our line of credit at Union Planters Bank and used working capital to fund the balance. We negotiated the purchase price with, and acquired the property from, CSFB 1998-P1 Gessner Office Limited Partnership. CSFB 1998-P1 Gessner Office Limited Partnership is not affiliated with us, the Operating Partnership or the Management Company. Woodlake Plaza, which was built in 1975, includes among its major tenants Hibernia Corporation, Management Alliance Group and Rock Solid Images. At the time of the acquisition, aggregate annual base rent for all tenants in Woodlake Plaza was approximately $1,370,403.
On August 10, 2005, we purchased 9101 LBJ Freeway (formerly know as The Interchange), an office building containing approximately 126,000 rentable square feet located on an approximately 5.8-acre tract of land in Dallas, Texas (“9101 LBJ Freeway”). The total purchase price of 9101 LBJ Freeway was $7.98 million, plus closing costs. We funded $7.6 million of the purchase price with borrowings under our line of credit at KeyBank and used working capital to fund the balance. We negotiated the purchase price with, and acquired the property from, CMD Realty Investment Fund II, L.P. 9101 LBJ Freeway, which was built in 1985, includes among its major tenants Compass Insurance and Air Liquide. At the time of the acquisition, the aggregate annual base rent for all tenants in 9101 LBJ Freeway was approximately $1,314,790.
On November 22, 2005, we purchased Uptown Tower (formerly know as Amberton Tower), an office building containing approximately 254,000 rentable square feet located on an approximately 2.98-acre tract of land in Dallas, Texas. The total purchase price of Uptown Tower was $16.95 million, plus closing costs. We funded $15.95 million of the purchase price with borrowings under our line of credit at KeyBank and used working capital to fund the balance. We negotiated the purchase price with, and acquired the property from, Transwestern Amberton Tower, L.P. Uptown Tower, which was built in 1982, includes among its major tenants Brockette/Davis/Drake and US Oncology. At the time of the acquisition, the aggregate annual base rent for all tenants in Uptown Tower was approximately $3,012,959.
Investment Objectives and Criteria
The following is an overview of our current policies with respect to investments, borrowing, affiliate transactions, equity capital and certain other activities. All of these policies have been established in our governance documents or by our management and may be amended or revised from time to time (and at any time) by our management or trustees without a vote or the approval of our shareholders. We cannot assure you that our policies or investment objectives will be attained or that the value of our common shares will not decrease.
General
We invest in commercial real estate properties, primarily community retail centers, office buildings and office-warehousewarehouse properties. Our primary business and investment objectives are:
| · | to maximize cash dividends paid to our shareholders; |
· | · | to obtain and preserve long-term capital appreciation in the value of our properties to be realized upon our ultimate sale of suchour properties; and |
· | · | to provide our shareholders with liquidity for their investment in us by listing our shares on the New York Stock Exchange, the American Stock Exchange, the Nasdaq National Market or anothera national exchange within twelve years after the completion of the Public Offering.exchange. |
In addition, to the extent that our advisor determineswe determine that it is advantageous to make or invest in mortgage loans, we will also seek to obtain fixed income through the receipt of payments on mortgage loans. Our management intends to limit such mortgage investments to 15% of our total investment portfolio unless prevailing economic or portfolio circumstances require otherwise. We cannot assure you that we will attain these objectives or that our capital will not decrease. Pursuant to our advisory agreement, the Management Company will be indemnified for claims relating to any failure to succeedWe currently have no investment in achieving these objectives.mortgage loans.
We may not materially change our investment objectives, except upon approval of shareholders holding a majority of our common shares of beneficial interest. Our independent trustees will review our investment objectives at least annually to determine that our policies are in the best interests of our shareholders. Decisions relating to the purchase or sale of our investments will be made by the Management Company, as our advisor,management, subject to approval by our board of trustees,Board, including a majority of our independent trustees.
Acquisition and Investment Policies
WeAlthough the Company acquired no properties in 2006, we intend to continue to acquire community retail centers, office-warehouseoffice and officewarehouse properties for long-term ownership and for the purpose of producing income.income and generating value growth. We seek to acquire and own properties that generally have premier business addresses in especially desirable locations. SuchThese properties generally are of high quality construction, offer personalized tenant amenities and attract higher quality tenants. We generally intend to hold our properties for an extended period of time, which we believe is optimal to enable us to capitalize on the potential for increased income and capital appreciation of our properties. However, economic or market conditions may influence us to hold our investments for different periods of time. Also our management believes that targeting this type of property for investment will enhance our ability to enter into joint ventures with other institutional real property investors (such as pension funds, public REITs and other large institutional real estate investors), thus allowing us greater diversity of investment by increasing the number of properties in which we invest. Our management also believes that by owning a portfolio consisting largely of the diverse types of properties described above we enhance our liquidity opportunities for investors by making the sale of individual properties or multiple properties or our investment portfolio as a whole attractive to institutional investors and by making a possible listing of our shares attractive to the public investment community.purchasers.
We acquire properties primarily for income. AlthoughHistorically we have historically invested in properties that have been constructed and have operating histories, wehistories. We may in the future, however, become more active in investing in raw land for development or in properties that are under development or construction where we see suchthe properties having the potential for greater returns than those attainable from acquiredcompleted properties. To the extent feasible, we will invest in a portfolio of properties that will satisfy our investment objectives of maximizing cash available for payment of dividends, preserving our capital and realizing capital appreciation upon the ultimate sale of our properties.
Our policy is to continue to acquire properties that are under leased and/or under managed, in the Houston, Dallasmarkets with potential upside, and San Antonio, Texas metropolitan areas where we believe opportunities exist for acceptable investment returns.add-value through our management and leasing expertise. We anticipate that we will continue to focus on properties in the $1 million to $10$15 million-value range. We typically lease our properties to a wide variety of tenants on a “triple-net” basis, which means that the tenant is responsible for paying the cost of all maintenance and minor repairs, property taxes and insurance relating to its leased space. Our management believes that its extensive experience, market knowledge and network of industry contacts in the Houston, Dallas and San Antonio metropolitan areas, and the limitation of our investments to this area, gives us a competitive advantage and enhances our ability to identify and capitalize on acquisitions.
Although we currently intend to invest in or develop community retail, centersoffice and other office-warehouse and officewarehouse properties, in the Houston, Dallas and San Antonio metropolitan areas, our future investment or redevelopment activities are not limited to any geographic area or to a specified property type or use. We may invest in any geographic area and we may invest in other commercial properties such as manufacturing facilities, and warehouse and distribution facilities in order to reduce overall portfolio risk, enhance overall portfolio returns, or respond to changes in the real estate market if our advisor determines thatwe believe it would be advantageous to do so.
Although we are not limited as to the form our investments may take, all of our properties are owned by the Operating Partnership or by a wholly owned subsidiary of the Operating Partnership in fee simple title. We expect to continue to pursue our investment objectives through the direct ownership of properties. However, in the future, we may also participate with other entities (including non-affiliated entities) in property ownership, through joint ventures, limited liability companies, partnership, co-tenancies or other types of common ownership. We presently have no plans to own any property jointly with another entity or entities. In addition, we may purchase properties and lease them back to the sellers of suchthese properties. While we will use our best efforts to structure any such sale-leaseback transaction suchso that the lease will be characterized as a “true lease” so thatand we will be treated as the owner of the property for federal income tax purposes, we cannot assure you that the Internal Revenue Service will not challenge suchthis characterization. In the event that any sucha sale-leaseback transaction is recharacterizedre-characterized as a financing transaction for federal income tax purposes, deductions for depreciation and cost recovery relating to suchthat property would be disallowed.
Terms of Leases and Tenant Credit Worthiness
While the terms and conditions of any lease that we enter into with our tenants may vary substantially from those described herein, we expect that a majority of our leases will be a form of lease customarily used between landlords and tenants in the geographic area where the property is located. SuchThese leases generally provide for terms of three to five years and require the tenant to pay a pro rata share of building expenses. Under suchIn typical leases, the landlord is directly responsible for all real estate taxes, certain sales and use taxes, special assessments, utilities, insurance and building repairs, and other building operation and management costs.
Borrowing Policies
Our organizational and governance documents generally limit the maximum amount of indebtedness that we may incur to 300% of our net assets as of the date of any borrowing. Notwithstanding the foregoing, we may exceed suchthis borrowing limitslimit if any excess in borrowing over suchthe 300% level is approved by a majority of our independent trustees and disclosed to our shareholders in a subsequent quarterly report. Further, we do not have a policy limiting the amount of indebtedness we may incur or the amount of mortgages which may be placed on any one piece of property. As a general policy, however, we intend to maintain a ratio of total liabilities to total assets that is less than 50%60%. As of December 31, 2005,2006, we had a ratio of total liabilities to total assets of 48.7%45.8%. However, we may not be able to continue to achieve this objective.
The Management CompanyWe will cause us to refinance properties during the term of a loan only in limited circumstances, such as when a decline in interest rates makes it beneficial to prepay an existing mortgage, when an existing mortgage matures or if an attractive investment becomes available and the proceeds from the refinancing can be used to purchase suchthat investment. The benefits of the refinancing may include an increased cash flow resulting from reduced debt service requirements, an increase in dividend distributions from proceeds of the refinancing and an increase in property ownership if refinancing proceeds are reinvested in real estate.
We may not borrow money from any of our trustees or fromunless the Management Company and its affiliates unless such loan is approved by a majority of the trustees, including a majority of the independent trustees not otherwise interested in the transaction, asinterested. The trustees must determine that such loan is fair, competitive and commercially reasonable and no less favorable to us than a comparable loan between unaffiliated parties.
Disposition Policies
We intend to hold each property thatCurrently we acquire for an extended period, and we have no current intention to dispose of anyare evaluating all of our properties. However, circumstancesproperties to determine the best long term course of action for each property. We may arise that might compel usdetermine it is best to sell certain properties.properties and reinvest the proceeds in properties that we believe have greater upside. We might sell a property if in the judgment of the Management Company,we believe the value of the property is expected to decline substantially, an opportunity has arisen to improve other properties that have better long-term prospects for appreciation, we can increase cash flow through the disposition of the property and reinvestment of the net proceeds or the sale of the property is otherwise in our best interests. We generally intend to hold our investments long-term; however, economiclong-term. Economic or market conditions may, however, influence us to hold our investments for different periods of time. The determination of whether a particular property should be sold or otherwise disposed of will be made after consideration of relevant factors including prevailing economic conditions, with a view to achieving maximum capital appreciation. The selling price of a leased property will beis determined in large part by the amount of rent payable by the tenants.
Pursuant to our Declarationdeclaration of Trust,trust, if our shares are not listed for trading on the New York Stock Exchange, the American Stock Exchange, the NasdaqNASDAQ National Market or another national exchange within twelve years of the termination of the Public Offering,by October 2, 2018, unless suchthis date is extended by the majority vote of both our board of trusteesBoard and our independent trustees, we will be required to begin the sale of all of our properties and to distribute to our shareholders the net sale proceeds resulting from our liquidation. If at any time after twelve years of the termination of the Public Offeringthat date, we are not in the process of either (i) listing our shares for trading on a national securities exchange or including suchour shares for quotation on the NasdaqNASDAQ Stock Market or (ii) liquidating our assets, investors holding a majority of our shares may vote to require our liquidation. Depending upon then prevailing market conditions, itIt is our intention to begin to consider the process of listing or liquidation prior to the twelfth anniversary of the termination of the Public Offering.October 2, 2018. In making the decision to apply for listing, of our shares, the trusteesBoard will try to determine whether listing our shares or liquidating our assets will result in greater value for our shareholders. The circumstances, if any, under which the trustees willour Board would agree to list our shares cannot be determined at this time. Even if our shares are not listed or included for quotation, we are under no obligation to actually sell our portfolio within this period since the precise timing will depend on real estate and financial markets, economic conditions of the areas in which theour properties are located and federal income tax effects on shareholders that may prevail in the future. We may not be able to liquidate our assets. We will continue in existence until all of our properties are sold and our other assets are liquidated.
6
We sold one property in 2006. On December 1, 2006, we sold Northwest Place II, a 27,974 square foot office/warehouse building located in Houston, Texas for a sales price of $1,175,000. A gain of $197,000 was generated from this sale, which is reflected in our consolidated financial statements for the year ended December 31, 2006. It is anticipated that the funds received from this sale will be used for future acquisitions and/or capital improvements to properties we believe have upside.Securities of or Interests in Persons Primarily Engaged in Real Estate Activities and Other Issuers
Consistent with the requirements necessary to maintain our qualification as a REIT, we may acquire securities of entities engaged in real estate activities or securities of other issuers, including for the purpose of exercising control over suchthose entities. We may acquire all or substantially all of the securities or assets of REITs or similar entities where suchthe investments would be consistent with our investment policies. We anticipate that we will only acquire securities or other interests in issuers engaged in commercial real estate activities involving retail, office or office-warehouse properties. We may also invest in entities owning undeveloped acreage. Neither our Declarationdeclaration of Trusttrust nor our bylaws place any limit or restriction on the percentage of our assets that may be invested in securities of or interests in other issuers. The governance documents of the Operating Partnership also do not contain any such restrictions.
We may also invest in limited partnershippartnerships and other ownership interests in entities that own real property. We expect that we may make suchthese investments when we consider it more efficient to acquire an entity owning such real property rather than to acquire the properties directly. We also may acquire less than all of the ownership interests of suchthese entities if we determine that suchtheir interests are undervalued and that a liquidation event in respect of suchtheir interests are expected within the investment holding periods consistent with that for our directof property investments.
Other than our interest in the Operating Partnership, we currently do not own any securities of other entities. We do not presently intend to acquire securities of any non-affiliated entities.
Equity Capital
If our trustees determineBoard determines that it is advisable and in our best interests to raise additional equity capital, they haveit has the authority, without shareholder approval, to authorize us to issue additional common shares or preferred shares of beneficial interests.interests up to the 400,000,000 authorized shares. Additionally, our trusteesBoard could cause the Operating Partnership to issue units whichthat are convertible into our common shares (“OP Units”).shares. Subject to limitations contained in the organizational and governance documents of the Operating Partnership, and us, the trusteesour Board could issue, or cause to be issued, such securities in any manner (and on such terms and for such consideration) they deem appropriate, including in exchange for real estate. We have issued securities in exchange for real estate and we expect to continue to do so in the future. Existing shareholders have no preemptive right to purchase such shares in any offering, and any such offering might cause dilution of an existing shareholder’s investment in the Company.our company.
Environmental Matters
All real property and the operations conducted on real property are subject to federal, state and local laws and regulations relating to environmental protection and human health and safety. These laws and regulations generally govern wastewater discharges, air emissions, the operation and removal of underground and above-ground storage tanks, the use, storage, treatment, transportation and disposal of solid and hazardous materials, and the remediation of contamination associated with disposals. Under these laws and regulations, a current or previous owner or operator of real property may be liable for the cost of removal or remediation of hazardous or toxic substances on, under or in suchits property. Some of these laws and regulations may impose joint and several liability on tenants, owners or operators for the costs of investigation or remediation of contaminated properties, regardless of fault or the legality of the original disposal and whether or not the owner or operator knew of, or was responsible for, the presence of suchany hazardous or toxic substances.
Environmental laws also may impose restrictions on the manner in which property may be used or businesses may be operated, and complying with these restrictions may require substantial expenditures. Environmental laws provide for sanctions in the event of noncompliance and may be enforced by governmental agencies or, in certain circumstances, by private parties. Certain environmental laws and common law principles could be used to impose liability for release of and exposure to hazardous substances, including asbestos-containing materials into the air, and third parties may seek recovery from owners or operators of real propertiesproperty for personal injury or property damage associated with exposure to released hazardous substances. Additionally, concern about indoor exposure to mold has been increasing as exposure to moldit may cause a variety of adverse health effects and
symptoms, including allergic or other reactions. As a result, the presence of significant mold at any of our properties could require us to undertake a costly remediation program to contain or remove the mold from the affected property, and could expose us to liability to our tenants, their employees and others. The cost of defending against claims of liability, of compliance with environmental regulatory requirements, of remediating any contaminated property, or of paying personal injury claims could materially adversely affect our business, assets or results of operations and, consequently, amounts available for payments of dividends to the Company’sour shareholders. In addition, the presence of these substances, or the failure to properly remediate these substances, may adversely affect our ability to sell or rent sucha property or to use the property as collateral for future borrowing.
Some of these laws and regulations have been amended so as to require compliance with new or more stringent standards as of future dates. Compliance with new or more stringent laws or regulations or stricter interpretation of existing laws may require material expenditures by us. We cannot assure you that future laws, ordinances or regulations will not impose any material environmental liability, or that the current environmental condition of our properties will not be affected by the operations of the tenants, by the existing condition of the land, by operations in the vicinity of the properties, such as the presence of underground storage tanks, or by the activities of unrelated third parties. In addition, there are various local, state and federal fire, health, life-safety and similar regulations that we may be required to comply with, and which may subject us to liability in the form of fines or damages for noncompliance.
We will not purchase any property unless and until we obtain what is generally referred to as a “Phase I” environmental site assessment and are generally satisfied with the environmental status of the property. A Phase I environmental site assessment basically consists of a visual survey of the building and the property in an attempt to identify areas of potential environmental concerns, visually observing neighboring properties to assess surface conditions or activities that may have an adverse environmental impact on the property, and contacting local governmental agency personnel and performing a regulatory agency file search in an attempt to determine any known environmental concerns in the immediate vicinity of the property. A Phase I environmental site assessment does not generally include any sampling or testing of soil, groundwater or building materials from the property. Certain properties that we have acquired contain, or contained, dry-cleaning establishments utilizing solvents. Where believed to be warranted, samplings of building materials or subsurface investigations were undertaken with respect to these and other properties. To date, the costs associated with these investigations and any subsequent remedial measures taken have not been material to the Company.us.
We believe that our properties are in compliance in all material respects with all federal, state and local ordinances and regulations regarding the handling, discharge and emission of hazardous or toxic substances. We have not been notified by any governmental authority, and are not otherwise aware, of any material noncompliance, liability or claim relating to hazardous or toxic substances in connection with any of our present or former properties. We have not recorded in our financial statements any material liability in connection with environmental matters. Nevertheless, it is possible that the environmental assessments we have obtained and/or reviewed have not revealed all potential environmental liabilities. It is also possible that subsequent environmental assessments or investigations will identify material contamination, that adverse environmental conditions have arisen subsequent to the performance of the environmental assessments, or that there are material environmental liabilities of which our management is unaware.
Competition
All of our properties are located in areas that include competing properties. The amount of competition in a particular area could impact our ability to acquire additional real estate, sell current real estate, lease space and the amount of rent we are able to charge. We may experience competition for tenants frombe competing with owners, including but not limited to, other REITs, insurance companies and managers of similar projects, which may include partnerships or other entities managed by the Management Company. We will experience competition in the acquisition of real estate and the making of mortgages from similar companiespension funds with access to greater resources than those available to us. At the time we elect to dispose of our properties, we will also be in competition with sellers of similar properties.
Employees
Although we have executive officers who have management responsibilities with respect to the Company, we do not have any direct employees. The employees of the Management Company and other affiliates of the Company perform a full range of real estate services for the Company, including acquisitions, property management, accounting, asset management, wholesale brokerage and investor relations. As of December 31, 2005, the Management Company2006, we had 95 full time and41 employees, one part time employees, none of whom was represented by a union.
Economic Dependency
We are dependent on our affiliates, including the Management Company, for services that are essential to the Company, including the sale of our common shares, asset acquisition decisions, property management and other general administrative responsibilities. In the event that these companies were unable to provide these services to us, or if we were to terminate management or other agreements with these companies, we would be required to obtain such services from other sources.part-time.
Financial Information About Segments
Management doesOur management historically has not differentiatedifferentiated by property types and because no individual property is so significant as to be a separate segment, the Companytherefore does not presentpresented segment information.
Web Site Address
The CompanyWe electronically files itsfile our Annual Report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all amendments to those reports with the Securities and Exchange Commission (“SEC”(the “SEC”). Copies of the Company’sour filings with the SEC may be obtained from the Company’s website at www.hartmanmgmt.com or at the SEC’s website, at http://www.sec.gov.www.sec.gov. Access to these filings is free of charge. The Company’sWe are currently in the process of reviewing and updating our business code of ethics and certainethics. Once finalized, it may be viewed at http://www.hcpreit.com. We are also in the process of posting other corporate governance documentation may also be obtained from the Company’s website at www.hartmanmgmt.com.to our website. The information on our web sitewebsite is not, and should not be considered, to be, a part of this report.
Some or all of the following factors may affect our properties, which could adversely affect our operations and ability to pay dividends to shareholders. The Company and its performance will be subject to additional risks as have been listed in the Company’s Registration Statement on Form S-11, as amended, as previously filed with the Securities and Exchange Commission.
There can be no assurance that we will be able to pay or maintain cash dividends or that dividends will increase over time.
There are many factors that can affect the availability and timing of cash dividends we pay to shareholders. Such factors, include general economic conditions,Dividends will be based principally on cash available from our properties, real estate market conditions, rentalsecurities, mortgage loans and occupancy rates at our properties,other investments. The amount of cash available for dividends will be affected by many factors, such as our ability to buy properties, as offering proceeds become available, the yields on securities of other real estate programs that we invest in, and our operating expense levels, as well as many other variables. In 2006, our Board voted to decrease our dividend rate for the second quarter of 2006 to $0.15 per common share, as compared to $0.1768 per common share for the first quarter of 2006. This quarterly dividend rate continued for the third and fourth quarters of 2006. We can give no assurance that we will be able to pay or maintain dividends or that dividends will increase over time. We alsoIn addition, we can give no assurance that rents from ourthe properties will increase, that the securities we buy will increase in value or provide constant or increased dividends over time, or that future acquisitions of real properties, mortgage loans or our investments in securities will increase our cash available for dividends to shareholders. Our actual results may differ significantly from the assumptions used by our board of trusteesBoard in establishing the dividend rate to shareholders.
If we experience decreased cash flows, we may need to use other sources of cash to fund dividends or we may be unable to pay dividends.
Actual cash available for dividends may vary substantially from estimates. If our cash dividends exceed the amount of cash available for dividends, we may need to fund the shortage out of working capital, borrowings under our lines of credit or out of proceeds of our Public Offering,by obtaining other debt, which would reduce the amount of proceeds available for real estate investments. For the year ended December 31, 2005, our total distributions exceeded our net cash flow from operating activities by $605,263. We funded this shortage with cash from borrowings under our KeyBank credit facility. Should cash flows continue not to cover our total distributions, our ability to pay dividends at the current rate, or at all, may be adversely affected.
We may need to incur additional borrowings to meet REIT minimum distribution requirements.
In order to maintain our qualification as a REIT, we are required to distribute to our shareholders at least 90% of our annual net taxable income (excluding any net capital gain). In addition, the Internal Revenue Code will subject us to a 4% nondeductible excise tax on the amount, if any, by which certain distributions paid by us with respect to any calendar year are less than the sum of (i) 85% of our ordinary income for that year, (ii) 95% of our net capital gain net income for that year and (iii) 100% of our undistributed taxable income from prior years. Although we intend to pay dividends to our shareholders in a manner that allows us to meet the foregoing distribution requirement and avoid this 4% excise tax, we cannot assure you that we will always be able to do so.
Our income consists almost solely of our share of the Operating Partnership’s income, and the cash available for distribution by us to our shareholders consists of our share of cash distributions made by the Operating Partnership. Because we are the sole general partner of the Operating Partnership, our trustees determineBoard determines the amount of any distributions made by it. The trusteesOur Board may consider a number of factors in making such distributions, including:
| · | the amount of the cash available for distribution; |
· | · | the Operating Partnership’sPartnership’s financial condition; |
| · | the Operating Partnership’s capital expenditure requirements; and |
| · | our annual distribution requirements necessary to maintain our qualification as a REIT. |
Differences in timing between the actual receipt of income and actual payment of deductible expenses and the inclusion of such income and deduction of such expenses when determining our taxable income, as well as the effect of nondeductible capital expenditures and the creation of reserves or required debt amortization payments could require us to borrow funds on a short-term or long-term basis to meet the REIT distribution requirementsrequirement and to avoid the 4% excise tax described above. In suchthese circumstances, we mightmay need to borrow funds to avoid adverse tax consequences even if our management believes that the then prevailing market conditions generally are not favorable for such borrowings or that such borrowings would not be advisable in the absence of suchthe tax consideration.
We may incur mortgage indebtedness and other borrowings, which may increase our business risks.
If it is determined to be in our best interests, we may, in some instances, acquire real properties by using either existing financing or borrowing new funds. In addition, we may incur or increase our current mortgage debt by obtaining loans secured by some or all of our real properties to obtain funds to acquire additional real properties. We may also borrow funds if necessary to satisfy the REIT distribution requirement that we distribute to shareholders as dividends at least 90% of our annual REIT taxable income,described above, or otherwise as ismay be necessary or advisable to assure that we maintain our qualification as a REIT for federal income tax purposes.
We may incur mortgage debt on a particular piece of real property if we believe the property’s projected cash flow is sufficient to service the mortgage debt. However, ifIf there is a shortfall in cash flow, thenhowever, the amount available for dividends to shareholders may be affected. In addition, incurring mortgage debt increases the risk of loss because defaults on such indebtedness secured by a property may result in loss of property in foreclosure actions initiated by lenders and our loss of the property securing the loan that is in default.lenders. For 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. We may give lenders full or partial guarantees to lenders offor mortgage debt toincurred by the entities that own our properties. When we give 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 suchthat entity. If any mortgages contain cross-collateralization or cross-default provisions, there is a risk that more than one real property may be affected by a default. If any of our properties are foreclosed upon due to a default, our ability to pay cash dividends to our shareholders will be adversely affected.
If we failedfail to qualify as a REIT, our operations and dividends to shareholders would be adversely impacted.
We intend to continue to operate so as to qualify as a REIT under the Internal Revenue Code. A REIT generally is not taxed at the corporate level on income it currently distributes to its shareholders. Qualification as a REIT involves the application of highly technical and complex rules for which there are only limited judicial or administrative interpretations. The determination of various factual matters and circumstances not entirely within our control may affect our ability to continue to qualify as a REIT. In addition, new legislation, new regulations, administrative interpretations or court decisions could significantly change the tax laws with respect to qualification as a REIT or the federal income tax consequences of such qualification.
If we were to fail to qualify as a REIT in any taxable year:
| · | we would not be allowed to deduct our distributions to shareholders when computing our taxable income; |
| · | we would be subject to federal income tax (including any applicable alternative minimum tax) on our taxable income at regular corporate rates; |
| · | we would be disqualified from being taxed as a REIT for the four taxable years following the year during which qualification was lost, unless entitled to relief under certain statutory provisions; |
| · | our cash available for dividends would be reduced and we would have less cash to pay dividends to shareholders; and |
| · | we may be required to borrow additional funds or sell some of our assets in order to pay corporate tax obligations we may incur as a result of our disqualification. |
Our debt agreements impose limits on our operations and our ability to make distributions to our shareholders.
The agreements relating to the debt we incur contain financial and operating covenants that may limit our ability to make distributions or other payments to our shareholders. Our existing credit facilities contain financial and operating covenants, including:
· | net worth requirements; |
| · | debt service coverage of at least 1.5 to 1.0; |
| · | loan-to-value ratio of thea borrowing base pool to total funded loan balance of at least 1.67 to 1.00; |
| · | total debt not to exceed 60% of fair market value of theour real estate assets; |
| · | the ratio of secured debt to fair market value of our real estate assets not to exceed 40%; |
| · | interest coverage ratio of at least 2.0 to 1.0; |
| · | we must hedge certain amounts of variable interest rate debt; |
| · | maintenance of specific levels of insurance; and |
| · | limitations on our ability to make distributions or other payments to our shareholders, sell assets or engage in mergers, consolidation or make certain acquisitions. |
Failure to comply with these covenants could result from, among other things, changes in our results of operations, incurrence of debt or changes in general economic conditions. These covenants may restrict our ability to fund our operations and conduct our business. Failure to comply with any of these covenants could result in a default under our credit agreement or other debt agreements we may enter into in the future. A default could cause one or more of our lenders to accelerate the timing of payments which could force us to dispose of one or more of our properties, possibly on disadvantageous terms. As of December 31, 2005, we were in violation of one such covenant. While we are currently in discussions with the lenders to obtain a waiver, there can be no assurance that we will be successful in obtaining such waiver. As this violation constitutes an event of default, our lenders have the right to accelerate payment. For more discussion, see Management’sManagement’s Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital ResourcesResources.. Similar violations of our loan covenants may occur in the future.
Because of the lack of geographic diversification of our portfolio, an economic downturn in the Houston, Dallas or San Antonio, Texas metropolitan areas could adversely impact our operations and ability to pay dividends to our shareholders.
All of our assets and revenues are currently derived from properties located in the Houston, Dallas and San Antonio, Texas metropolitan areas. Our results of operationoperations are directly contingent on our ability to attract financially sound commercial tenants. If Houston, Dallas or San Antonio experiences a significant economic downturn, our ability to locate and/orand retain financially sound tenants may decrease.be adversely impacted. Likewise, we may be required to lower our rental rates to attract desirable tenants in such an environment. Consequently, because of the lack of geographic diversity among our current assets, if Houston, Dallas or San Antonio experiences an economic downturn, our operations and ability to pay dividends to our shareholders could be adversely impacted.
There is no public trading market for our shares of common stock; therefore,stock, making it will be difficult for shareholders to sell their shares.
There is no current public market for our common shares of common stock.beneficial interest. If you are able to find a buyer for your shares, you may not sell your shares to that buyer unless the buyer meets the suitability standards applicable to him or her, including any suitability standards imposed by the potential purchaser’s state of residence. Our charterdeclaration of trust also imposes restrictions on the ownership of common shares that will apply to potential transferees that may inhibit shareholders’restrict your ability to sell theiryour shares. Moreover, except for requests for redemptions byIn addition, our Board has delayed the estate, heir or beneficiaryimplementation of a deceased shareholder, our board of trusteesshare redemption program. Even if this program is implemented in the future, our Board may reject any request for redemption of shares or amend, suspend or terminate our share redemptionthe program at any time. Therefore, it will be difficult for you to sell ouryour shares promptly or at all,all. You may not be able to sell your shares in the event of an emergency, and, the sellerif you are able to sell your shares, you may have to sell them at a substantial discount.
We have acquired a majority of our properties, on a non “arms-length” basis, from entities controlled by Mr.the previous advisor and CEO, Allen R. Hartman.
We acquired 2827 of the 3736 properties we owned as of December 31, 20052006, from entities controlled by Mr. Hartman. We acquired these properties by either paying cash or issuing our commons shares of beneficial interest or issuing OP Units.units of the Operating Partnership that are convertible into our common shares. No third parties were retained to represent or advise these selling entities or us, and the transactions were not conducted on an “arm’s-length” basis.
Mr. Hartman had interests that differed from, and in certain cases conflicted with, his co-investors in these entities. Mr. Hartman received the following as a result of suchthese transactions:
| · | 897,117.19 OP Units,units of the Operating Partnership that are convertible into our common shares, as adjusted to reflect the recapitalization, in consideration of Mr. Hartman’s general partner interest in the selling entities; |
| · | the ability to limit his future exposure to general partner liability as a result of Mr. Hartman no longer serving as the general partner to certain of the selling entities; and |
| · | the repayment of debt encumbering variousseveral of our properties that was personally guaranteed by Mr. Hartman. |
As of December 31, 2005, an affiliate of Mr. Hartman owed us approximately $3.6 million in connection with properties contributed to the Operating Partnership by such affiliate.
Mr. Hartman might not have been able to negotiate all of these benefits if the transactions were negotiated at arm’s length. Further, Mr. Hartman (neither personally nor in his capacity as a general partner) did not make any representations or warranties in regard to the properties or the selling entities (neither personally nor in his capacity as a general partner) in the operative documents executed in order to consummateevidencing the transactions. Consequently, we essentially acquired the properties on an “as is” basis. Therefore, we will bear the risk associated with any characteristics of or deficiencies of ourin these properties unknown at the closing of the acquisitions that may affect thetheir valuation or revenue potential of the properties.potential.
Approximately 29.2%43.6% of our gross leasable area is subject to leases that expire during the two years endedprior to December 31, 2007.2009.
As of December 31, 2005, 29.2%2006, approximately 43.6% of the aggregate gross leasable area of our properties is subject to leases that expire prior to December 31, 2007.2009. We are subject to the risk that:
| · | tenants willmay choose not to renew suchthese leases; |
| · | we willmay not be able to re-lease the space subject to suchthese leases; and |
| · | the terms of any renewal or re-lease will notmay be asless favorable asthan the terms of the current leases. |
If any of these risks materialize, our cash flow and ability to pay dividends could be adversely affected.
The value of investments in our common shares will be directly affected by general economic and regulatory factors we cannot control or predict.
We only own commercial real estate. Investments in real estate typically involve a high level of risk as the result of factors we cannot control or predict. One of the risks of investing in real estate is the possibility that our properties will not generate income sufficient to meet operating expenses or will generate income and capital appreciation, if any, at rates lower than those anticipated or available through investments in comparable real estate or other investments. The following factors may affect income from properties and yields from investments in properties and are generally outside of our control:
| · | conditions in financial markets; |
| · | over-building in our markets; |
| · | a reduction in rental income as the result of the inability to maintain occupancy levels; |
| · | adverse changes in applicable tax, real estate, environmental or zoning laws; |
| · | changes in general economic conditions; |
| · | a taking of any of our properties by eminent domain; |
| · | adverse local conditions (such as changes in real estate zoning laws that may reduce the desirability of real estate in the area); |
| · | acts of God, such as earthquakes or floods and other uninsured losses; |
| · | changes in supply of or demand for similar or competing properties in an area; |
| · | changes in interest rates and availability of permanent mortgage funds, which may render the sale of a property difficult or unattractive; and |
| · | periods of high interest rates and tight money supply. |
Some or all of the foregoingthese factors may affect our properties, which could adversely affect our operations and ability to pay dividends to shareholders.
We operate in a competitive business and many of our competitors have greater resources and operating flexibility than we do.
Numerous real estate companies that operate in the Houston, Dallas and San Antonio, Texas metropolitan areas compete with us in developing and acquiring office, retail and warehouse properties and seeking tenants to occupy their properties. Moreover, as we seek to expand our investments and operations into other geographic locations and other asset types, we will encounter significantly more competition from entities that have more financial and other resources, and more operating experience, than we do. This competition could adversely affect our business. In addition, the number of entities and the amount of funds competing for suitable investments may increase. Such an increase would result in a heightened demand for these assets that would increase their selling prices. If we pay higher prices for properties and other investments our profitability will be reduced.
We depend on tenants for our revenue and on anchor tenants to attract non-anchor tenants.
As rental income from real property comprises substantially all of our income, the inability of a single major tenant or a number of smaller tenants to meet their obligations to us would adversely affect our income. Tenants may have the right to terminate their leases upon the occurrence of certain customary events of default. In addition, in some cases, tenants may have the right to terminate if the lease held by an anchor tenant or other principal tenant expires, is terminated or the property subject to the lease is vacated, even if rent continues to be paid under the lease. The weakening of a significant tenant’s financial condition or the loss of an anchor tenant may adversely affect our cash flow and amounts available for distribution to our shareholders.
The bankruptcy or insolvency of major tenants would adversely impact our operations.
As of December 31, 2006, our five largest tenants generated approximately 9.3% of the combined rent of our properties. The bankruptcy or insolvency of a major tenant or a number of small tenants would have an adverse impact on our income and dividends. Generally, under bankruptcy law, a tenant has the option of continuing or terminating any unexpired lease. If the tenant continues its current lease, the tenant must cure all defaults under the lease and provide adequate assurance of its future performance under the lease. If the tenant terminates the lease, our claim for breach of the lease (absent collateral securing the claim) will be treated as a general unsecured claim. General unsecured claims are the last claims paid in a bankruptcy, and funds may not be available to pay these claims. As of December 31, 2006, none of our major tenants were in bankruptcy or had materially defaulted on their lease. However, any of our tenants could become insolvent or declare bankruptcy in the future.
We may have difficulty selling our real estate investments, which may have an adverse impact on our ability to pay dividends.
Equity real estate investments are relatively illiquid. We have a limited ability to vary our portfolio in response to changes in economic or other conditions. The real estate market is affected by many factors, such as general economic conditions, availability of financing, interest rates, supply and demand and other factors, all of which are beyond our control. We cannot predict whether we will be able to sell any property for the price or on the terms set by us, or whether any price or other terms offered by a prospective purchaser would be acceptable to us. We cannot predict the length of time needed to find a willing purchaser and to close the sale of a property. We are especially vulnerable to these risks because all but three of our current properties are located in Houston, Texas. In addition, mortgage payments and, to the extent a property is not occupied entirely by tenants subject to triple net leases, certain significant expenditures such as real estate taxes and maintenance costs generally are not reduced when circumstances cause a reduction in income from the investment. The occurrence of these events would adversely affect our income and ability to pay dividends to our shareholders.
Uninsured losses relating to real property or excessively expensive premiums for insurance coverage may adversely affect our returns.
We will attempt to ensure that all of our properties are adequately insured to cover casualty losses. However, there are types of losses, generally catastrophic in nature, such as losses due to wars, acts of terrorism, earthquakes, floods, hurricanes, pollution or environmental matters, which are uninsurable or not economically insurable, or may be insured subject to limitations, such as large deductibles or co-payments. Insurance risks associated with potential terrorism acts could sharply increase the premiums we pay for coverage against property and casualty claims. In some instances, we may be required to provide other financial support, either through financial assurances or self-insurance, to cover potential losses. We cannot assure you that we will have adequate coverage for these losses. In the event that any of our properties incurs a casualty loss that is not fully covered by insurance, the value of our assets will be reduced by these uninsured losses. In addition, other than any reserves we may establish, we have no source of funding to repair or reconstruct any uninsured damaged property, and we cannot assure you that any sources of funding will be available to us for this purpose in the future. Also, to the extent we must pay unexpectedly large insurance premiums, we could suffer reduced earnings that would result in less cash dividends to be distributed to shareholders.
Discovery of previously undetected environmentally hazardous conditions may adversely affect our operating results.
Under various federal, state and local environmental laws, ordinances and regulations, a current or previous owner or operator of real property may be liable for the cost of removal or remediation of hazardous or toxic substances on, under or in suchits property. The costs of removal or remediation could be substantial. SuchThese laws often impose liability whether or not the owner or operator knew of, or was responsible for, the presence of suchany hazardous or toxic substances. Environmental laws also may impose restrictions on the manner in which property may be used or businesses may be operated, and these restrictions may require substantial expenditures. Environmental laws provide for sanctions in the event of noncompliance and may be enforced by governmental agencies or, in certain circumstances, by private parties. Certain environmental laws and common law principles could be used to impose liability for release of and exposure to hazardous substances, including asbestos containing materials into the air, andair. In addition, third parties may seek recovery from owners or operators of real properties for personal injury or property damage associated with exposure to released hazardous substances. The cost of defending against claims of liability, of compliance with environmental regulatory requirements, of remediating any contaminated property, or of paying personal injury claims could materially adversely affect our business, assets or results of operations and, consequently, amounts available for payments of dividends to you.our shareholders.
Litigation with Allen R. Hartman and Hartman Management.
We are currently involved in litigation with our former Chief Executive Officer, Allen R. Hartman, and manager and advisor, Hartman Management, L.P. While we intend to vigorously defend against claims brought by Mr. Hartman and Hartman Management and vigorously prosecute our claims against Mr. Hartman and Hartman Management, there can be no assurances that we will ultimately prevail. Even if we do ultimately prevail in these lawsuits, we may continue to incur significant legal costs to do so. For more discussion, see Legal Proceedings andManagement’s Discussion and Analysis of Financial Condition and Results of Operations - Commitments and Contingencies.
Inability to retain key personnel may adversely impact our ability to implement our strategic plan.
Our success depends to a significant degree upon the continued contributions of certain executive officers and other key personnel, including James C. Mastandrea and John J. Dee. We do not have employment agreements with Messrs. Mastandrea or Dee, and we cannot guarantee that they will remain employed by us. We have not purchased “key person” life insurance for Messrs. Mastandrea or Dee. If Messrs. Mastandrea or Dee or any of our other key personnel were to cease their employment with us, our operating results could suffer. We believe that our future success depends, in large part, upon our ability to retain and hire highly skilled managerial, operational and marketing personnel. Competition for skilled personnel is intense, and we cannot assure you that we will be successful in attracting and retaining skilled personnel. If we lose or are unable to obtain the services of key personnel, our ability to implement our business strategies could be delayed or hindered.
Shareholders that received shares under our dividend reinvestment plan on or after October 2, 2006, could be entitled to recission rights.
Our dividend reinvestment plan allowed our shareholders to elect to have dividends from our common shares reinvested in additional common shares at a purchase price per share of $9.50. Our dividend reinvestment plan will terminate on April 6, 2007. Shares issued under our dividend reinvestment plan were registered on our Registration Statement on Form S-11. We did not amend or supplement our Registration Statement following our change in management on October 2, 2006, and the events that occurred thereafter. As a result, shareholders that received approximately 64,000 shares issued under our dividend reinvestment plan, on or after that date could be entitled to recission rights. These rights would entitle these holders to recovery of their purchase price less any income received on their shares. If these rights are successfully exercised, the repayment of the purchase price and associated expenses could adversely affect our cash flow and ability to pay dividends to our shareholders.
On December 31, 2005, the Company2006, we owned the 3736 properties discussed below. All of the Company’sWe own 33 properties are located in the Houston, Texas, 2 properties located in Dallas, Texas and 1 property located in San Antonio, Texas metropolitan areas. The Company’sTexas. Our properties primarily consist of 19 retail centers with approximately 1,293,000 square feet of gross leasable area, 11 warehouse properties with approximately 1,202,000 square feet of gross leasable area and each6 office buildings with approximately 598,000 square feet of gross leasable area. Each property is designed to meet the needs of surrounding local communities. A nationally and/or regionally recognized tenant typically anchors each of the Company’sour retail properties. In the aggregate, the Company’sAs of December 31, 2006, our properties contain approximately 3,121,0003,093,000 square feet of gross leasable area. No individual property in the Company’s portfolio currently accounts for more than 10% of the Company’s aggregate leasable area.
As of December 31, 2005, the Company’s2006, our retail, warehouse and office properties were approximately 82.3% leased. 82.0%, 85.5% and 81.5% leased, respectively.
Anchor space at theour retail properties, representing approximately 7.4%7.5% of total leasable area, was 100.0%approximately 81.8% leased, while non-anchor space, accounting for the remaining 92.6%92.5% balance, was approximately 80.8%83.4% leased. A substantial numberApproximately 75.5% of the Company’s tenants are local tenants. Indeed, 73.4% of the Company’sour tenants are local tenants and 15.1%14.0% and 11.5%10.5% of the Company’sour tenants are national and regional tenants, respectively. The Company defines:We define:
| · | national tenants as any tenant that operates in at least four metropolitan areas located in more than one region (i.e. Northwest, Midwest, Southwest or Southeast); of the United States; |
| · | regional tenants as any tenant that operates in two or more metropolitan areas located within the same region;region of the United States; and |
| · | local tenants as any tenant that operates stores only within thein one metropolitan Houston, Dallas or San Antonio, Texas area. |
Substantially all of the Company’sour revenues consist of base rents and percentage rents received under long-term leases. For the year ended December 31, 2005,2006, our total rents and other incomerevenues were $24,888,214 and percentage rents were $-0-.approximately $29.8 million. Approximately 67.9%84.7% of allour existing leases provide for annual increases in the base rental payments with acontain “step up” rental clause.clauses that provide for increases in base rental payments.
The following table lists the five properties that generated the most rents during the year 2005.2006.
| | Property Name | | Total Rents Received in 2006 (in thousands) | | Percent of Company’s Total Rents Received in 2006 | |
| | Uptown Tower | | $ | 3,375 | | | 11.4 | % |
| | Windsor Park Centre | | | 1,742 | | | 5.9 | % |
| | Corporate Park Northwest | | | 1,577 | | | 5.3 | % |
| | Corporate Park West | | | 1,495 | | | 5.0 | % |
| | 9101 LBJ Freeway | | | 1,471 | | | 5.0 | % |
| | Total | | $ | 9,660 | | | 32.6 | % |
Property | | Total Rents Received in 2005 | | Percent of Company’s Total Rents Received in 2005 | |
| | | | | | |
| Windsor Park | | $ | 2,113,291 | | | 8.49 | % |
| Corporate Park West | | | 1,621,269 | | | 6.51 | |
| Corporate Park Northwest | | | 1,523,195 | | | 6.12 | |
| Lion Square | | | 1,379,145 | | | 5.54 | |
| SugarPark Plaza | | | 1,248,845 | | | 5.01 | |
Total | | $ | 7,885,745 | | | 31.67 | % |
As of December 31, 2005, the Company2006, we had noone property that accounted for overmore than 10% of total gross revenue. Uptown Tower is an office building located in Dallas, Texas that was acquired during 2005 and accounts for 10%11.4% of the Company’sour total fixed assets.revenue and 11.2% of real estate, net.
General Physical Attributes
The following table lists, for all properties the Company owned by us on December 31, 2005,2006, the year each property was developed or significantly renovated, the total leasable area of each property and the purchase price the Companywe paid for such property and the anchor or largest tenant at sucheach property.
Property | | Year Developed/ Renovated | | Total Leasable Area (Sq. Ft.) | | Purchase Price | | |
Property Name | | | Location | | | | Total Leasable Area (Sq. Ft.) | | Purchase Price | |
Retail Properties: | | | | | | | | | | | |
Bellnott Square | | | | Houston | | | 1982 | | | 73,930 | | $ | 5,792,294 | |
| Bissonnet/Beltway | | | 1978 | | | 29,205 | | $ | 2,361,323 | | | | Houston | | | 1978 | | | 29,205 | | | 2,361,323 | |
| Centre South | | | | Houston | | | 1974 | | | 44,543 | | | 2,077,198 | |
| Garden Oaks | | | | Houston | | | 1954 | | | 95,046 | | | 6,577,782 | |
| Greens Road | | | | Houston | | | 1979 | | | 20,507 | | | 1,637,217 | |
| Holly Knight | | | | Houston | | | 1984 | | | 20,015 | | | 1,612,801 | |
Kempwood Plaza | | | | Houston | | | 1974 | | | 112,359 | | | 2,531,876 | |
Lion Square | | | | Houston | | | 1980 | | | 119,621 | | | 5,835,108 | |
Northeast Square | | | | Houston | | | 1984 | | | 40,525 | | | 2,572,512 | |
Providence | | | | Houston | | | 1980 | | | 90,327 | | | 4,593,668 | |
South Richey | | | | Houston | | | 1980 | | | 69,928 | | | 3,361,887 | |
| South Shaver | | | | Houston | | | 1978 | | | 21,926 | | | 817,003 | |
SugarPark Plaza | | | | Houston | | | 1974 | | | 95,032 | | | 8,906,057 | |
| Sunridge | | | | Houston | | | 1979 | | | 49,359 | | | 1,461,571 | |
Torrey Square | | | | Houston | | | 1983 | | | 105,766 | | | 4,952,317 | |
Town Park | | | | Houston | | | 1978 | | | 43,526 | | | 3,760,735 | |
| Webster Point | | | 1984 | | | 26,060 | | | 1,870,365 | | | | Houston | | | 1984 | | | 26,060 | | | 1,870,365 | |
| Centre South | | | 1974 | | | 44,543 | | | 2,077,198 | | |
| Torrey Square | | | 1983 | | | 105,766 | | | 4,952,317 | | |
| Providence | | | 1980 | | | 90,327 | | | 4,593,668 | | |
| Holly Knight | | | 1984 | | | 20,015 | | | 1,612,801 | | |
| Westchase | | | | Houston | | | 1978 | | | 42,924 | | | 2,173,300 | |
Windsor Park | | | | San Antonio | | | 1992 | | | 192,458 | | | 13,102,500 | |
| | | | | | | | | | | 1,293,057 | | $ | 75,997,514 | |
Warehouse Properties: | | | | | | | | | | | | | | |
| Brookhill | | | | Houston | | | 1979 | | | 74,757 | | $ | 973,264 | |
| Corporate Park Northwest | | | | Houston | | | 1981 | | | 185,627 | | | 7,839,539 | |
| Corporate Park West | | | | Houston | | | 1999 | | | 175,665 | | | 13,062,980 | |
| Corporate Park Woodland | | | | Houston | | | 2000 | | | 99,937 | | | 6,028,362 | |
| Dairy Ashford | | | | Houston | | | 1981 | | | 42,902 | | | 1,437,020 | |
| Holly Hall | | | | Houston | | | 1980 | | | 90,000 | | | 3,123,400 | |
| Interstate 10 | | | | Houston | | | 1980 | | | 151,000 | | | 3,908,072 | |
Main Park | | | | Houston | | | 1982 | | | 113,410 | | | 4,048,837 | |
| Plaza Park | | | 1982 | | | 105,530 | | | 4,195,116 | | | | Houston | | | 1982 | | | 105,530 | | | 4,195,116 | |
| Northwest Place II | | | 1984 | | | 27,974 | | | 1,089,344 | | |
| Lion Square | | | 1980 | | | 119,621 | | | 5,835,108 | | |
Westbelt Plaza | | | | Houston | | | 1978 | | | 65,619 | | | 2,733,009 | |
| Westgate | | | | Houston | | | 1984 | | | 97,225 | | | 3,448,182 | |
| | | | | | | | | | | 1,201,672 | | $ | 50,797,781 | |
Office Properties: | | | | | | | | | | | | | | |
| 9101 LBJ Freeway | | | | Dallas | | | 1985 | | | 125,874 | | $ | 8,093,296 | |
| Featherwood | | | | Houston | | | 1983 | | | 49,670 | | | 2,959,309 | |
| Royal Crest | | | | Houston | | | 1984 | | | 24,900 | | | 1,864,065 | |
Uptown Tower | | | | Dallas | | | 1982 | | | 253,981 | | | 17,171,486 | |
Woodlake Plaza | | | | Houston | | | 1974 | | | 106,169 | | | 5,532,710 | |
| Zeta Building | | | 1982 | | | 37,740 | | | 2,456,589 | | | | Houston | | | 1982 | | | 37,740 | | | 2,456,589 | |
| Royal Crest | | | 1984 | | | 24,900 | | | 1,864,065 | | |
| Featherwood | | | 1983 | | | 49,670 | | | 2,959,309 | | |
| Interstate 10 | | | 1980 | | | 151,000 | | | 3,908,072 | | |
| Westbelt Plaza | | | 1978 | | | 65,619 | | | 2,733,009 | | |
| Greens Road | | | 1979 | | | 20,507 | | | 1,637,217 | | |
| Town Park | | | 1978 | | | 43,526 | | | 3,760,735 | | |
| Northeast Square | | | 1984 | | | 40,525 | | | 2,572,512 | | |
| Main Park | | | 1982 | | | 113,410 | | | 4,048,837 | | |
| Dairy Ashford | | | 1981 | | | 42,902 | | | 1,437,020 | | |
| South Richey | | | 1980 | | | 69,928 | | | 3,361,887 | | |
| Corporate Park Woodland | | | 2000 | | | 99,937 | | | 6,028,362 | | |
| South Shaver | | | 1978 | | | 21,926 | | | 817,003 | | |
| Kempwood Plaza | | | 1974 | | | 112,359 | | | 2,531,876 | | |
| Bellnott Square | | | 1982 | | | 73,930 | | | 5,792,294 | | |
| Corporate Park Northwest | | | 1981 | | | 185,627 | | | 7,839,539 | | |
| Westgate | | | 1984 | | | 97,225 | | | 3,448,182 | | |
| Garden Oaks | | | 1954 | | | 95,046 | | | 6,577,782 | | |
| Westchase | | | 1978 | | | 42,924 | | | 2,173,300 | | |
| Sunridge | | | 1979 | | | 49,359 | | | 1,461,571 | | |
| Holly Hall | | | 1980 | | | 90,000 | | | 3,123,400 | | |
| Brookhill | | | 1979 | | | 74,757 | | | 973,264 | | |
| Corporate Park West | | | 1999 | | | 175,665 | | | 13,062,980 | | |
| Windsor Park | | | 1992 | | | 192,458 | | | 13,102,500 | | |
| SugarPark Plaza | | | 1974 | | | 95,032 | | | 8,906,057 | | |
| Woodlake Plaza | | | 1974 | | | 106,169 | | | 5,532,710 | | |
| 9101 LBJ Freeway | | | 1985 | | | 125,874 | | | 8,093,296 | | |
| Uptown Tower | | | 1982 | | | 253,981 | | | 17,171,486 | | |
Total | | | | | | 3,121,037 | | $ | 165,962,094 | | |
| | | | | | | | | | | 598,334 | | $ | 38,077,455 | |
| | | | | | | | | | | | | | | |
Grand Totals | | | | | | | | | | 3,093,063 | | $ | 164,872,750 | |
General Economic Attributes
The following table lists certain information that relates to the rents generated by each property.property, the anchor or largest tenant at the property and the date their leases expire. All of the information listed in this table is as of December 31, 2005.2006.
Property | | Percent Leased | | Total Annualized Rents Based on Occupancy | | Effective Net Rent Per Sq. Ft. | | Anchor or Largest Tenant | | Lease Expiration Date | |
| | | | | | | | | | | | |
| Bissonnet/Beltway | | | 81.9 | % | $ | 423,626 | | $ | 14.51 | | Lydia & Ajibade Owoyemi | | 9/30/09 | |
| Webster Point | | | 72.7 | % | | 305,098 | | | 11.71 | | Houston Learning Academy | | 12/31/06 | |
| Centre South | | | 66.8 | % | | 316,665 | | | 7.10 | | Carlos Alvarez | | 10/31/10 | |
| Torrey Square | | | 80.2 | % | | 805,536 | | | 7.62 | | 99 Cents Only Stores Texas | | 9/14/08 | |
| Providence | | | 93.5 | % | | 938,504 | | | 10.39 | | 99 Cents Only Stores Texas | | 9/9/08 | |
| Holly Knight | | | 92.5 | % | | 315,594 | | | 15.77 | | Quick Wash Laundry | | 9/30/09 | |
| Plaza Park | | | 67.4 | % | | 700,331 | | | 6.64 | | Pharmedium Services | | 5/31/11 | |
| Northwest Place II | | | 61.7 | % | | 150,494 | | | 5.38 | | Terra Mar, Inc. | | 7/31/08 | |
| Lion Square | | | 100.0 | % | | 1,375,471 | | | 11.50 | | Bellaire Marketplace | | 9/30/20 | |
| Zeta Building | | | 88.1 | % | | 493,167 | | | 13.07 | | Tx Retirement & Tax Advisors | | 5/30/11 | |
| Royal Crest | | | 74.9 | % | | 260,195 | | | 10.45 | | Emerald Environmental Service | | 12/31/07 | |
| Featherwood | | | 94.7 | % | | 839,319 | | | 16.90 | | Transwestern Publishing | | 11/30/07 | |
| Interstate 10 | | | 80.3 | % | | 707,315 | | | 4.68 | | River Oaks L-M, Inc. | | 12/31/06 | |
| Westbelt Plaza | | | 66.7 | % | | 396,546 | | | 6.04 | | Hartman Management, L.P. | | M-to-M | |
| Greens Road | | | 72.1 | % | | 297,327 | | | 14.50 | | Celaya Meat Market | | 1/31/12 | |
| Town Park | | | 91.3 | % | | 753,576 | | | 17.31 | | Omar's Meat Market | | 12/31/07 | |
| Northeast Square | | | 93.7 | % | | 567,755 | | | 14.01 | | Sultan Allana/99 Ct Store | | 11/30/08 | |
| Main Park | | | 70.3 | % | | 510,031 | | | 4.50 | | Transport Sales Associates | | 8/31/08 | |
| Dairy Ashford | | | 32.1 | % | | 91,597 | | | 2.14 | | Foster Wheeler USA Corp | | 1/31/09 | |
| South Richey | | | 68.3 | % | | 386,061 | | | 5.52 | | Kroger | | 2/28/06 | |
| Corporate Park Woodland | | | 86.2 | % | | 986,915 | | | 9.88 | | Carrier Sales & Distribution | | 7/31/08 | |
| South Shaver | | | 84.1 | % | | 263,266 | | | 12.01 | | EZ Pawn | | 11/30/07 | |
| Kempwood Plaza | | | 73.5 | % | | 899,397 | | | 8.00 | | Dollar General | | 1/31/08 | |
| Bellnott Square | | | 95.9 | % | | 794,649 | | | 10.75 | | Kroger Food Store #277 | | 7/31/07 | |
| Corporate Park Northwest | | | 82.7 | % | | 1,564,226 | | | 8.53 | | Air Consulting & Engineering | | 5/31/08 | |
| Westgate | | | 92.9 | % | | 683,172 | | | 7.03 | | Postmark DMS, LLC | | 2/28/09 | |
| Garden Oaks | | | 75.7 | % | | 877,349 | | | 9.23 | | Bally Total Fitness | | 12/31/12 | |
| Westchase | | | 81.9 | % | | 485,265 | | | 11.31 | | Jesus Corral | | 2/28/07 | |
| Sunridge | | | 89.6 | % | | 488,000 | | | 9.89 | | Puro Latino, Inc. | | 5/31/10 | |
| Holly Hall | | | 100.0 | % | | 512,668 | | | 5.70 | | The Methodist Hospital | | 12/31/11 | |
| Brookhill | | | 80.7 | % | | 272,818 | | | 3.65 | | T.S. Moly-Lubricants | | 9/30/07 | |
| Corporate Park West | | | 74.7 | % | | 1,573,820 | | | 8.96 | | LTC Pharmacy Services | | 5/31/09 | |
| Windsor Park | | | 82.3 | % | | 1,564,945 | | | 8.13 | | Sports Authority/Home Depot | | 8/31/15 | |
| SugarPark Plaza | | | 100.0 | % | | 1,238,605 | | | 13.03 | | Marshall's | | 1/31/08 | |
| Woodlake Plaza | | | 82.5 | % | | 1,306,670 | | | 12.31 | | Rock Solid Images | | 7/31/09 | |
| 9101 LBJ Freeway | | | 90.4 | % | | 1,463,084 | | | 11.62 | | Compass Insurance | | 5/31/07 | |
| Uptown Tower | | | 83.3 | % | | 3,211,264 | | | 12.64 | | Brockett Davis Drake, Inc. | | 4/30/11 | |
| | | | | | | | | | | | | | | | | |
Total/Average | | | 82.3 | % | $ | 28,820,321 | | $ | 9.23 | | | | | | | |
Property Name | | Percent Leased | | Total Annualized Rents Based on Occupancy (in thousands) | | Effective Net Rent Per Sq. Ft. | | Anchor or Largest Tenant | | Lease Expiration Date | |
Retail Properties: | | | | | | | | | | | |
| Bellnott Square | | | 98.1 | % | $ | 806 | | $ | 10.91 | | | Kroger Food Store # 277 | | | 07/31/07 | |
| Bissonnet/Beltway | | | 75.7 | % | | 453 | | | 15.51 | | | Lydia & Ajibade Owoyemi | | | 09/30/09 | |
| Centre South | | | 75.1 | % | | 385 | | | 8.63 | | | Carlos Alvarez | | | 10/31/10 | |
| Garden Oaks | | | 78.0 | % | | 932 | | | 9.81 | | | Bally Total Fitness | | | 12/31/12 | |
| Greens Road | | | 85.4 | % | | 335 | | | 16.34 | | | Celaya Meat Market | | | 01/31/12 | |
| Holly Knight | | | 100.0 | % | | 384 | | | 19.20 | | | Quick Wash Laundry | | | 09/30/09 | |
| Kempwood Plaza | | | 69.3 | % | | 775 | | | 6.90 | | | Dollar General | | | 01/31/08 | |
| Lion Square | | | 63.5 | % | | 971 | | | 8.12 | | | Family Dollar Stores | | | 12/31/07 | |
| Northeast Square | | | 82.3 | % | | 431 | | | 10.65 | | | Sultan Allana / 99 Cent Store | | | 11/30/08 | |
| Providence | | | 93.5 | % | | 936 | | | 10.36 | | | 99 Cents Only Stores Texas | | | 09/09/08 | |
| South Richey | | | 78.3 | % | | 487 | | | 6.96 | | | Kroger Food Store # 303 | | | 02/28/11 | |
| South Shaver | | | 98.1 | % | | 304 | | | 13.87 | | | EZ Pawn | | | 11/30/07 | |
| SugarPark Plaza | | | 100.0 | % | | 1,234 | | | 12.99 | | | Marshall's | | | 01/31/08 | |
| Sunridge | | | 80.0 | % | | 481 | | | 9.74 | | | Puro Latino, Inc. | | | 05/31/10 | |
| Torrey Square | | | 73.9 | % | | 912 | | | 8.65 | | | 99 Cents Only Stores Texas | | | 09/14/08 | |
| Town Park | | | 100.0 | % | | 821 | | | 18.85 | | | Raphael & Elvira Ortega | | | 12/31/13 | |
| Webster Point | | | 84.6 | % | | 340 | | | 13.06 | | | Houston Learning Academy | | | 12/31/09 | |
| Westchase | | | 84.9 | % | | 440 | | | 10.26 | | | Apolinar & Leticia | | | 11/30/11 | |
| Windsor Park | | | 82.3 | % | | 1,550 | | | 8.05 | | | Sports Authority | | | 08/31/15 | |
| | | | 82.0 | % | $ | 12,977 | | $ | 10.04 | | | | | | | |
Warehouse Properties: | | | | | | | | | | | | | | | | |
| Brookhill | | | 100.0 | % | | 354 | | | 4.74 | | | T.S. Moly-Lubricants | | | 09/30/07 | |
| Corporate Park Northwest | | | 83.5 | % | | 1,595 | | | 8.59 | | | Region IV Education | | | 02/28/09 | |
| Corporate Park West | | �� | 81.2 | % | | 1,481 | | | 8.43 | | | LTC Pharmacy Services | | | 05/31/09 | |
| Corporate Park Woodland | | | 100.0 | % | | 1,166 | | | 11.67 | | | Carrier Sales & Distribution | | | 07/31/08 | |
| Dairy Ashford | | | 47.8 | % | | 175 | | | 4.08 | | | Foster Wheeler USA Corp | | | 01/31/09 | |
| Holly Hall | | | 80.4 | % | | 455 | | | 5.05 | | | The Methodist Hospital | | | 12/31/11 | |
| Interstate 10 | | | 100.0 | % | | 921 | | | 6.10 | | | River Oaks L-M, Inc. | | | 12/31/09 | |
| Main Park | | | 84.1 | % | | 561 | | | 4.95 | | | Transport Sales Associates | | | 08/31/08 | |
| Plaza Park | | | 68.5 | % | | 807 | | | 7.65 | | | American Medical | | | 05/31/11 | |
| Westbelt Plaza | | | 76.9 | % | | 418 | | | 6.37 | | | Hartman Management, L.P. | | | M-to-M | |
| Westgate | | | 96.3 | % | | 792 | | | 8.14 | | | Postmark DMS, LLC | | | 02/28/09 | |
| | | | 85.5 | % | $ | 8,725 | | $ | 7.26 | | | | | | | |
Office Properties: | | | | | | | | | | | | | | | | |
| 9101 LBJ Freeway | | | 72.7 | % | | 1,451 | | | 11.51 | | | Compass Insurance | | | 01/31/11 | |
| Featherwood | | | 96.1 | % | | 927 | | | 18.66 | | | Transwestern Publishing | | | 11/30/07 | |
| Royal Crest | | | 90.0 | % | | 311 | | | 12.49 | | | Emerald Environmental Service | | | 12/31/07 | |
| Uptown Tower | | | 80.5 | % | | 3,230 | | | 12.72 | | | Brockett Davis Drake, Inc. | | | 04/30/11 | |
| Woodlake Plaza | | | 79.7 | % | | 1,321 | | | 12.44 | | | Rock Solid Images | | | 07/31/09 | |
| Zeta Building | | | 97.5 | % | | 592 | | | 15.70 | | | Texas Retirement & Tax Advisors | | | 05/30/11 | |
| | | | 81.5 | % | $ | 7,832 | | $ | 13.09 | | | | | | | |
| | | | | | | | | | | | | | | | | |
Grand Totals/Averages | | | 83.3 | % | $ | 29,534 | | $ | 9.55 | | | | | | | |
Lease Expirations
The following table lists, on an aggregate basis, all of theour scheduled lease expirations over the next 10 years.10years.
| | | | | Gross Leasable Area | | Annual Rental Income | |
Year | | Number of Leases | | Approximate Square Feet | | Percent of Total Leasable Area | | Amount | | Percent of the Company’s Total Rental Income | |
| 2006 | | | 167 | | | 472,364 | | | 15.14 | % | $ | 4,520,536 | | | 15.69 | % |
| 2007 | | | 138 | | | 438,984 | | | 14.07 | | | 5,061,562 | | | 17.56 | |
| 2008 | | | 147 | | | 510,982 | | | 16.37 | | | 5,615,586 | | | 19.48 | |
| 2009 | | | 111 | | | 360,258 | | | 11.54 | | | 4,422,203 | | | 15.34 | |
| 2010 | | | 67 | | | 227,590 | | | 7.29 | | | 2,716,267 | | | 9.42 | |
| 2011 | | | 50 | | | 206,266 | | | 6.61 | | | 2,494,173 | | | 8.65 | |
| 2012 | | | 17 | | | 75,939 | | | 2.43 | | | 933,414 | | | 3.24 | |
| 2013 | | | 13 | | | 61,170 | | | 1.96 | | | 714,646 | | | 2.48 | |
| 2014 | | | 10 | | | 39,968 | | | 1.28 | | | 545,526 | | | 1.89 | |
| 2015 | | | 16 | | | 99,177 | | | 3.18 | | | 1,000,808 | | | 3.47 | |
Total | | | 736 | | | 2,492,698 | | | 79.87 | % | $ | 28,024,721 | | | 97.22 | % |
| | | | Gross Leasable Area | | Annualized Base Rent as of December 31, 2006 | |
Year | | Number of Leases | | Approximate Square Feet | | Percent of Total Leasable Area | | Amount (in thousands) | | Percent of the Total Annualized Base Rent | |
| 2007 | | | 133 | | | 395,968 | | | 12.8 | % | $ | 4,075 | | | 16.6 | % |
| 2008 | | | 144 | | | 463,693 | | | 15.0 | | | 4,174 | | | 17.0 | |
| 2009 | | | 167 | | | 487,518 | | | 15.8 | | | 4,991 | | | 20.3 | |
| 2010 | | | 73 | | | 229,998 | | | 7.4 | | | 2,558 | | | 10.4 | |
| 2011 | | | 117 | | | 435,266 | | | 14.1 | | | 4,492 | | | 18.3 | |
| 2012 | | | 42 | | | 160,806 | | | 5.2 | | | 1,253 | | | 5.1 | |
| 2013 | | | 24 | | | 116,613 | | | 3.8 | | | 1,415 | | | 5.8 | |
| 2014 | | | 10 | | | 43,512 | | | 1.4 | | | 496 | | | 2.0 | |
| 2015 | | | 15 | | | 98,710 | | | 3.2 | | | 837 | | | 3.4 | |
| 2016 | | | 3 | | | 27,870 | | | 0.9 | | | 218 | | | 0.9 | |
Total | | | 728 | | | 2,459,954 | | | 79.6 | % | $ | 24,509 | | | 99.8 | % |
Insurance
The Company believesWe believe that it haswe have property and liability insurance with reputable, commercially rated companies. The CompanyWe also believesbelieve that itsour insurance policies contain commercially reasonable deductibles and limits, adequate to cover itsour properties. The Company expectsWe expect to maintain suchthis type of insurance coverage and to obtain similar coverage with respect to any additional properties the Company acquireswe acquire in the near future. Further, the Company haswe have title insurance relating to itsour properties in an aggregate amount that the Company believeswe believe to be adequate.
Regulations
The Company’sOur properties, as well as any other properties that the Companywe may acquire in the future, are subject to various federal, state and local laws, ordinances and regulations, including,regulations. They include, among other things, zoning regulations, land use controls, environmental controls relating to air and water quality, noise pollution and indirect environmental impacts such as increased motor vehicle activity. The Company believesWe believe that it haswe have all permits and approvals necessary under current law to operate itsour properties.
The nature of the Company’sour business exposes itus to the risk of lawsuits for damages or penalties relating to, among other things, breach of contract and employment disputes. We are currently involved in the following litigation:
Hartman Commercial Properties REIT and Hartman REIT Operating Partnership, L.P. v. Allen R. Hartman and Hartman Management, L.P., in the 333rd Judicial District Court of Harris County, Texas
On October 2, 2006, we initiated this action against our former Chief Executive Officer, Allen R. Hartman, and our former manager and advisor, Hartman Management, L.P. We are seeking damages for breach of contract, fraudulent inducement and breach of fiduciary duties.
In November 2006, Mr. Hartman and Hartman Management filed a counterclaim against us, the members of our Board and our Chief Operating Officer, John J. Dee. The Companycounterclaim has since been amended to drop the claims against the individual defendants with the exception of our current interim Chief Executive Officer, James C. Mastandrea, and Mr. Dee. The amended counterclaim asserts claims against us for alleged breach of contract and alleges that we owe Mr. Hartman and Hartman Management fees for the termination of an advisory agreement. The amended counterclaim asserts claims against Messrs. Mastandrea and Dee for tortious interference with the advisory agreement and a management agreement and conspiracy to seize control of us for their own financial gains. We have indemnified Messrs. Mastandrea and Dee to the extent allowed by our governing documents and Maryland law. The amended counterclaim also asserts claims against our prior outside law firm and one of its partners.
Limited discovery has been conducted in this case as of the date of this report. The case is set for trial in July 2007.
It is too early to express an opinion concerning the likelihood of an adverse outcome on the counterclaim, although we intend to vigorously defend against those claims and vigorously prosecute our affirmative claims.
Hartman Commercial Properties REIT v. Allen R. Hartman, et al; in the United States District Court for the Southern District of Texas
On December 8, 2006, we initiated this action complaining of the attempt by Mr. Hartman and Hartman Management to solicit written consents from shareholders to replace our Board.
Mr. Hartman and Hartman Management have filed a counterclaim claiming that certain changes to our bylaws and declaration of trust are invalid and that their enactment is a breach of fiduciary duties. They are seeking a declaration that the changes to our bylaws and declaration of trust are invalid and an injunction barring their enforcement. Theses changes, among other things, stagger the terms of our Board members over three years, require two-thirds vote of the outstanding common shares to remove a Board member and provide that our secretary may call a special meeting of shareholders only on the written request of a majority of outstanding common shares. We believe the changes to our bylaws and declaration of trust are valid under Maryland law and in the best interest of our shareholders. We have filed a motion to dismiss the counterclaims. A group of shareholders has filed a request to intervene in this action to assert claims similar to those asserted by Mr. Hartman and Hartman Management. We have opposed the intervention.
There has been limited discovery in this case as of the date of this report. Documents have been produced and interrogatory responses exchanged. We have produced the members of our Board for deposition as well as Mr. Dee. The Court has conducted a hearing on the parties’ cross request for preliminary injunction, but has not currently a partyyet ruled on that request.
It is too early to any pending material litigation.express an opinion concerning the likelihood of an adverse outcome on the counterclaim, although we intend to vigorously defend against those claims and vigorously prosecute our affirmative claim.
Other
We are a participant in various other legal proceedings and claims that arise in the ordinary course of our business. These matters are generally covered by insurance. While the resolution of these matters cannot be predicted with certainty, we believe that the final outcome of these matters will not have a material effect on our financial position, results of operations or cash flows.
None.
| Market for Registrant’s Common Equity, Related Shareholder Matters and Issuer Purchases of Equity Securities. |
Market Information
There is no established trading market for the Company’sour common stock.shares of beneficial interest. As of March 30, 2006, the Company31, 2007, we had 9,346,61410,001,269 common shares of common stockbeneficial interest outstanding held by a total of approximately 1,1431,423 shareholders.
Public Offering Proceeds
The Company’sOn September 15, 2004, our Registration Statement on Form S-11, (SEC File No. 333-111674) was declared effective by the SEC on September 15, 2004 with respect to the Public Offering described in Item 1 aboveour public offering of up to 10,000,000 common shares of the Company’s common stockbeneficial interest to the publicbe offered at a price of $10 per share pluswas declared effective under the Securities Act of 1933. The Registration Statement also covers up to 1,000,000 shares available for sale pursuant to our dividend reinvestment plan to be offered at a price of $9.50 per share,share. The shares are offered to investors on a best efforts basis. Post-Effective Amendments No. 1, 2 and the Company commenced the Public Offering on such date. Post-Effective Amendment No. 13 to the Registration Statement waswere declared effective by the SEC on June 27, 2005, and Post-Effective Amendment No. 2 to the Registration Statement was declared effective by the SEC on March 9, 2006.2006 and May 3, 2006, respectively.
The 10,000,000 shares offered to the public in the Public Offering are being offered to investors on a best efforts basis by the dealer manager D.H. Hill Securities, LLP, which means that the broker-dealers participating in the offering are only required to use their best efforts to sell the shares and have no firm commitment or obligation to purchase any of the shares.
As of March 30,December 31, 2006, 2,336,4682,831,184 shares had been issued pursuant to our public offering with gross offering proceeds received of $28.3 million. An additional 138,033 shares had been issued pursuant to the Public Offering withdividend reinvestment plan in lieu of dividends totaling $1.3 million. Shareholders that received shares pursuant to our dividend reinvestment plan on or after October 2, 2006, may have recission rights as described in “Dividend Reinvestment Plan” below.
The application of our gross offering proceeds received of $23,335,291.
The Company’s application of such gross offering proceeds has been as follows:
| Description of Use of Offering Proceeds | | Amount of Proceeds So Utilized | |
| | | | | |
| Selling Commissions paid to broker/ dealers not affiliated with D.H. Hill Securities , LLP | | $ | 1,265,955 | |
| | | | | |
| Selling Discounts | | $ | 56,344 | |
| | | | | |
| Dealer Manager Fee paid to D.H. Hill Securities , LLP | | $ | 566,463 | |
| | | | | |
| Offering expense reimbursements paid to the Management Company | | $ | 569,423 | |
| | | | | |
| Acquisition Fees paid to the Management Company | | $ | 455,538 | |
| | | | | |
| Subtotal | | $ | 2,913,723 | |
| | | | | |
| Net Offering Proceeds | | $ | 20,421,568 | |
| | | | | |
| Repayment of Lines of Credit | | $ | 11,800,000 | |
| | | | | |
| Used for Working Capital | | $ | 8,621,568 | |
Although the immediate use of $11,800,000 of proceeds offrom the offering wasare as follows (in thousands):
| | Description of Use of Offering Proceeds | | Amount of Proceeds Utilized | |
| | Selling Commissions paid to broker/ dealers not affiliated with | | | |
| | D.H. Hill Securities , LLP | | $ | 1,644 | |
| | Selling Discounts | | | 71 | |
| | Dealer Manager Fee paid to Hartman Management | | | 705 | |
| | Offering expense reimbursements paid to the Hartman Management | | | 708 | |
| | Acquisition Fees paid to Hartman Management | | | 566 | |
| | Total Offering Expenses | | $ | 3,694 | |
| | | | | | |
| | Net Offering Proceeds | | $ | 25,930 | |
| | | | | | |
| | Repayment of Lines of Credit | | $ | 18,300 | |
| | Used for Working Capital | | $ | 7,630 | |
We initially used approximately $18,300,000 and $7,630,000 of our net proceeds from the repayment of the Company’soffering to repay our lines of credit and the immediate use of $8,621,568 was for working capital, subsequent purchases ofrespectively. We subsequently purchased real estate assets were accomplished by re-drawing on theour lines of credit and using working capital. Therefore, the ultimate use of $11,800,000 and $8,621,568 ofour net offering proceeds may be regarded as beingwas the acquisition of real estate assets.
On October 2, 2006, our Board terminated the public offering. On March 27, 2006, we gave the required ten day notice to plan participants informing them that we intend to terminate our dividend reinvestment plan. As a result, our dividend reinvestment plan will terminate on April 6, 2007.
Issuer Repurchases
The CompanyWe did not repurchase any of itsour equity securities during the fourth quarter of the period covered by this Annual Report on Form 10-K.2006. Our board of trusteesBoard has approved (but delayed the implementation of) a share redemption program that would enable shareholders to sell shares to the Companyus after holding them for at least one year under limited circumstances. We will not adoptOur Board could choose to amend the provisions of the share redemption program until the earlier of (i) the completion of our Public Offering, which may last until September 15, 2006 or (ii) receipt by us of SEC exemptive relief from rules restricting issuer purchases during distributions, which relief we may never obtain.without shareholder approval. Our board of trustees could chooseBoard has chosen not to implement the share redemption program or to amend its provisions without shareholder approval.at this time.
Dividends
In order to remain qualified as a REIT, the Company iswe are required to distribute at least 90% of itsour annual taxable income to the Company’sour shareholders. The CompanyWe currently accruesaccrue dividends quarterly and pays suchpay dividends in three monthly installments following the end of the quarter and intendsquarter. We intend to continue doing so.paying dividends in this manner. For a discussion of the Company’sour cash flow as compared to dividends, see Management’s Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources.
The following table showsreflects the total dividends the Company haswe have paid (including the total amount paid and the amount paid on a per share basis) for the past two fiscal years.share) in each indicated quarter. The amounts provided in the table give effect to our reorganization as a Maryland real estate investment trust and the concurrent recapitalization of our common shares on July 28, 2004.
Month Paid | | Total Amount of Dividends Paid | | Dividends Per Share |
| January 2004 | | $408,762 | | $0.0583 |
| February 2004 | | 408,762 | | 0.0583 |
| March 2004 | | 409,253 | | 0.0584 |
| April 2004 | | 408,762 | | 0.0583 |
| May 2004 | | 408,762 | | 0.0583 |
| June 2004 | | 409,253 | | 0.0584 |
| July 2004 | | 408,762 | | 0.0583 |
| August 2004 | | 408,762 | | 0.0583 |
| September 2004 | | 409,253 | | 0.0584 |
| October 2004 | | 408,692 | | 0.0583 |
| November 2004 | | 408,692 | | 0.0583 |
| December 2004 | | 409,392 | | 0.0584 |
| January 2005 | | 408,692 | | 0.0583 |
| February 2005 | | 408,692 | | 0.0583 |
| March 2005 | | 412,897 | | 0.0589 |
| April 2005 | | 412,931 | | 0.0589 |
| May 2005 | | 429,416 | | 0.0589 |
| June 2005 | | 439,453 | | 0.0590 |
| July 2005 | | 445,621 | | 0.0589 |
| August 2005 | | 452,396 | | 0.0589 |
| September 2005 | | 460,581 | | 0.0590 |
| October 2005 | | 467,260 | | 0.0589 |
| November 2005 | | 470,627 | | 0.0589 |
| December 2005 | | 480,737 | | 0.0590 |
| January 2006 | | 489,019 | | 0.0589 |
| February 2006 | | 509,475 | | 0.0589 |
| March 2006 | | 526,966 | | 0.0590 |
Average Per Quarter | | | | 0.1648 |
| | Quarter Paid | | Total Amount of Dividends Paid (in thousands) | | Dividends per Share | |
| | 03/31/2005 | | $ | 1,230 | | $ | 0.1755 | |
| | 06/30/2005 | | | 1,282 | | | 0.1768 | |
| | 09/30/2005 | | | 1,351 | | | 0.1768 | |
| | 12/31/2005 | | | 1,412 | | | 0.1768 | |
| | 03/31/2006 | | | 1,525 | | | 0.1768 | |
| | 06/30/2006 | | | 1,631 | | | 0.1768 | |
| | 09/30/2006 | | | 1,443 | | | 0.1500 | |
| | 12/31/2006 | | | 1,477 | | | 0.1500 | |
| | 03/31/2007 | | $ | 1,495 | | $ | 0.1500 | |
| | | | | | | | | |
| | Average Per Quarter | | | | | $ | 0.1677 | |
Dividend Reinvestment Plan
We have aOur dividend reinvestment plan pursuantallowed our shareholders to which shareholders may elect to have dividends from our common shares reinvested in additional common shares. The purchase price per share under our dividend reinvestment plan iswas $9.50. Participants are taxed on income attributableOn March 27, 2007, we gave the required ten day notice to the reinvested dividends. We mayparticipants informing them that we intend to terminate theour dividend reinvestment plan. As a result, our dividend reinvestment plan will terminate on April 6, 2007. Shares issued under our dividend reinvestment plan were registered on our Registration Statement on Form S-11. We did not amend or supplement our Registration Statement following our change in management on October 2, 2006, and the events that occurred thereafter. As a result, shareholders that received approximately 64,000 shares issued under our discretion atdividend reinvestment plan on or after that date could be entitled to recission rights. These rights would entitle these shareholders to recovery of their purchase price less any time upon ten days notice to plan participants.income received on their shares.
Incentive ShareEquity Compensation Plan Information
The Company has adopted an Employee and Trust Manager Incentive Share Plan (the “Incentive Share Plan”)Please refer to (i) furnish incentives to individuals chosen to receive share-based awards because they are considered capableItem 12 of improving operations and increasing profits; (ii) encourage selected persons to accept or continue employment with the Company; and (iii) increase the interest of employees and Trustees in the Company’s welfare through their participation and influencethis report on the growth in value of the common shares. The class of eligible persons that can receive grants ofForm 10-K for information concerning securities authorized under our incentive awards under the Incentive Share Plan consists of key employees, directors, non-employee trustees, members of the Management Company and consultants as determined by the compensation committee of the Board of Trustees. The total number of common shares that may be issued under the Incentive Share Plan is an amount of shares equal to 5% of the outstanding shares on a fully diluted basis, not to exceed 5,000,000 shares. As of December 31, 2005, no options or awards to purchase common shares have been granted under the Incentive Share Plan.share plan.
The following shares have been authorized for issuance under Incentive Share Plan:
Plan Category
| | Number of securities to
be issued upon exercise
of outstanding options,
warrants and rights
| | Weighted-average
exercise price of
outstanding options,
warrants and rights
| | Number of securities
remaining available for
future issuance under
equity compensation
plans (excluding
securities reflected in
column (a))
|
| | (a)
| | (b)
| | (c)
|
| | | | | | |
Equity compensation
plans approved by
security holders
| | | | | | |
Equity compensation
plans not approved by
security holders
| | | | ─
| | 445,682*
|
Total
| | ─ | | ─ | | 445,682 |
| | | | | | |
* | Equals 5% of the outstanding shares on a fully diluted basis as of December 31, 2005, subject to a maximum of 5,000,000 shares
|
The following table sets forth our selected consolidated financial information for the Company and should be read in conjunction with “Management’s“Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the Company’sour audited consolidated financial statements and the notes thereto, both of which appear elsewhere in this annual report.
| | | Year Ended December 31, | |
| | | (in thousands, except per share data) | |
| | | 2005 | | 2004 | | 2003 | | 2002 | | 2001 | |
Income Statement Data: | | | | | | | | | | | | | | | | |
| Revenues | | $ | 25,219 | | $ | 23,484 | | $ | 20,973 | | $ | 20,755 | | $ | 11,704 | |
| Operating expenses | | | 11,011 | | | 9,183 | | | 8,383 | | | 8,242 | | | 5,068 | |
| Interest | | | 3,770 | | | 2,664 | | | 1,323 | | | 1,573 | | | 812 | |
| Depreciation and amortization | | | 6,099 | | | 5,223 | | | 4,758 | | | 4,042 | | | 2,151 | |
| Total expenses | | | 20,880 | | | 17,070 | | | 14,464 | | | 13,857 | | | 8,031 | |
| Income before minority interests | | | 4,339 | | | 6,414 | | | 6,509 | | | 6,898 | | | 3,673 | |
| Minority interest in income | | | (1,891 | ) | | (2,990 | ) | | (3,035 | ) | | (3,193 | ) | | (1,932 | ) |
| Net income | | $ | 2,448 | | $ | 3,424 | | $ | 3,474 | | $ | 3,705 | | $ | 1,741 | |
| Net income per common share | | $ | 0.310 | | $ | 0.488 | | $ | 0.496 | | $ | 0.529 | | $ | 0.401 | |
| Weighted average shares outstanding | | | 7,888 | | | 7,010 | | | 7,010 | | | 7,007 | | | 4,336 | |
Balance Sheet Data: | | | | | | | | | | | | | | | | |
| Real estate | | $ | 153,965 | | $ | 126,547 | | $ | 120,256 | | $ | 109,294 | | $ | 66,269 | |
| Other assets | | | 17,497 | | | 16,070 | | | 13,810 | | | 17,670 | | | 4,409 | |
| Total assets | | $ | 171,462 | | $ | 142,617 | | $ | 134,066 | | $ | 126,964 | | $ | 70,678 | |
| Liabilities | | $ | 83,462 | | $ | 66,299 | | $ | 55,183 | | $ | 45,617 | | $ | 16,311 | |
| Minority interests in Operating Partnership | | | 34,272 | | | 36,489 | | | 37,567 | | | 38,598 | | | 27,264 | |
| Shareholders’ equity | | | 53,728 | | | 39,829 | | | 41,316 | | | 42,749 | | | 27,103 | |
| | | $ | 171,462 | | $ | 142,617 | | $ | 134,066 | | $ | 126,964 | | $ | 70,678 | |
Cash Flow Data: | | | | | | | | | | | | | | | | |
| Proceeds from issuance of common shares | | $ | 17,035 | | $ | — | | $ | — | | $ | 155 | | $ | 6,748 | |
| Additions to real estate | | | 31,792 | | | 10,277 | | | 8,242 | | | 1,983 | | | 5,028 | |
Other Financial Data: | | | | | | | | | | | | | | | | |
| Distributions per share | | $ | 0.7072 | | $ | 0.7005 | | $ | 0.7000 | | $ | 0.6738 | | $ | 0.5688 | |
| | | Year Ended December 31, | |
| | | (in thousands, except per share data) | |
| | | 2006 | �� | 2005 | | 2004 | | 2003 | | 2002 | |
Income Statement Data: | | | | | | | | | | | |
| Revenues | | $ | 29,840 | | $ | 24,919 | | $ | 23,279 | | $ | 20,897 | | $ | 20,739 | |
| Operating expenses (excluding depreciation and amortization) | | | 15,832 | | | 11,012 | | | 9,183 | | | 8,383 | | | 8,242 | |
| Depreciation and amortization | | | 6,476 | | | 6,099 | | | 5,223 | | | 4,758 | | | 4,042 | |
| Operating income | | | 7,532 | | | 7,808 | | | 8,873 | | | 7,756 | | | 8,455 | |
| Interest expense | | | (5,296 | ) | | (3,770 | ) | | (2,664 | ) | | (1,323 | ) | | (1,573 | ) |
| Interest income and other | | | 613 | | | 301 | | | 205 | | | 76 | | | 16 | |
| Income before minority interests | | | 2,849 | | | 4,339 | | | 6,414 | | | 6,509 | | | 6,898 | |
| Minority interest in income | | | (1,068 | ) | | (1,891 | ) | | (2,990 | ) | | (3,035 | ) | | (3,193 | ) |
| Net income | | $ | 1,781 | | $ | 2,448 | | $ | 3,424 | | $ | 3,474 | | $ | 3,705 | |
| Net income per common share | | $ | 0.185 | | $ | 0.310 | | $ | 0.488 | | $ | 0.496 | | $ | 0.529 | |
| Weighted average shares outstanding | | | 9,652 | | | 7,888 | | | 7,010 | | | 7,010 | | | 7,007 | |
Balance Sheet Data: | | | | | | | | | | | | | | | | |
| Real estate (net) | | $ | 149,599 | | $ | 153,965 | | $ | 126,547 | | $ | 120,256 | | $ | 109,294 | |
| Other assets | | | 17,488 | | | 17,497 | | | 16,070 | | | 13,810 | | | 17,670 | |
| Total assets | | $ | 167,087 | | $ | 171,462 | | $ | 142,617 | | $ | 134,066 | | $ | 126,964 | |
| Liabilities | | $ | 76,464 | | $ | 83,462 | | $ | 66,299 | | $ | 55,183 | | $ | 45,617 | |
| Minority interests in Operating Partnership | | | 31,709 | | | 34,272 | | | 36,489 | | | 37,567 | | | 38,598 | |
| Shareholders’ equity | | | 58,914 | | | 53,728 | | | 39,829 | | | 41,316 | | | 42,749 | |
| | | $ | 167,087 | | $ | 171,462 | | $ | 142,617 | | $ | 134,066 | | $ | 126,964 | |
Cash Flow Data: | | | | | | | | | | | | | | | | |
| Proceeds from issuance of common shares | | $ | 9,453 | | $ | 17,035 | | $ | 1,472 | | $ | — | | $ | 155 | |
| Additions to real estate | | $ | 2,055 | | $ | 31,792 | | $ | 10,277 | | $ | 8,242 | | $ | 1,983 | |
Other Financial Data: | | | | | | | | | | | | | | | | |
| Dividends per share | | $ | 0.625 | | $ | 0.707 | | $ | 0.701 | | $ | 0.700 | | $ | 0.674 | |
The distributionsdividends per share represent total cash payments from cash flow rather than from the Company’s net income.divided by weighted average shares.
Item 7.7. | Management’s Discussion and Analysis of Financial Condition and Results of Operations. |
You should read the following discussion of our financial condition and results of operations in conjunction with our audited consolidated financial statements and the notes thereto included in this annual report. For more detailed information regarding the basis of presentation for the following information, you should read the notes to theour audited consolidated financial statements included in this annual report.
Overview
We own 3736 commercial properties, consisting of 19 retail centers, 12 office-warehouse11 warehouse properties and 6 office buildings. All of our properties are located in the Houston, Dallas and San Antonio, Texas metropolitan areas. As of December 31, 2005,2006, we had 754728 total tenants. No individual lease or tenant is material to our business. Revenues from our largest lease constituted 1.97%2.98% of our total revenues for the year ended December 31, 2005. Leases2006. Lease terms for our properties range from one year for our smaller spacestenants to over ten years for larger tenants. Our leases generally include minimum monthly lease payments and tenant reimbursements for payment of taxes, insurance and maintenance.
Since November 14, 2006, we have operated as a self-managed and self-administered REIT. As of December 31, 2006, we had 41 employees, one of whom was part-time. We have no employees and we do notbelieve that our current staffing level is sufficient to effectively manage our properties. Ourproperty portfolio for the foreseeable future. As a self-managed REIT, we will bear our own expenses of operations, including the salaries, benefits and other compensation of our employees, office expenses, legal, accounting and investor relations expenses and other overhead. In the short term, we believe expenses will be higher than normal due to legal expenses associated with the litigation with Mr. Hartman and Hartman Management. In the future, we believe that our operations will be more effective and efficient than they were when we were externally managed and our operating margins will improve as a result.
Prior to November 14, 2006, our properties and day-to-day operations arewere managed by Hartman Management, our former advisor and manager under an advisory agreement and a management agreement. Our advisory agreement expired at the Management Company under aend of September 2006 and our Board terminated our property management agreement.
agreement for cause in October 2006. Hartman Management turned over all property management functions to us on November 14, 2006.
Under theour management agreement in effect after September 1, 2004,until November 14, 2006, we paypaid Hartman Management the Management Company the following amounts:following:
· | property· | Property management fees in an amount not to exceed the fees customarily charged in arm’s length transactions by others rendering similar services in the same geographic area for similar properties as determined by a survey of brokers and agents in suchthat area. Generally, we expect these fees to bewere between approximately two percent (2.0%) and four percent (2.0%-4.0%(4.0%) of gross revenues for the management of commercial office buildings and approximately five percent (5.0%) of gross revenues for the management of retail and office-warehouse properties;warehouse properties. |
· | for· | For the leasing of the properties, a separate fee for the leases of new tenants and renewals of leases with existing tenants in an amount not to exceed the fee customarily charged in arm’s length transactions by others rendering similar services in the same geographic area for similar properties as determined by a survey of brokers and agents in such area;that area (with these fees, being equal to 6% of the effective gross revenues from leases originated by Hartman Management and 4% of the effective gross revenues from expansions or renewals). |
· | except· | Except as otherwise specifically provided, all costs and expenses incurred by theHartman Management Company in fulfilling its duties for the account of and on behalf of us. SuchThese costs and expenses shallwere to include the wages and salaries and other employee-related expenses of all on-site and off-site employees of theHartman Management Company who arewere engaged in the operation, management, maintenance and leasing or access control of our properties, including taxes, insurance and benefits relating to suchthese employees, and legal, travel and other out-of-pocket expenses that are directly related to the management of specific properties. |
Gross revenues arewere defined as all amounts actually collected as rents or other charges for the use and occupancy of our properties, but excludesexcluded interest and other investment income and proceeds received for a sale, exchange, condemnation, eminent domain taking, casualty or other disposition of assets.
Under anour advisory agreement effectivein effect until September 1, 2004,30, 2006, we pay thepaid Hartman Management Companya quarterly fee for asset management services a quarterly fee in an amount equal to one-fourth of 0.25% of the gross asset value calculated on the last day of each preceding quarter.
Gross asset value is defined as the amount equal to the aggregate book value of our assets (other than investments in bank accounts, money market funds or other current assets), before depreciation, bad debts or other similar non-cash reserves and without reduction for any debt relating to suchour assets, at the date of measurement, except that during suchthese periods in which we are obtaining regular independent valuations of the current value of our net assets for purposes of enabling fiduciaries of employee benefit plan shareholdersplans to comply with applicable Department of Labor reporting requirements. Grossrequirements, gross asset value iswas the greater of (i) the amount determined pursuant to the foregoing or (ii) our assets’ aggregate valuation established by the most recent such valuation report without reduction for depreciation, bad debts or other similar non-cash reserves and without reduction for any debt relating to suchour assets.
The aggregate fees and reimbursements payable to theHartman Management Company under the new agreements effective September 1, 2004 wereour advisory agreement was not intended to be significantly different from thosethe fees and reimbursements that would have been payable under theour previous agreement. Upon actual calculation, theagreement with Hartman Management. The asset management fee under the newour advisory agreement, however, was significantly higher. TheHartman Management Company waived the excess of the fee for the period September 1, 2004 through March 31, 2006 in perpetuity. The asset management fee payable under our advisory agreement was charged by Hartman Management in the second and third quarters of 2006 and has been reflected in our consolidated financial statements as of December 31, 2005,2006. The asset management fee was not charged in perpetuity.the fourth quarter of 2006 as the advisory agreement expired on September 30, 2006.
The advisory agreement provided for the payment of a deferred performance fee, payable upon certain events, including termination of the agreement. This fee is based upon appreciation in the value of certain of our real estate assets. We have not accrued any deferred performance fees, as we believe the amount of these fees, if any are owing, cannot be determined with reasonable certainty at this time. Hartman Management has asserted that approximately $11 million is owed in deferred performance fees under our advisory agreement. We believe that there is no reasonable basis for this assertion. Although we currently estimate that no deferred performance fee is owed, there can be no assurance that our view will ultimately prevail. If Hartman Management is awarded a deferred performance fee it may have a material adverse effect on our financial condition and results of operations.
Critical Accounting Policies
Our discussion and analysis of our financial condition and results of operations are based on our consolidated financial statements. We prepared these financial statements in conformity with U.S. generally accepted accounting principles. The preparation of these financial statements required us to make estimates and assumptions that affect the reported amounts of assets and liabilities at the dates of the financial statements and the reported amounts of revenues and expenses during the reporting periods. We based our estimates on historical experience and on various other assumptions we believe to be reasonable under the circumstances. Our results may differ from these estimates. Currently, we believe that our accounting policies do not require us to make estimates using assumptions about matters that are highly uncertain. You should read Note 1, Summary of Significant Accounting Policies, to our consolidated financial statements in conjunction with this Management’s Discussion and Analysis of Financial Condition and Results of Operations.
We have described below the critical accounting policies that we believe could impact our consolidated financial statements most significantly.
Basis of Consolidation. We are the sole general partner of the Operating Partnership and possess full legal control and authority over its operations. As of December 31, 2005,2006, we owned a majority of the partnership interests in the Operating Partnership. Consequently, our consolidated financial statements include the accounts of the Operating Partnership. All significant intercompanyinter-company balances have been eliminated. Minority interest in the accompanying consolidated financial statements represents the share of equity and earnings of the Operating Partnership allocable to holders of partnership interests other than us. Net income is allocated to minority interests based on the weighted-average percentage ownership of the Operating Partnership during the year. Issuance of additional common shares and OP UnitsOperating Partnership units changes our ownership interests as well as those of minority interests.
Real Estate. We record real estate properties at cost, net of accumulated depreciation. We capitalize improvements, major renovations and certain costs directly related to the acquisition, improvement and leasing of real estate. We charge expenditures for repairs and maintenance to operations as they are incurred. We calculate depreciation using the straight-line method over the estimated useful lives of 5 to 39 years of our buildings and improvements. We depreciate tenant improvements using the straight-line method over the life of the lease.
We review our properties for impairment annually or whenever events or changes in circumstances indicate that the carrying amount of the assets, including accrued rental income, may not be recoverable through our operations. We determine whether an impairment in value has occurred by comparing the estimated future cash flows (undiscounted and without interest charges), including the estimated residual value of the property, with the carrying cost of the property. If impairment is indicated, we record a loss for the amount by which the carrying value of the property exceeds its fair value. We have determined that there has been no impairment in the carrying value of our real estate assets as of December 31, 2005.2006.
Purchase Price Allocation. We record above-market and below-market in-place lease values for owned properties based on the present value (using an interest rate which reflects the risks associated with the leases acquired) of the difference between (i) the contractual amounts to be paid pursuant to the in-place leases and (ii) management’s estimate of fair market lease rates for the corresponding in-place leases, measured over a period equal to the remaining non-cancelable term of the lease. We amortize the capitalized above-market lease values as a reduction of rental income over the remaining non-cancelable terms of the respective leases. We amortize the capitalized below-market lease values as an increase to rental income over the initial term and any fixed-rate renewal periods in the respective leases. Because mostMost of the properties we have acquired have not been subject to leases with terms materially different than then-existing market-level terms. Most of our acquired leases are relatively short term, have inflation or other scheduled rent escalations, and cover periods during which there have been few, and generally insignificant, pricing changes in the specific properties’ markets, the properties we have acquired have not been subject to leases with terms materially different than then-existing market-level terms.markets.
We measure the aggregate value of other intangible assets acquired based on the difference between (i) the property valued with existing in-place leases adjusted to market rental rates and (ii) the property valued as if vacant. Our management’s estimates of value are made using methods similar to those used by independent appraisers, primarily discounted cash flow analysis. Factors considered by management in its analysis include an estimate of carrying costs during hypothetical expected lease-up periods considering current market conditions, and costs to execute similar leases. We also consider information obtained about each property as a result of our pre-acquisition due diligence, marketing and leasing activities in estimating the fair value of the tangible and intangible assets acquired. In estimating carrying costs, management will also include real estate taxes, insurance and other operating expenses and estimates of lost rentals at market rates during the expected lease-up periods, which we expect to primarily range from 4four to 18eighteen months, depending on specific local market conditions. Our management also estimates costs to execute similar leases including leasing commissions, legal and other related expenses to the extent that suchthese costs are not already incurred in connection with a new lease origination as part of the transaction.
The total amount of other intangible assets acquired is further allocated to in-place lease values and customer relationship intangible values based on our management’s evaluation of the specific characteristics of each tenant’s lease and our overall relationship with that respective tenant. Characteristics considered by our management in allocating these values include the nature and extent of our existing business relationships with the tenant, growth prospects for developing new business with the tenant, the tenant’s credit quality and expectations of lease renewals (including those existing under the terms of the lease agreement), among other factors.
We amortize the value of in-place leases, if any, to expense over the remaining initial terms of the respective leases, which, for leases with allocated intangible value, we expect to range generally from five to ten years. The value of customer relationship intangibles is amortized to expense over the remaining initial terms and any renewal periods in the respective leases, but in no event does the amortization period for intangible assets exceed the remaining depreciable life of the building. Should a tenant terminate its lease, the unamortized portion of the in-place lease value and customer relationship intangibles are charged to expense.
Revenue Recognition. All leases on properties we hold are classified as operating leases, and we recognize the related rental income on a straight-line basis over the terms of the related leases. We capitalize or charge to accrued rent receivable, as applicable, differences between rental income earned and amounts due per the respective lease agreements. Percentage rents are recognized as rental income when the thresholds upon which they are based have been met. Recoveries from tenants for taxes, insurance, and other operating expenses are recognized as revenues in the period the corresponding costs are incurred. We provide an allowance for doubtful accounts against the portion of tenant accounts receivable which we estimate to be uncollectible.
Liquidity and Capital Resources
General. We generally lease our properties on a triple-net basis or on bases which providea basis that provides for tenants to pay for increases in operating expenses over a base year or set amount, which means that tenants are required to pay for all repairs and maintenance, property taxes, insurance and utilities, or increases thereof, applicable to their space.amount. During the year ended December 31, 2005,2006, our properties generatedcash provided by operating activities was sufficient cash flow to cover our operating expenses. However, our total distributions for 2005 exceeded our net cash flow from operating activities by $605,263.During the fourth quarter of 2006, we incurred approximately $1.0 million in legal costs as a result of the termination of the management and advisory agreements, the termination of Mr. Hartman as President, Secretary and Chief Executive Officer and the litigation with Mr. Hartman and Hartman Management. We fundeddo not know when this shortage with cash from borrowings under our KeyBank credit facility. This shortage resulted from decreased revenues duringlitigation will be resolved and the third and fourth quarters of 2005 caused by a drop in the occupancy for the overall portfolio, as well as increased interest expenses due to rising interest rates and increased borrowings and higher real estate taxescontinued legal cost associated with increased property value assessments. These factors are expected to be transitory, and management has implementedthis litigation will have a series of new initiatives which are aimed at increasing occupancy. Therefore, wesignificant impact on our cash flow. We anticipate that cash flows from operating activities and our borrowing capacity will provide adequate capital for our working capital requirements, anticipated capital expenditures, litigation costs and scheduled debt payments during the next 12twelve months. We also believe that cash flows from operating activities and our borrowing capacity will allow us to make all distributions required for us to continue to qualify to be taxed as a REIT.
Cash and Cash Equivalents. We had cash and cash equivalents of $848,998$8.3 million at December 31, 2006, as compared to $0.8 million on December 31, 2005 as compared to $631,978 on December 31, 2004.2005. The increase was relatively insignificant because we try to keep cash balances to a minimum by either buying properties, improving properties, reducing debt or making distributions to shareholders. primarily the result of the following:
| · | Repayment of approximately $3.5 million loan from a partnership managed by our former advisor Hartman Management; |
| · | Proceeds of approximately $1.1 million from the sale of our NW Place II property in December 2006; and |
| · | Receipt of $3.2 million cash from the release of escrow upon the payoff of the GMAC loan in June 2006. |
We place all cash in short-term, highly liquid investments that we believe provide appropriate safety of principal.
Our Debt for Borrowed Money. In December 2002, we refinanced most of our debt with a credit facility from GMAC Commercial Mortgage Corporation. We used the loan proceeds to repay debt and the remainder to pay accrued real estate taxes and other operating expenses. The loan is secured by, among other things, 18 of our properties, which are held by Hartman REIT Operating Partnership II, L.P., a wholly owned subsidiary formed for the purpose of this credit facility, and the improvements, personal property and fixtures on the properties, all reserves, escrows and deposit accounts held by Hartman REIT Operating Partnership II, L.P., all intangible assets specific to or used in connection with the properties, and an assignment of rents related to such properties. We believe the fair market value of these properties was approximately $62,000,000 at the time the loan was put in place. We may prepay the loan after July 1, 2005 without penalty. As of December 31, 2005, the outstanding principal balance under this facility was $34,440,000.2006 we had two active loans which are described below:
Revolving Credit Facility
We are required to make monthly interest payments under this credit facility. During the initial term of the note, indebtedness under the credit facility bears interest at LIBOR plus 2.5% computed on the basis ofhave a 360 day year, adjusted monthly. The interest rate was 6.79% as of December 31, 2005. We are not required to make any principal payments prior to the loan’s maturity. The credit facility matured on January 1, 2006, and we elected the option, subject to certain conditions, of extending the facility for an additional two-year period. We entered into a Modification Agreement on February 28, 2006 which extended the term of the credit facility to January 1, 2008. During the extension term, indebtedness under the credit facility will bear interest at LIBOR plus 3.0%, computed on the basis of a 360 day year, adjusted monthly. In no event shall the interest rate be lower than 4.32% during the extension term.
In addition, Hartman REIT Operating Partnership II, L.P. agreed to certain covenants pursuant to the credit facility which, among other things, require it to maintain specified levels of insurance and use the properties securing the note only for retail, light industrial, office, warehouse and commercial office uses. The facility also limits, without the approval of the lender, this wholly owned subsidiary’s ability to:
· | acquire additional material assets; |
· | merge or consolidate with any other entity; |
· | engage in any other business or activity other than the ownership, operation and maintenance of the properties securing the note; |
· | make certain investments; |
· | incur, assume or guarantee additional indebtedness; |
· | grant certain liens; and |
The security documents related to the note contain a covenant which requires Hartman REIT Operating Partnership II, L.P. to maintain adequate capital in light of its contemplated business operations. We believe that this covenant and the other restrictions provided for in our credit facility will not affect or limit Hartman REIT Operating Partnership II, L.P.’s ability to make distributions to us. The note and the security documents related thereto also contain customary events of default, including, without limitation, payment defaults, bankruptcy-related defaults and breach of covenant defaults. These covenants only apply to Hartman REIT Operating Partnership II, L.P. and do not impact the other operations of the Operating Partnership, including the operation of our properties which do not secure this debt.
In connection with the purchase of the Windsor Park property in December 2003, we assumed a note payable in the amount of $6,550,000 secured by the property. The balance at December 31, 2005 was $5,610,441. The note is payable in equal monthly installments of principal and interest of $80,445, with interest at the rate of 8.34% per annum. The balance of the note is payable in full on December 1, 2006.
On June 2, 2005, the Operating Partnership finalized a new revolving line of credit facility with a consortium of banks led by KeyBank National Association (“KeyBank”). The credit facility became retroactively effective as of March 11, 2005, the date certain documents for the facility were placed into escrow, pending the completion of the transaction.banks. The credit facility is secured by a pledge of the partnership interests in Hartman REIT Operating Partnership III LP (“HROP III”), a new wholly owned subsidiary of the Operating Partnership that was formed to hold title to the properties comprising the borrowing base pool for the credit facility. Presently thereAt December 31, 2006, 35 properties are 18 properties owned by HROP III.
The current limit ofIn 2006, the credit facility is $50,000,000was increased to $75 million from $50 million, and it may be increased to $100,000,000$100 million as the borrowing base pool expands. The purpose of theWe entered into this credit facility was to refinance the Operating Partnership’s previous loan with Regions Bank (formerly Union Planter’s Bank, N.A.),our then existing debt, to finance property acquisitions and for general corporate purposes. Simultaneously with the finalization of the new credit facility, the Operating Partnership drew $18,975,094, of which $18,650,000 was used to pay off the principal balance owing under the Regions Bank loan. Based upon the required ratios explained below, the remaining availability under the facility as
As of December 31, 2006 and 2005, the balance outstanding under the credit facility was $17,024,906.$61.2 million and $33.0 million, respectively, and the availability for additional borrowings was $13.8 million and $17.0 million, respectively.
Outstanding amounts under the credit facility will accrue interest at the Company’s option,computed (at our option) at either the LIBOR Rate or the Alternative Base Rate on the basis of a 360 day year, plus the applicable margin as determined from the following grid:
| Total Leverage Ratio | | LIBOR Margin | | Alternative Base Rate Margin |
| | | | | |
| Less than 60% but greater than or equal to 50% | | 2.40% | | 1.150% |
| Less than 50% but greater than or equal to 45% | | 2.15% | | 1.025% |
| Less than 45% | | 1.90% | | 1.000% |
Total Leverage Ratio | | LIBOR Margin | | Alternative Base Rate Margin |
| | | | | |
| Less than 60% but greater than or equal to 50% | | 2.40% | | 1.150% |
| Less than 50% but greater than or equal to 45% | | 2.15% | | 1.025% |
| Less than 45% | | 1.90% | | 1.000% |
The Alternative Base Rate equalsis a floating rate equal to the higher of KeyBank’s Base Ratethe bank’s base rate or the Federal Funds Rate plus 0.5%. Interest is due monthly in arrears, computed on the actual number of days elapsed over a 360-day year. LIBOR Rate loans will beare available in one, two, three or sixnine month periods, with a maximum of sixnine contracts at any time. In the event of default, interest will be calculated as above plus 2%. The effective interest rate as of December 31, 20052006 was 5.68%7.28% per annum.
Interest only is payable monthly under the loan with the total amount of principal due at maturity on March 11, 2008. The loan may be prepaid at any time in part or in whole, provided that the credit facility is not in default. If LIBOR Rate pricing is elected, there is a prepayment penalty based on a “make-whole” calculation for all costs associated with prepaying a LIBOR borrowing.
As of December 31, 2005, we were in violation of a loan covenant which provides that the ratio of declared dividends to funds from operations (as defined in the loan agreement) shall not be greater than 95%. As this violation constitutes an event of default, the lenders had the right to accelerate payment of amounts outstanding under this credit facility. However, on May 8, 2006, we received a waiver from the required majority of the consortium banks in the credit facility and also entered into a modification of the loan agreement whereby the covenant was amended though December 31, 2006. As amended, the ratio of declared dividends to funds from operations (as defined in the loan agreement) shall not exceed 107% for the three months ended March 31, 2006 and June 30, 2006, 104% for the three months ended September 30, 2006 and 100% for the three months ended December 31, 2006. At December 31, 2006, we are in compliance with the covenant, as amended.
In October 2006, our Board (i) elected not to renew our advisory agreement with Hartman Management, (ii) terminated our property management agreement with Hartman Management; and (iii) removed Mr. Hartman from his positions as our President, Secretary and Chief Executive Officer. These actions violated certain covenants in the loan agreement and were events of default thereunder. These events of default have been waived by the lenders.
On January 8, 2007, we requested that legal fees incurred in connection with the litigation with Mr. Hartman and Hartman Management be excluded from the definition of funds from operations in testing the covenant requiring the ratio of declared and paid dividends to funds from operations not be in excess of 95%. On January 23, 2007, the lenders granted the exclusion as requested. On March 26, 2007, we formalized this agreement in Amendment No. 3 to our Revolving Credit Agreement which is filed as exhibit 10.26 to this document.
The revolving line of credit facility is supported by a pool of eligible properties referred to as the borrowing base pool. The borrowing base pool must meet the following criteria:
· | The Company· | We will provide a negative pledge on the borrowing base pool and may not provide a negative pledge of the borrowing base pool to any other lender. |
| · | The properties mustwill be free of all liens, unless otherwise permitted. |
| · | All eligible properties mustwill be retail, office-warehouse, or office properties, mustwill be free and clear of material environmental concerns and mustwill be in good repair. |
| · | The aggregate physical occupancy of the borrowing base pool mustwill remain above 80% at all times. |
| · | No property may comprise more than 15% of the value of the borrowing base pool with the exception of Corporate Park Northwest, which is allowed into the borrowing base pool. |
| · | The borrowing base pool mustwill at all times be comprised of at least 10 properties. |
| · | The borrowing base pool properties may not contain development or redevelopment projects. |
Properties can be added to and removed from the borrowing base pool at any time provided no defaults would occur as a result of thea removal. If a property does not meet the criteria of an eligible property and the Company wantswe want to include it in the borrowing base pool, a majority vote of the bank consortium is required for inclusion in the borrowing base pool.required.
Covenants, tested quarterly, relative to the borrowing base pool are as follows:
· | The Company· | We will not permit any liens on the properties in the borrowing base pool unless otherwise permitted. |
| · | The ratio of aggregate net operating income from the borrowing base pool to debt service shall at all times exceed 1.5 to 1.0. For any quarter, debt service shall be equal to the average loan balance for the past quarter times an interest rate which is the greater of (a) the then current annual yield on 10 year United States Treasury notes over 25 years plus 2%; (b) a 6.5% constant; or (c) the actual interest rate for the facility. |
| · | The ratio of the value of the borrowing base pool to total funded loan balance must always exceed 1.67 to 1.00. The value of the borrowing base pool is defined as aggregate net operating income for the preceding four quarters, less a $0.15 per square foot per annum capital expenditure reserve, divided by a 9.25% capitalization rate. |
Covenants, tested quarterly, relative to the Companyus are as follows:
· | The Company· | We will not permit itsour total indebtedness to exceed 60% of the fair market value of itsour real estate assets at the end of any quarter. Total indebtedness is defined as all our liabilities, of the Company, including this facility and all other secured and unsecured debt, of the Company, including letters of credit and guarantees. Fair market value of real estate assets is defined as aggregate net operating income for the preceding four quarters, less a $0.15 per square foot per annum capital expenditure reserve, divided by a 9.25% capitalization rate. |
| · | The ratio of consolidated rolling four-quarter earnings before interest, income tax, deprecation and amortization expenses for such quarter to total interest expense, including capitalized interest, shall not be less than 2.0 to 1.0. |
| · | The ratio of consolidated earnings before interest, income tax, deprecation and amortization expenses for such quarter to total interest, including capitalized interest, principal amortization, capital expenditures and preferred stock dividends shall not be less than 1.5 to 1.0. Capital expenditures shall be deemed to be $0.15 per square foot per annum. |
| · | The ratio of secured debt to fair market value of real estate assets shall not be greater than 40%. |
| · | The ratio of declared dividends to funds from operations shall not be greater than 95%. |
| · | The ratio of development assets to fair market value of real estate assets shall not be greater than 20%. |
· | The Company· | We must maintain itsour status as a real estate investment trustREIT for income tax purposes. |
| · | Total other investments shall not exceed 30% of total asset value. Other investments shall include investments in joint ventures, unimproved land, marketable securities and mortgage notes receivable. Additionally, the preceding investment categories shall not comprise greater than 30%, 15%, 10% and 20%, respectively, of total other investments. |
Within six months of closing, the Companywe must hedge all variable rate debt above $40 million until the point inat which the ratio of variable rate debt to fixed rate debt is 50% of total debt. Thereafter, the Companywe must maintain such hedgesthis type of hedge during any period in which variable rate debt exceeds 50% of total debt. On March 27, 2006, the Companywe executed an interest rate swap dated as of March 16, 2006, for the purpose of hedging variable interest rate exposure, in compliance with the requirements of the loan agreement. The lenderlenders waived the default for the fact thatnot executing the hedge was not executed within six months of closing, as required by the loan agreement.
AsOn June 30, 2006, we borrowed $34.8 million on the revolving credit facility to extinguish the three year floating rate mortgage loan described in the following paragraph and pay related legal and banking fees.
In December 2002, we refinanced substantially all of our mortgage debt with a $34.4 million three-year floating rate mortgage loan collateralized by 18 of our then existing properties. The loan had a maturity date of January 1, 2006, extendable for an additional two years. Effective as of February 28, 2006, we extended the loan to January 1, 2008. During the initial term, the loan bore interest at 2.5% over 30-day LIBOR (6.79% at December 31, 2005, we2005). During the extension term, the interest rate was 3.0% over 30-day LIBOR. Interest only payments were due monthly, and the loan could be repaid in violationfull or in $100,000 increments, with a final balloon payment due upon maturity.
Mortgage Loan on Windsor Park Centre
In connection with the purchase of the covenant which provides that the ratio of declared dividends to funds from operations (as definedWindsor Park Centre property in December 2003, we assumed a note payable in the loan agreement) shall not be greater than 95%. As this violation constitutes an eventamount of default, our lenders have$6.6 million, secured by the right to accelerate paymentproperty. The balance at December 31, 2006, was $5.1 million. The note was payable in equal monthly installments of principal and interest of $80,445, with interest at the rate of 8.34% per annum. The balance of the credit facility. As ofnote was payable in full on December 31, 2005, and continuing1, 2006. We obtained an extension through March 31, 20062, 2007 and paid off this note in full with the proceeds from a $10.0 million loan described in the following paragraph.
On March 1, 2007, we had not receivedobtained a waiver$10.0 million loan to pay off the loan obtained upon the acquisition of the Windsor Park Centre property and to provide funds for future acquisitions and improvements to existing properties. The mortgage loan is secured by Windsor Park Centre, which is owned by HCP REIT Operating Company IV LLC (“HROC IV”), a wholly owned subsidiary of the Operating Partnership that was formed to hold title to Windsor Park Centre. On March 1, 2007, we conveyed ownership of Windsor Park Centre from the required majorityOperating Partnership to HROC IV in order to secure the $10.0 million loan. The note is payable in equal monthly installments of principal and interest of $60,212, with interest at the rate of 6.04% per annum. The balance of the consortium of banksnote is payable in the facility led by KeyBank. We are currently in discussions to receive such waiver, and as our violation constitutes less than 0.4%, we believe that we will receive such waiver. However, there can be no assurance that we will be successful in our negotiations to obtain a waiver.full on March 1, 2014.
Capital Expenditures. We currently do not expect to make significant capital expenditures or any significant improvements to anyCurrently, we are evaluating all of our currently owned properties during the next 12 months. However,to determine a strategy for each property. We may determine it is best to invest capital in properties we believe have potential for increasing value. We also may have unexpected capital expenditures or improvements onfor our existing assets. Additionally, we intend to continue our ongoing acquisition strategyinvest in similar properties outside of acquiring propertiesTexas in the Houston, Dallas and San Antonio, Texas metropolitan areas where we believe opportunities exist for acceptable investment returns (generally in the $1 millioncities with exceptional demographics to $10 million value range),diversify market risk, and we may incur significant capital expenditures or make significant improvements in connection with any properties we may acquire.
Total Contractual Cash Obligations. A summary of our contractual cash obligations as of December 31, 2006, is as follows:follows (in thousands):
| | | | | Payment due by period | | | | Payment due by period | |
Contractual Obligations | | Total | | Less than One Year | | One to Three Years | | Three to Five Years | | More than Five Years | | Total | | Less than 1 Year | | 1 to 3 Years | | 3 to 5 Years | | More than 5 Years | |
| | | | | | | | | | | |
| Long-Term Debt Obligations | Long-Term Debt Obligations | $73,025,535 | | $5,610,441 | | $67,415,094 | | — | | — | | $ | 66,363 | | $ | 5,138 | | $ | 61,225 | | $ | — | | $ | — | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Capital Lease Obligations | Capital Lease Obligations | — | | — | | — | | — | | — | | | — | | | — | | | — | | | — | | | — | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Operating Lease Obligations | Operating Lease Obligations | — | | — | | — | | — | | — | | | — | | | — | | | — | | | — | | | — | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Purchase Obligations | Purchase Obligations | — | | — | | — | | — | | — | | | — | | | — | | | — | | | — | | | — | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | |
Other Long-Term Liabilities Reflected on the Registrant’s Balance Sheet under GAAP | — | | — | | — | | — | | — | |
| Other Long-Term Liabilities | | | | | | | | | | | | | | | | | |
| Reflected on the Registrant’s | | | | | | | | | | | | | | | | | |
| Balance Sheet under GAAP | | | | — | | | — | | | ��� | | | — | | | — | |
| Total | Total | $73,025,535 | | $5,610,441 | | $67,415,094 | | — | | — | | $ | 66,363 | | $ | 5,138 | | $ | 61,225 | | $ | — | | $ | — | |
On March 1, 2007 we obtained a $10.0 million loan which is payable in full in 2014. The proceeds from the loan were used to pay off the balance of a $5.1 million loan which was due in 2007 and provide funds for future acquisitions and improvements to existing properties. We have no commercial commitments, such as lines of credit or guarantees, that might result from a contingent event thatand would require our performance pursuant to a funding commitment.
Property Acquisitions. During 2006, we acquired no properties.
During 2005, we acquired from unrelated parties three multi-tenant office buildings comprising approximately 486,024 square feet of gross leasable area (GLA).area. The properties were acquired for cash in the amount offor approximately $30,430,000.$30.4 million.
During 2004, we acquired from an unrelated party one multi-tenant retail center comprising approximately 95,032 square feet of gross leasable area (GLA).area. The property was acquired for cash in the amount offor approximately $8,900,000.$8.9 million.
Results of Operations
Year Ended December 31, 20052006 Compared to Year Ended December 31, 20042005
GeneralGeneral.
The following table provides a general comparison of our results of operations for the years ended December 31, 20042006 and December 31, 2005:
| | | December 31, 2004 | | December 31, 2005 | |
| | | | | | |
| Number of properties owned and operated | | | 34 | | | 37 | |
| Aggregate gross leasable area (sq. ft.) | | | 2,635,063 | | | 3,121,037 | |
| Occupancy rate | | | 86% | | | 82% | |
| Total Revenues | | $ | 23,483,657 | | $ | 25,219,233 | |
| Total Operating Expenses | | $ | 17,069,628 | | $ | 20,880,435 | |
| Income before Minority Interest | | $ | 6,414,029 | | $ | 4,338,798 | |
| Minority Interest in the Operating Partnership | | $ | (2,990,410 | ) | $ | (1,890,616 | ) |
| Net Income | | $ | 3,423,619 | | $ | 2,448,182 | |
Revenues2005 (dollars in thousands):
| | December 31, 2006 | | December 31, 2005 | |
| Number of properties owned and operated | | | 36 | | | 37 | |
| Aggregate gross leasable area (sq. ft.) | | | 3,093,063 | | | 3,121,037 | |
| Occupancy rate | | | 83 | % | | 82 | % |
| Total revenues | | $ | 29,840 | | $ | 24,919 | |
| Total operating expenses | | | 22,308 | | | 17,111 | |
| Operating income | | | 7,532 | | | 7,808 | |
| Other income (expense), net | | | (4,683 | ) | | (3,469 | ) |
| Income before minority interests | | | 2,849 | | | 4,339 | |
| Minority interests in the Operating Partnership | | | (1,068 | ) | | (1,891 | ) |
| Net income | | $ | 1,781 | | $ | 2,448 | |
Revenues. Substantially all of our revenue is derived from rents received for the use of our properties. We had rental income and tenant reimbursements of $24,707,312approximately $29.8 million for the year ended December 31, 2006, as compared to $24.9 million for the year ended December 31, 2005, an increase of $4.9 million or 20%. Of this increase, $4.4 million or 90% was from receiving a full year of revenue on the three properties acquired during 2005. The remaining increase resulted from an increase in rental rates charged. Our average occupancy rate in 2006 was 83%, as compared to 85% in 2005, and our average annualized revenue was $9.58 per square foot in 2006, as compared to our average annualized revenue of $9.09 per square foot in 2005.
Operating Expenses. Our total operating expenses were $22.3 million for the year ended December 31, 2006, as compared to $17.1 million for the year ended December 31, 2005, an increase of $5.2 million, or 30%. Of this increase, $2.9 million or 56% was from having a full year of operating expenses on the three properties acquired during 2005.The primary components of operating expense are detailed in the table below (in thousands):
| | | Year Ended December 31, | |
| | | 2006 | | 2005 | |
| | | | | | |
| Properties acquired in 2005 | | $ | 4,379 | | $ | 1,461 | |
| | | | | | | | |
| Other Properties | | | | | | | |
| Property operations and maintanence | | | 3,093 | | | 2,906 | |
| Real estate taxes | | | 2,993 | | | 2,774 | |
| Insurance | | | 473 | | | 429 | |
| Electricity, water and gas utilities | | | 1,194 | | | 1,164 | |
| Property management and asset management | | | | | | | |
| fees to an affiliate | | | 1,266 | | | 1,354 | |
| G & A - professional fees | | | 2,217 | | | 1,128 | |
| G & A - employee compensation and office expenses | | | 585 | | | — | |
| Depreciation | | | 4,526 | | | 4,096 | |
| Amortization | | | 1,167 | | | 1,714 | |
| Bad Debt | | | 415 | | | 85 | |
| | | $ | 17,929 | | $ | 15,650 | |
| | | | | | | | |
| Total Operating Expenses | | $ | 22,308 | | $ | 17,111 | |
Properties acquired in 2005. During 2005, we acquired from unrelated parties three multi-tenant office buildings comprising approximately 486,024 square feet of gross leasable area. The properties were acquired for cash for approximately $30.4 million. As these properties were acquired during the year only a partial year of operating expense is included in 2005. The increase is primarily a result of a full year of operating expense in 2006 compared to a partial year in 2005.
Real Estate Taxes. The increase in taxes of $0.2 million is primarily a result of an approximate 8% increase in overall property values by local appraisal districts.
Property management and asset management fees paid to an affiliate. On September 30, 2006, our advisory agreement with Hartman Management expired. On November 14, 2006, all property management functions were transferred to us from Hartman Management. As such, no fees were charged by Hartman Management after November 13, 2006. The property management and asset management fees charged by Hartman Management through November 13, 2006 and September 30, 2006, respectively, were $0.3 million or 24% higher than the same period in 2005.
G & A - professional fees. The increase in our professional fees of $1.2 million is primarily due to an increase in legal fees in the fourth quarter resulting from the termination of the management and advisory agreements, the termination of Mr. Hartman as our President, Secretary and Chief Executive Officer and the litigation with Mr. Hartman and Hartman Management.
G & A - employee compensation and office expenses. The increase in employee compensation and office expense of $0.6 million is a result of our property management and advisory functions being transferred to us from Hartman Management during the fourth quarter of 2006.
Depreciation. The increase of $0.5 million is due primarily to the addition of approximately of $2.1 million in capitalized improvements to properties in 2006.
Amortization. The decrease of $0.5 million is due to the loan fees related to the GMAC loan becoming fully amortized in 2005.
Bad Debt. The increase in bad debt of $0.3 million is primarily a result of (1) higher tenant revenues, and (2) additional bad debt reserve recorded by us due to an increase in the accounts receivable balance of $0.5 million at December 31, 2006 as compared to December 31, 2005.
Operating Income. Operating income was $7.5 million for the year ended December 31, 2006, as compared to $7.8 million for the year ended December 31, 2005, a decrease of $0.3 million or 4%. The primary reasons for the decrease are detailed above in Revenues and Operating Expenses.
Other Expense, net. Other expense was $4.7 million for the year ended December 31, 2006, as compared to $3.5 million for the year ended December 31, 2005, an increase of $1.2 million or 34%. The primary reason for the increase was a $1.5 million increase in interest expense as a result of higher variable interest rates in 2006, as compared to 2005, offset by a gain of $0.2 million recorded in 2006 from the sale of Northwest Place II.
NetIncome. Income before minority interest was $2.8 million for the year ended December 31, 2006, as compared to $4.3 million for the year ended December 31, 2005, a decrease of $1.5 million or 35%. Net income for the year ended December 31, 2006, was $1.8 million, as compared to $2.4 million for the year ended December 31, 2005, a decrease of $0.6 million, or 25%. These decreases are a result of the items discussed above.
Year Ended December 31, 2005 Compared to Year Ended December 31, 2004
General. The following table provides a general comparison of our results of operations for the years ended December 31, 2005 and December 31, 2004 (dollars in thousands):
| | | December 31, 2005 | | December 31, 2004 | |
| Number of properties owned and operated | | | 37 | | | 34 | |
| Aggregate gross leasable area (sq. ft.) | | | 3,121,037 | | | 2,635,063 | |
| Occupancy rate | | | 82 | % | | 86 | % |
| Total revenues | | $ | 24,919 | | $ | 23,279 | |
| Total operating expenses | | | 17,111 | | | 14,406 | |
| Operating income | | | 7,808 | | | 8,873 | |
| Other income (expense) | | | (3,469 | ) | | (2,459 | ) |
| Income before minority interests | | | 4,339 | | | 6,414 | |
| Minority interests in the Operating Partnership | | | (1,891 | ) | | (2,990 | ) |
| Net income | | $ | 2,448 | | $ | 3,424 | |
Revenues. We had rental income and tenant reimbursements of $24.9 million for the year ended December 31, 2005, as compared to revenues of $23,038,966$23.3 million for the year ended December 31, 2004, an increase of $1,668,346,$1.6 million or 7%. Substantially all of our revenues are derived from rents received from the use of our properties. The increase in our revenues during 2005 as compared to 2004 was due to an increase in the amount of rent charged at some locations and the purchase of additional properties. Our average occupancy rate in 2005 was 85%, as compared to 87% in 2004, and our average annualized revenue was $9.09 per square foot in 2005, as compared to anour average annualized revenue of $9.14 per square foot in 2004.
We had interest and other income of $511,921Operating Expenses. Our total operating expenses were $17.1 million for the year ended December 31, 2005, as compared to $444,691$14.4 for the year ended December 31, 2004, an increase of $67,230,$2.7 million, or 15%19%. At December 31, 2005, we held all revenues and escrowed funds we received from our Public Offering through such date in money market accounts and other short-term, highly liquid investments. We expect the percentage of our total revenues from interest income from investments in money market accounts or other short-term, highly liquid investments to decrease as we invest cash holdings in properties. The increase in interest and other income during 2005 as compared to 2004 resulted primarily from an increase in non-rent income such as sale of rights-of-way and parking fees.
Expenses
Our total operating expenses, including interest expense and depreciation and amortization expense, were $20,880,435 for the year ended December 31, 2005, as compared to $17,069,628 for the year ended December 31, 2004, an increase of $3,810,807, or 22%. We expect that the dollar amount of operating expenses will increase as we acquire additional properties and expand our operations. However, we expect that general and administrative expenses as a percentage of total revenues will decline as we acquire additional properties. The increase in our operating expenses during 2005 was primarily the result of increased maintenance, real estate taxes, utilities and depreciation and amortization expenses.
The amount we pay Hartman Management under our management agreement is based on our revenues. As a result of our increased revenues in 2005, management fees were $1,405,587 in 2005, as compared to $1,339,822 in 2004, an increase of $65,765, or 5%.
Our interest expense increased by $1,105,501, or 41%, in 2005 as compared to 2004. Our average outstanding debt increased from $53,705,399 in 2004 to $61,848,873 in 2005 and the average interest rate associated with this debt increased from 4.54% in 2004 to 6.19% in 2005 because our debt is predominantly subject to floating interest rates.
Finally, general and administrative expenses increased $85,886, or 8%, in 2005 as compared to 2004, primarily as the result of an increase in office expense.
NetIncome
Income provided by operating activities before minority interest was $4,338,798 for the year ended December 31, 2005, as compared to $6,414,029 for the year ended December 31, 2004, a decrease of $2,075,231, or 32%. Net income provided by operating activities for the year ended December 31, 2005 was $2,448,182, as compared to $3,423,619 for the year ended December 31, 2004, a decrease of $975,437, or 28%. These decreases are a result of the increase in expenses, discussed above.
Year Ended December 31, 2004 Compared to Year Ended December 31, 2003
General
The following table provides a general comparison of our results of operations for the years ended December 31, 2003 and December 31, 2004:
| | | December 31, 2003 | | December 31, 2004 | |
| | | | | | |
| Number of properties owned and operated | | | 33 | | | 34 | |
| Aggregate gross leasable area (sq. ft.) | | | 2,540,031 | | | 2,635,063 | |
| Occupancy rate | | | 88% | | | 86% | |
| Total Revenues | | $ | 20,972,951 | | $ | 23,483,657 | |
| Total Operating Expenses | | $ | 14,463,982 | | $ | 17,069,628 | |
| Income before Minority Interest | | $ | 6,508,969 | | $ | 6,414,029 | |
| Minority Interest in the Operating Partnership | | $ | (3,034,795 | ) | $ | (2,990,410 | ) |
| Net Income | | $ | 3,474,174 | | $ | 3,423,619 | |
Revenues
We had rental income and tenant reimbursements of $23,038,966 for the year ended December 31, 2004, as compared to revenues of $20,605,161 for the year ended December 31, 2003, an increase of $2,433,805, or 12%. Substantially all of our revenues are derived from rents received from the use of our properties. The increase in our revenues during 2004 as compared to 2003 was due to an increase in the amount of rent charged at some locations and the purchase of additional properties. Our average occupancy rate in 2004 was 87%, as compared to 90% in 2003, and our average annualized revenue was $9.14 per square foot in 2004, as compared to an average annualized revenue of $8.93 per square foot in 2003.
We had interest and other income of $444,691 for the year ended December 31, 2004, as compared to $367,790 for the year ended December 31, 2003, an increase of $76,901, or 21%. At December 31, 2004, we held all revenues and escrowed funds we received from our Public Offering through such date in money market accounts and other short-term, highly liquid investments. The increase in interest and other income during 2004 as compared to 2003 resulted primarily from an increase in non-rent income such as late fees and deposit forfeitures.
Expenses
Our total operating expenses, including interest expense and depreciation and amortization expense, were $17,069,628 for the year ended December 31, 2004, as compared to $14,463,982 for the year ended December 31, 2003, an increase of $2,605,646, or 18%. The increase in our operating expenses during 2004 was primarily the result of increased maintenance, real estate taxes, utilities and depreciation and amortization expenses, predominantly due to the addition of properties acquired during the year.
The amount we paypaid Hartman Management under our previous management agreement isagreements was based on our revenues and the book value of our assets. As a result of our increased revenues and assets in 2004,2005, management fees were $1,339,822$1.4 million in 2004,2005, as compared to $1,232,127$1.3 million in 2003,2004, an increase of $107,695,$0.1 million, or 9%8%.
Our interest expense increased by $1,340,757, or 101%, in 2004 as compared to 2003. Our average outstanding debt increased from $37,264,685 in 2003 to $53,705,399 in 2004 and the average interest rate associated with this debt increased from 3.90% in 2003 to 4.54% in 2004.
Finally, general and administrative expenses increased $73,644, or 7%, in 2004 as compared to 2003, primarily as the result of an increase in professional fees.
Net IncomeOperating Income.
Income provided by operating activities before minority interestOperating income was $6,414,029$7.8 million for the year ended December 31, 2005, as compared to $8.9 million for the year ended December 31, 2004, as compared to $6,508,969a decrease of $1.1 million, or 12%. The primary reasons for the decrease are detailed above in Revenues and Operating Expenses.
Other Expense. Other expense was $3.5 million for the year ended December 31, 2003, a decrease of $94,940, or 1%. Net income provided by operating activities2005, as compared to $2.5 million for the year ended December 31, 2004, and increase of $1.0 million or 40%. The primary reason for the increase was $3,423,619,a $1.1 million increase in interest expense as a result of higher average debt outstanding and variable interest rates in 2005, as compared to $3,474,1742004.
NetIncome. Income before minority interest was $4.3 million for the year ended December 31, 2003,2005, as compared to $6.4 million for the year ended December 31, 2004, a decrease of $50,555,$2.1 million or 1%33%. Net income for the year ended December 31, 2005 was $2.4 million, as compared to $3.4 million for the year ended December 31, 2004, a decrease of $1.0 million, or 29%. These decreases are a result of the items discussed above.
Taxes
We elected to be taxed as a REIT under the Internal Revenue Code beginning with our taxable year ended December 31, 1999. As a REIT, we generally are not subject to federal income tax on income that we distribute to our shareholders. If we fail to qualify as a REIT in any taxable year, we will be subject to federal income tax on our taxable income at regular corporate rates. We believe that we are organized and operate in such a manner as to qualify to be taxed as a REIT, and we intend to operate so as to remain qualified as a REIT for federal income tax purposes.
Inflation
We anticipate that our leases will continue to be triple-net leases or otherwise provide that tenants pay for increases in operating expenses and will contain provisions that we believe will mitigate the effect of inflation. In addition, many of our leases are for terms of less than five years, which allows us to adjust rental rates to reflect inflation and other changing market conditions when the leases expire. Consequently, increases due to inflation, as well as ad valorem tax rate increases, generally do not have a significant adverse effect upon our operating results.
Off-Balance Sheet Arrangements
The Company hasWe have no significant off-balance sheet arrangements as of December 31, 2005.2006.
Recent Accounting Pronouncements
In December 2004,May 2005, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 123R, “Share Based Payment.” This statement requires companies to categorize share based payment as either liability or equity awards. For liability awards, companies will remeasure the award at fair value at each balance sheet date until the award is settled. Equity classified awards are measured at the grant-date fair value and are not remeasured. SFAS No. 123R is effective for interim or annual periods beginning after June 15, 2005. Awards issued, modified or settled after the effective date will be measured and recorded in accordance with SFAS No. 123R. On April 14, 2005, the SEC adopted a new rule that defers the effective date of SFAS No. 123R and allows companies to implement the provisions of SFAS 123R at the beginning of their next fiscal year. Management believes that the implementation of this standard will not have a material effect on the Company’s consolidated financial position or results of operations.
In December 2004, the FASB issued SFAS No. 153,154, “Accounting for Non-monetary Transactions.” This standard requires that non-monetary exchanges be accounted for at fair value, recognizing any gain or loss, if the transactions meet a commercial-substance criteria and fair value is determinable. SFAS No. 153 is effective for non-monetary transactions occurring in fiscal years beginning after June 15, 2005. Management believes that the implementation of this standard will not have a material effect on the Company’s consolidated financial position or results of operations.
In May 2005, the FASB issued Statement of Financial Accounting Standards No. 154 (“SFAS 154”), “Accounting Changes and Error Corrections -– A Replacement of APB Opinion No. 2 and FASB Statement No. 3.”(“SFAS 154”). This statement changes the requirements for the accounting for and reporting of a change in accounting principle. This statement applies to all voluntary changes in accounting principle.principles. It also applies to changes required by an accounting pronouncement in the unusual instance that the pronouncement does not include specific transition provisions. When a pronouncement includes specific transition provisions, those provisions should be followed. This statement is effective for fiscal years beginning after December 15, 2005, and did not have a material impact on our consolidated financial statements.
In February 2006, the FASB issued SFAS No. 155, “Accounting for Certain Hybrid FinancialInstruments an-amendment of FASB Statements No. 133 and 140” (“SFAS 155”). This statement will be effective beginning the first quarter of 2007. Earlier adoption is permitted. The statement permits interests in hybrid financial assets that contain an embedded derivative that would require bifurcation to be accounted for as a single financial instrument at fair value with changes in fair value recognized in earnings. This election is permitted on an instrument-by-instrument basis for all hybrid financial instruments held, obtained, or issued as of the adoption date. We are currently assessing the impact of adoption of SFAS 155.
In March 2006, the FASB issued SFAS No. 156, “Accounting for Servicing of Financial Assets - anamendment of FASB Statement No. 140,” (“SFAS 156”), which permits entities to elect to measure servicing assets and servicing liabilities at fair value and report changes in fair value in earnings. Adoption of SFAS 156 is required for financial periods beginning after September 15, 2006. We are currently assessing the impact and timing of adoption of SFAS 156 but do not expectedexpect the standard to have a material impact on the Company’sour consolidated financial statements.
In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS 157”). SFAS 157 defines fair value, establishes a framework for measuring fair value under U.S. generally accepted accounting principles and requires enhanced disclosures about fair value measurements. It does not require any new fair value measurements. SFAS 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. We are currently assessing whether to early adopt SFAS 157 as of the first quarter of fiscal 2007 as permitted, and are currently evaluating the impact adoption may have on our consolidated financial statements.
In February 2007, the FASB issued SFAS No. 159, ‘The Fair Value Option for Financial Assets and Financial Liabilities—Including an amendment of FASB Statement No. 115” (“SFAS 159”). SFAS 159 permits entities to choose to measure many financial instruments and certain other items at fair value. The objective is to improve financial reporting by providing entities with the opportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions. SFAS 159 is effective for financial statements issued for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years. We are currently assessing whether to early adopt SFAS 157 as of the first quarter of fiscal 2007 as permitted, and are currently evaluating the impact adoption may have on our consolidated financial statements.
Market risk is the risk of loss arising from adverse changes in market rates and prices. The principal market risk to which the Company iswe are exposed is the risk related to interest rate fluctuations. Based upon the nature of the Company’sour operations, the Company iswe are not subject to foreign exchange or commodity risk. The CompanyWe will be exposed to changes in interest rates as a result of the Company’sour credit facilities that have floating interest rates. As of December 31, 2005, the Company2006, we had $67,415,000$31.2 million of indebtedness outstanding under suchthese types of facilities. The impact of a 1% increase in interest rates on the Company’sour debt would result in an increase in interest expense and a decrease in income before minority interests of approximately $690,000$0.3 million annually. Pursuant to loan covenants in our KeyBank credit facility, on March 27, 2006 the Company executed an interest rate swap agreement with KeyBank National Association with a notional amount of $30,000,000 of its variable rate debt to help mitigate the risk. The swap agreement is utilized to effectively fix the interest rate on this debt at 6.99%.
The information required by this Item 8 is hereby incorporated by reference to the Company’sour Financial Statements beginning on page F-1 of this Annual Report on Form 10-K.
None.
Evaluation of Disclosure Controls and Procedures
The Company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in its Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to the Company’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. Management necessarily applied its judgment in assessing the costs and benefits of such controls and procedures which, by their nature, can provide only reasonable assurance regarding management’s control objectives.
Because, as of December 31, 2005,2006, we did not meet the definition of “accelerated“accelerated filer,” as defined by Rule 12b-2 of the Exchange Act, we were not required to comply with Section 404 of the Sabanes-Oxley Act of 2002. Accordingly, we did not engage our independent registered public accounting firm to perform an audit of our internal controls over financial reporting. However, our independent registered public accounting firm, in the course of the audit of our financial statements, brought to management’smanagement’s attention two material weaknesses in our internal controls: (1) Inadequate controls and procedures in place to effectively identifymonitor and monitor amendments to lease agreementsrecord non-routine transactions and (2) Inadequate controls and procedures in place to effectively identifymanage certain spreadsheets that support the financial reporting process. Controls over completeness, accuracy, validity, and monitor tenant defaults where a lease commission has been recorded.review of, certain spreadsheet information that supports the financial reporting process were either not designed appropriately or did not operate as designed. As a result of these deficiencies, our accounting personnel may not be made aware of changes to lease agreementsprocess and tenant defaultsrecord transactions or compile data appropriately that requirerequires recognition in our financial accounting records. Accordingly, errors in our accounting for revenuecertain revenues and amortization expenseother profit and loss items may occur and may not be detected. A material weakness (within the meaning of the Public Accounting Oversight Board Accounting Standard No. 2) is a control deficiency, or aggregation of control deficiencies, that result in more than a remote risk that a material mistatement in the Company’sCompany’s annual or interim financial statements will not be prevented or detected.
As of the end of the period covered by this report, an evaluation was carried out under the supervision and with the participation of the Company’s management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures pursuant to Rule 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934 (the “Exchange Act”). Based upon that evaluation and the material weakness described above, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are not effective in timely alerting them to material information relating to the Company (including its consolidated subsidiaries) that is required to be included in the Company’s Exchange Act filings. The Company is in the process of remediating the material weaknesses and intends to engage an external consultant to assist management in establishing and maintaining adequate controls and remediating the identified material weaknesses.
Changes in Internal Controls
No change in our internal control over financial reporting occurred during the fourth fiscal quarter of the period covered by this annual report that materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
None.
We have adopted a Code of Business Conduct that applies to all of our executive officers and trustees, including but not limited to, our principal executive officer and principal financial officer. Our Code of Business Conduct may be found at our website, www.hartmanmanagement.com.
The other information required by this Item is incorporated by reference to the Company’s definitive proxy statement to be filed with the Securities and Exchange Commission no later than April 30, 2006.
Item 11. | Executive Compensation.
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The information required by this Item 10 of Form 10-K is incorporated herein by reference to such information as set forth in the Company’s definitive proxy statement to be filed with the Securities and Exchange Commission no later than April 30, 2006.for our 2007 annual meeting.
The information required by this Item 11 of Form 10-K is incorporated herein by reference to such information as set forth in the Company’s definitive proxy statement to be filed with the Securities and Exchange Commission no later than April 30, 2006.for our 2007 annual meeting.
The information required by this Item 12 of Form 10-K is incorporated herein by reference to such information as set forth in the Company’s definitive proxy statement to be filed with the Securitiesfor our 2007 annual meeting.
The information required by this Item 13 of Form 10-K is incorporated herein by reference to such information as set forth in the Company’s definitive proxy statement to be filed with the Securities and Exchange Commission no later than April 30, 2006.
for our 2007 annual meeting.
The information required by Item 14 of Form 10-K is incorporated herein by reference to such information as set forth in the proxy statement for our 2007 annual meeting.
Item 15.1. | Exhibits and Financial Statement Schedules.Statements
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(a) List of Documents Filed.
| 1. | Financial Statements. The list of the Company’sour financial statements filed as part of this Annual Report on Form 10-K is set forth on page F-1 herein. |
| 2. | Financial Statement Schedules. See (c) below.Schedules. |
a. Schedule II -– Valuation and Qualifying Amounts
b. Schedule III -– Real Estate and Accumulated Depreciation
| 3. | Exhibits. The list of exhibits filed as part of this Annual Report on Form 10-K in response to Item 601 of Regulation S-K is submitted on the Exhibit Index attached hereto. |
(b) Exhibits.
The exhibits filed in response to Item 601 of Regulation S-K are listed on the Exhibit Index attached hereto.
(c) Financial Statement Schedules.
| 1. | Schedule II - Valuation and Qualifying Amounts |
| 2. | Schedule III - Real Estate and Accumulated Depreciation |
All other financial statement schedules have been omitted because the required information of such schedules is not present, is not present in amounts sufficient to require a schedule or is included in the consolidated financial statements.
| 3. | Exhibits. The list of exhibits filed as part of this Annual Report on Form 10-K in response to Item 601 of Regulation S-K is submitted on the Exhibit Index attached hereto. |
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.
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| | HARTMAN COMMERCIAL PROPERTIES REIT |
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Dated: March 31, 200630, 2007 | | /s/ Allen R. Hartman James C. Mastandrea |
| | Allen R. Hartman, President
James C. Mastandrea, Interim CEO and Trustee |
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENT, that each person whose signature appears below constitutes and appoints Allen R. HartmanJames C. Mastandrea and Terry L. Henderson,David K. Holeman, and each of them, acting individually, as his attorney-in-fact, each with full power of substitution and resubstitution, for him or her and in his or her name, place and stead, in any and all capacities, to sign any and all amendments to this Annual Report on Form 10-K, and to file the same, with all exhibits thereto, and other documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorneys-in-fact and agents, and each of them, full power and authority to do and perform each and every act and thing requisite and necessary to be done in connection therewith and about the premises, as fully to all intents and purposes as he or she might or could do in person, hereby ratifying and confirming all that said attorneys-in-fact and agents, or any of them, or their or his or her substitute or substitutes, may lawfully do or cause to be done by virtue hereof.
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.
March 31, 200630, 2007 | /s/ Allen R. Hartman |
| | /s/ James C. Mastandrea
Allen R. Hartman, PresidentJames C. Mastandrea, Interim CEO and Trustee
(Principal Executive Officer) |
| | (Principal Executive Officer) |
| | |
March 31, 200630, 2007 | /s/ Terry Henderson |
| | /s/ David K. Holeman
Terry Henderson,David K. Holeman, Chief Financial Officer and Trustee
|
| (Principal Financial and Principal Accounting Officer) |
| | |
March 31, 200630, 2007 | | /s/ Chris A. Minton |
|
Chris A. Minton, Trustee |
| | |
March 31, 200630, 2007 | | /s/ Jack L. Mahaffey |
|
Jack L. Mahaffey, Trustee |
| | |
March 31, 200630, 2007 | | /s/ Chand Vyas |
|
Chand Vyas, Trustee |
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
| | Page |
| F-1F-2 |
| F-2F-3 |
| F-4F-5 |
| F-5F-6 |
| F-6F-7 |
| F-7F-8 |
| F-28F-32 |
| F-29F-33 |
All other schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions or are inapplicable, and therefore have been omitted.
To the Board of Trustees and Shareholders of
Hartman Commercial Properties REIT
We have audited the accompanying consolidated balance sheets of Hartman Commercial Properties REIT and subsidiary (the “Company”) as of December 31, 20052006 and 2004,2005, and the related consolidated statements of income, shareholders’ equity and cash flows, for each of the three years in the period ended December 31, 2005.2006. In connection with our audits of the consolidated financial statements, we have also audited the financial statement schedules as listed in the accompanying index. These consolidated financial statements and financial statement schedules are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and financial statement schedules based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the auditaudits to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purposes of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Hartman Commercial Properties REIT and subsidiary as of December 31, 20052006 and 2004,2005, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 20052006 in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedules, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly, in all material respects, the information set forth therein.
As discussed in Note 7 to the consolidated financial statements, the Company is in default of the declared dividends covenant in its revolving credit facility. Management is currently negotiating a waiver of this event of default, however, there is no assurance that a waiver will be obtained.
/s/ PANNELL KERR FORSTER OF TEXAS, P.C.
Houston, Texas
February 17, 2006, except for Note 11, the date of which is
March 9, 2006, and Note 7, the date of which is
March 31, 200627, 2007
Hartman Commercial Properties REIT and Subsidiary
Consolidated Balance Sheets
| | | December 31, | |
| | | 2005 | | 2004 | |
| | | | | | |
| Assets | | | |
| | | | | | |
| Real estate | | | | | | | |
| Land | | $ | 32,770,566 | | $ | 28,446,210 | |
| Buildings and improvements | | | 141,018,810 | | | 113,551,420 | |
| | | | | | | | |
| | | | 173,789,376 | | | 141,997,630 | |
| | | | | | | | |
| Less accumulated depreciation | | | (19,824,386 | ) | | (15,450,416 | ) |
| | | | | | | | |
Real estate, net | | | 153,964,990 | | | 126,547,214 | |
| | | | | | | | |
| Cash and cash equivalents | | | 848,998 | | | 631,978 | |
| | | | | | | | |
| Escrows and acquisition deposits | | | 5,307,663 | | | 4,978,362 | |
| | | | | | | | |
| Note receivable | | | 628,936 | | | 655,035 | |
| | | | | | | | |
| Receivables | | | | | | | |
| Accounts receivable, net of allowance for doubtful accounts of $472,875 and $342,690 in 2005 and 2004, respectively | | | 1,248,985 | | | 1,008,621 | |
| Accrued rent receivable | | | 2,593,060 | | | 2,594,933 | |
| Due from affiliates | | | 3,180,663 | | | 3,300,202 | |
| | | | | | | | |
Receivables, net | | | 7,022,708 | | | 6,903,756 | |
| | | | | | | | |
| Deferred costs, net | | | 3,004,218 | | | 2,797,294 | |
| | | | | | | | |
| Prepaid expenses and other assets | | | 684,536 | | | 103,301 | |
| | | | | | | | |
| Total assets | | $ | 171,462,049 | | $ | 142,616,940 | |
See notes to consolidated financial statements.
Hartman Commercial Properties REIT and Subsidiary CONSOLIDATED BALANCE SHEETS
( in thousands)
Consolidated Balance Sheets (continued)| | | December 31, | |
| | | 2005 | | 2004 | |
| | | | | | |
| Liabilities and Shareholders’ Equity | |
| | | | | | |
| Liabilities | | | | | | | |
| Notes payable | | $ | 73,025,535 | | $ | 57,226,111 | |
| Accounts payable and accrued expenses | | | 4,063,126 | | | 3,354,610 | |
| Due to affiliates | | | 350,865 | | | 675,861 | |
| Tenants’ security deposits | | | 1,440,864 | | | 1,066,147 | |
| Prepaid rent | | | 470,248 | | | 254,765 | |
| Offering proceeds escrowed | | | 1,559,439 | | | 1,471,696 | |
| Dividends payable | | | 1,525,460 | | | 1,230,281 | |
Other liabilities | | | 1,026,914 | | | 1,019,363 | |
| | | | | | | | |
Total liabilities | | | 83,462,451 | | | 66,298,834 | |
| | | | | | | | |
| Minority interests of unit holders in Operating Partnership, 5,808,337 units at December 31, 2005 and 2004 | | | 34,272,074 | | | 36,489,114 | |
| | | | | | | | |
| Commitments and contingencies | | | — | | | — | |
| | | | | | | | |
| Shareholders’ equity | | | | | | | |
| Preferred shares, $0.001 par value per share; 50,000,000 shares authorized; none issued and outstanding at December 31, 2005 and 2004 | | | — | | | — | |
| Common shares, $0.001 par value per share; 400,000,000 shares authorized; 8,913,654 and 7,010,146 issued and outstanding at December 31, 2005 and 2004, respectively | | | 8,914 | | | 7,010 | |
| Additional paid-in capital | | | 62,560,077 | | | 45,527,152 | |
| Accumulated deficit | | | (8,841,467 | ) | | (5,705,170 | ) |
| | | | | | | | |
Total shareholders’ equity | | | 53,727,524 | | | 39,828,992 | |
| | | | | | | | |
| | | | | | | | |
| Total liabilities and shareholders’ equity | | $ | 171,462,049 | | $ | 142,616,940 | |
| | | December 31, | |
| | | 2006 | | 2005 | |
| Assets | | | | | |
| | | | | | |
| Real estate | | | | | |
| Land | | $ | 32,662 | | $ | 32,770 | |
| Buildings and improvements | | | 141,196 | | | 141,019 | |
| | | | 173,858 | | | 173,789 | |
| Less accumulated depreciation | | | (24,259 | ) | | (19,824 | ) |
| Real estate, net | | | 149,599 | | | 153,965 | |
| | | | | | | | |
| Cash and cash equivalents | | | 8,298 | | | 849 | |
| | | | | | | | |
| Escrows and acquisition deposits | | | 382 | | | 5,308 | |
| | | | | | | | |
| Note receivable | | | 604 | | | 629 | |
| | | | | | | | |
| Receivables | | | | | | | |
| Accounts receivable, net of allowance for doubtful accounts | | | 1,727 | | | 1,249 | |
| Accrued rent receivable | | | 3,035 | | | 2,593 | |
| Due from affiliates | | | — | | | 3,181 | |
| | | | | | | | |
| Receivables, net | | | 4,762 | | | 7,023 | |
| | | | | | | | |
| Deferred costs, net | | | 2,890 | | | 3,004 | |
| | | | | | | | |
| Prepaid expenses and other assets | | | 552 | | | 684 | |
| | | | | | | | |
| Total assets | | $ | 167,087 | | $ | 171,462 | |
See notes to consolidated financial statements.
Hartman Commercial Properties REIT and Subsidiary
CONSOLIDATED BALANCE SHEETS
Consolidated Statements of Income( in thousands except share data)
| | | December 31, | |
| | | 2006 | | 2005 | |
| Liabilities and Shareholders’ Equity | | | | | |
| | | | | | |
| Liabilities | | | | | |
| Notes payable | | $ | 66,363 | | $ | 73,025 | |
| Accounts payable and accrued expenses | | | 5,398 | | | 4,063 | |
| Due to affiliates | | | 103 | | | 351 | |
| Tenants’ security deposits | | | 1,455 | | | 1,441 | |
| Prepaid rent | | | 745 | | | 470 | |
| Offering proceeds escrowed | | | | | | 1,560 | |
| Dividends payable | | | 1,495 | | | 1,525 | |
| Distributions payable | | | 905 | | | 1,027 | |
| | | | | | | | |
| Total liabilities | | | 76,464 | | | 83,462 | |
| | | | | | | | |
| Minority interests of unit holders in Operating Partnership; | | | | | | | |
| 5,808,337 units at December 31, 2006 and 2005 | | | 31,709 | | | 34,272 | |
| | | | | | | | |
| Shareholders’ equity | | | | | | | |
| Preferred shares, $0.001 par value per share; 50,000,000 | | | | | | | |
| shares authorized; none issued and outstanding | | | | | | | |
| at December 31, 2006 and 2005 | | | | | | | |
| Common shares, $0.001 par value per share; 400,000,000 | | | | | | | |
| shares authorized; 9,974,362 and 8,913,654 issued and | | | | | | | |
| oustanding at December 31, 2006 and 2005, respectively | | | 10 | | | 9 | |
| Additional paid-in-capital | | | 72,012 | | | 62,560 | |
| Accumulated deficit | | | (13,108 | ) | | (8,841 | ) |
| | | | | | | | |
| Total shareholders’ equity | | | 58,914 | | | 53,728 | |
| | | | | | | | |
| Total liabilities and shareholders’ equity | | $ | 167,087 | | $ | 171,462 | |
| | | Year Ended December 31, | |
| | | 2005 | | 2004 | | 2003 | |
| | | | | | | | |
| Revenues | | | | | | | | | | |
| Rental income | | $ | 20,072,597 | | $ | 18,426,558 | | $ | 16,656,340 | |
| Tenants’ reimbursements | | | 4,634,715 | | | 4,612,408 | | | 3,948,821 | |
| Interest and other income | | | 511,921 | | | 444,691 | | | 367,790 | |
| | | | | | | | | | | |
Total revenues | | | 25,219,233 | | | 23,483,657 | | | 20,972,951 | |
| | | | | | | | | | | |
| Expenses | | | | | | | | | | |
| Operation and maintenance | | | 3,227,481 | | | 2,838,618 | | | 2,505,756 | |
| Interest expense | | | 3,769,636 | | | 2,664,135 | | | 1,323,378 | |
| Real estate taxes | | | 2,980,709 | | | 2,595,346 | | | 2,050,738 | |
| Insurance | | | 455,577 | | | 459,801 | | | 509,498 | |
| Electricity, water and gas utilities | | | 1,587,439 | | | 817,484 | | | 805,772 | |
Management and partnership and asset management fees to an affiliate | | | 1,405,587 | | | 1,339,822 | | | 1,232,127 | |
| General and administrative | | | 1,224,946 | | | 1,139,060 | | | 1,065,416 | |
| Depreciation | | | 4,373,970 | | | 3,986,136 | | | 3,728,925 | |
| Amortization | | | 1,724,905 | | | 1,237,286 | | | 1,029,122 | |
| Bad debt expense (recoveries) | | | 130,185 | | | (8,060 | ) | | 213,250 | |
| | | | | | | | | | | |
Total operating expenses | | | 20,880,435 | | | 17,069,628 | | | 14,463,982 | |
| | | | | | | | | | | |
| Income before minority interests | | | 4,338,798 | | | 6,414,029 | | | 6,508,969 | |
| | | | | | | | | | | |
| Minority interests in Operating Partnership | | | (1,890,616 | ) | | (2,990,410 | ) | | (3,034,795 | ) |
| | | | | | | | | | | |
| Net income | | $ | 2,448,182 | | $ | 3,423,619 | | $ | 3,474,174 | |
| | | | | | | | | | | |
| Net income per common share | | $ | 0.310 | | $ | 0.488 | | $ | 0.496 | |
| | | | | | | | | | | |
| Weighted-average shares outstanding | | | 7,887,749 | | | 7,010,146 | | | 7,010,146 | |
| | | | | | | | | | | |
See notes to consolidated financial statements.
Hartman Commercial Properties REIT and Subsidiary CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except per share data)
| | | Year Ended December 31, | |
| | | 2006 | | 2005 | | 2004 | |
| Revenues | | | | | | | |
| Rental income | | $ | 24,644 | | $ | 20,073 | | $ | 18,427 | |
| Tenants’ reimbursements | | | 4,944 | | | 4,635 | | | 4,612 | |
| Other income | | | 252 | | | 211 | | | 240 | |
| | | | | | | | | | | |
| Total revenues | | | 29,840 | | | 24,919 | | | 23,279 | |
| | | | | | | | | | | |
| Operating expenses | | | | | | | | | | |
| Property operation and maintenance | | | 4,258 | | | 3,227 | | | 2,839 | |
| Real estate taxes | | | 3,775 | | | 2,981 | | | 2,595 | |
| Insurance | | | 589 | | | 456 | | | 460 | |
| Electricity, water and gas utilities | | | 2,305 | | | 1,587 | | | 818 | |
| Property management and asset | | | | | | | | | | |
| management fees to an affiliate | | | 1,482 | | | 1,406 | | | 1,340 | |
| General and administrative | | | 3,035 | | | 1,225 | | | 1,139 | |
| Depreciation | | | 5,265 | | | 4,374 | | | 3,986 | |
| Amortization | | | 1,211 | | | 1,725 | | | 1,237 | |
| Bad debt expense | | | 388 | | | 130 | | | (8 | ) |
| | | | | | | | | | | |
| Total operating expenses | | | 22,308 | | | 17,111 | | | 14,406 | |
| | | | | | | | | | | |
| Operating income | | | 7,532 | | | 7,808 | | | 8,873 | |
| | | | | | | | | | | |
| Other income (expense) | | | | | | | | | | |
| Interest income | | | 386 | | | 301 | | | 205 | |
| Interest expense | | | (5,296 | ) | | (3,770 | ) | | (2,664 | ) |
| Gain on sale of real estate | | | 197 | | | | | | | |
| Change in fair value of derivative instrument | | | 30 | | | | | | | |
| | | | | | | | | | | |
| Income before minority interests | | | 2,849 | | | 4,339 | | | 6,414 | |
| | | | | | | | | | | |
| Minority interests in Operating Partnership | | | (1,068 | ) | | (1,891 | ) | | (2,990 | ) |
| | | | | | | | | | | |
| Net income | | $ | 1,781 | | $ | 2,448 | | $ | 3,424 | |
| | | | | | | | | | | |
| Net income per common share | | $ | 0.185 | | $ | 0.310 | | $ | 0.488 | |
| | | | | | | | | | | |
| Weighted-average shares outstanding | | | 9,652 | | | 7,888 | | | 7,010 | |
Consolidated Statements of Changes in Shareholders’ Equity
| | | Common Stock | | | | | | | |
| | | Shares | | Amount | | Additional Paid-in Capital | | Accumulated Deficit | | Total | |
| | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | |
| Balance, December 31, 2002 | | | 7,010,146 | | $ | 7,010 | | $ | 45,527,152 | | $ | (2,785,244 | ) | $ | 42,748,918 | |
| | | | | | | | | | | | | | | | | |
| Net income | | | — | | | — | | | — | | | 3,474,174 | | | 3,474,174 | |
| | | | | | | | | | | | | | | | | |
| Dividends | | | — | | | — | | | — | | | (4,907,108 | ) | | (4,907,108 | ) |
| | | | | | | | | | | | | | | | | |
| Balance, December 31, 2003 | | | 7,010,146 | | | 7,010 | | | 45,527,152 | | | (4,218,178 | ) | | 41,315,984 | |
| | | | | | | | | | | | | | | | | |
| Net income | | | — | | | — | | | — | | | 3,423,619 | | | 3,423,619 | |
| | | | | | | | | | | | | | | | | |
| Dividends | | | — | | | — | | | — | | | (4,910,611 | ) | | (4,910,611 | ) |
| | | | | | | | | | | | | | | | | |
| Balance, December 31, 2004 | | | 7,010,146 | | | 7,010 | | | 45,527,152 | | | (5,705,170 | ) | | 39,828,992 | |
| | | | | | | | | | | | | | | | | |
Issuance of common stock for cash, net of $1,981,276 offering costs | | | 1,865,557 | | | 1,866 | | | 16,672,428 | | | — | | | 16,674,294 | |
| | | | | | | | | | | | | | | | | |
Issuance of shares under dividend reinvestment plan at $9.50 per share | | | 37,951 | | | 38 | | | 360,497 | | | — | | | 360,535 | |
| | | | | | | | | | | | | | | | | |
| Net income | | | — | | | — | | | — | | | 2,448,182 | | | 2,448,182 | |
| | | | | | | | | | | | | | | | | |
| Dividends | | | — | | | — | | | — | | | (5,584,479 | ) | | (5,584,479 | ) |
| | | | | | | | | | | | | | | | | |
| Balance, December 31, 2005 | | | 8,913,654 | | $ | 8,914 | | $ | 62,560,077 | | $ | (8,841,467 | ) | $ | 53,727,524 | |
| | | | | | | | | | | | | | | | | |
See notes to consolidated financial statements.
Hartman Commercial Properties REIT and Subsidiary CONSOLIDATED STATEMENTS OF CHANGES IN SHARHOLDERS’ EQUITY
(in thousands except per share data)
| | | | | | | Additional | | | | | |
| | | Common Shares | | Paid-in | | Accumulated | | | |
| | | Shares | | Amount | | Capital | | Deficit | | Total | |
| | | | | | | | | | | | |
| Balance, December 31, 2003 | | | 7,010 | | $ | 7 | | $ | 45,527 | | $ | (4,218 | ) | $ | 41,316 | |
| | | | | | | | | | | | | | | | | |
| Net income | | | | | | | | | | | | 3,424 | | | 3,424 | |
| | | | | | | | | | | | | | | | | |
| Dividends | | | | | | | | | | | | (4,911 | ) | | (4,911 | ) |
| | | | | | | | | | | | | | | | | |
| Balance, December 31, 2004 | | | 7,010 | | | 7 | | | 45,527 | | | (5,705 | ) | | 39,829 | |
| | | | | | | | | | | | | | | | | |
| Issuance of common stock for | | | | | | | | | | | | | | | | |
| cash, net of offering costs | | | 1,866 | | | 2 | | | 16,672 | | | | | | 16,674 | |
| | | | | | | | | | | | | | | | | |
| Issuance of shares under dividend | | | | | | | | | | | | | | | | |
| reinvestment plan at $9.50 per share | | | 38 | | | | | | 361 | | | | | | 361 | |
| | | | | | | | | | | | | | | | | |
| Net income | | | | | | | | | | | | 2,448 | | | 2,448 | |
| | | | | | | | | | | | | | | | | |
| Dividends | | | | | | | | | | | | (5,584 | ) | | (5,584 | ) |
| | | | | | | | | | | | | | | | | |
| Balance, December 31, 2005 | | | 8,914 | | | 9 | | | 62,560 | | | (8,841 | ) | | 53,728 | |
| | | | | | | | | | | | | | | | | |
| Issuance of common stock for | | | | | | | | | | | | | | | | |
| cash, net of offering costs | | | 960 | | | 1 | | | 8,501 | | | | | | 8,502 | |
| | | | | | | | | | | | | | | | | |
| Issuance of shares under dividend | | | | | | | | | | | | | | | | |
| reinvestment plan at $9.50 per share | | | 100 | | | | | | 951 | | | | | | 951 | |
| | | | | | | | | | | | | | | | | |
| Net income | | | | | | | | | | | | 1,781 | | | 1,781 | |
| | | | | | | | | | | | | | | | | |
| Dividends | | | | | | | | | | | | (6,048 | ) | | (6,048 | ) |
| | | | | | | | | | | | | | | | | |
| Balance, December 31, 2006 | | | 9,974 | | $ | 10 | | $ | 72,012 | | $ | (13,108 | ) | $ | 58,914 | |
Consolidated Statements of Cash Flows
| | | Year Ended December 31, | |
| | | 2005 | | 2004 | | 2003 | |
| | | | | | | | |
| Cash flows from operating activities: | | | | | | | | | | |
| Net income | | $ | 2,448,182 | | $ | 3,423,619 | | $ | 3,474,174 | |
| Adjustments to reconcile net income to net cash provided by operating activities | | | | | | | | | | |
| Depreciation | | | 4,373,970 | | | 3,986,136 | | | 3,728,925 | |
| Amortization | | | 1,724,905 | | | 1,237,286 | | | 1,029,122 | |
| Minority interests in Operating Partnership | | | 1,890,616 | | | 2,990,410 | | | 3,034,795 | |
| Equity in income of real estate partnership | | | — | | | (209,737 | ) | | — | |
| Bad debt expense (recoveries) | | | 130,185 | | | (8,060 | ) | | 213,250 | |
| Changes in operating assets and liabilities: | | | | | | | | | | |
| Escrows and acquisition deposits | | | (329,301 | ) | | (317,739 | ) | | (223,663 | ) |
| Receivables | | | (368,676 | ) | | (1,105,425 | ) | | (387,143 | ) |
| Due from affiliates | | | (205,457 | ) | | 297,810 | | | (939,038 | ) |
| Deferred costs | | | (1,588,018 | ) | | (952,756 | ) | | (978,398 | ) |
| Prepaid expenses and other assets | | | (590,978 | ) | | 352,586 | | | (15,336 | ) |
| Accounts payable and accrued expenses | | | 708,514 | | | 30,149 | | | 23,215 | |
| Tenants’ security deposits | | | 374,717 | | | 4,938 | | | (60,295 | ) |
| Prepaid rent | | | 215,483 | | | (198,656 | ) | | 88,828 | |
| | | | | | | | | | | |
| Net cash provided by operating activities | | | 8,784,142 | | | 9,530,561 | | | 8,988,436 | |
| | | | | | | | | | | |
| Cash flows used in investing activities: | | | | | | | | | | |
| Additions to real estate | | | (31,791,746 | ) | | (10,276,996 | ) | | (8,242,179 | ) |
| Investment in real estate partnership | | | — | | | (9,033,561 | ) | | — | |
| Distributions received from real estate partnership | | | 9,743 | | | 9,233,555 | | | — | |
| Issuance of note receivable | | | — | | | — | | | (290,000 | ) |
| Collections of note receivable | | | 26,099 | | | 31,968 | | | 22,997 | |
| | | | | | | | | | | |
| Net cash used in investing activities | | | (31,755,904 | ) | | (10,045,034 | ) | | (8,509,182 | ) |
| | | | | | | | | | | |
| Cash flows from financing activities: | | | | | | | | | | |
| Dividends paid | | | (5,289,300 | ) | | (4,907,107 | ) | | (4,907,108 | ) |
| Distributions paid to OP unit holders | | | (4,100,105 | ) | | (4,065,839 | ) | | (4,065,840 | ) |
| Proceeds from stock offering | | | 17,034,829 | | | 1,471,696 | | | — | |
| Proceeds from stock offering escrowed | | | 87,743 | | | (1,471,974 | ) | | — | |
| Proceeds from notes payable | | | 46,725,322 | | | 19,013,180 | | | 6,353,182 | |
| Proceeds from payment of note payable to affiliate | | | — | | | — | | | (3,278,000 | ) |
| Repayments of notes payable | | | (30,925,898 | ) | | (9,430,029 | ) | | — | |
| Payments of loan origination costs | | | (343,809 | ) | | (42,163 | ) | | (94,500 | ) |
| | | | | | | | | | | |
| Net cash provided by (used in) financing activities | | | 23,188,782 | | | 567,764 | | | (5,992,266 | ) |
| | | | | | | | | | | |
| Net increase (decrease) in cash | | | 217,020 | | | 53,291 | | | (5,513,012 | ) |
| | | | | | | | | | | |
| Cash and cash equivalents at beginning of year | | | 631,978 | | | 578,687 | | | 6,091,699 | |
| | | | | | | | | | | |
| Cash and cash equivalents at end of year | | $ | 848,998 | | $ | 631,978 | | $ | 578,687 | |
| Supplemental disclosure of cash flow information | | | | | | | | | | |
| | | | | | | | | | | |
| Debt assumed in connection with acquisition of properties | | $ | — | | $ | — | | $ | 6,550,000 | |
| | | | | | | | | | | |
See notes to consolidated financial statements.
Hartman Commercial Properties REIT and Subsidiary CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
| | | Year Ended December 31, | |
| | | 2006 | | 2005 | | 2004 | |
| Cash flows from operating activities: | | | | | | | |
| Net income | | $ | 1,781 | | $ | 2,448 | | $ | 3,424 | |
| Adjustments to reconcile net income to | | | | | | | | | | |
| net cash provided by operating activities: | | | | | | | | | | |
| Depreciation | | | 5,265 | | | 4,374 | | | 3,986 | |
| Amortization | | | 1,211 | | | 1,725 | | | 1,237 | |
| Minority interests in Operating Partnership | | | 1,068 | | | 1,891 | | | 2,990 | |
| Equity in income of real estate partnership | | | | | | — | | | (210 | ) |
| Gain on sale of real estate | | | (197 | ) | | — | | | — | |
| Bad debt expense (recoveries) | | | 388 | | | 130 | | | (8 | ) |
| Change in fair value of derivative instrument | | | 30 | | | — | | | — | |
| Changes in operating assets and liabilities: | | | | | | | | | | |
| Escrows and acquisition deposits | | | 4,896 | | | (329 | ) | | (318 | ) |
| Receivables | | | (1,308 | ) | | (369 | ) | | (1,105 | ) |
| Due from affiliates | | | 2,933 | | | (205 | ) | | 298 | |
| Deferred costs | | | (977 | ) | | (1,588 | ) | | (953 | ) |
| Prepaid expenses and other assets | | | 132 | | | (591 | ) | | 353 | |
| Accounts payable and accrued expenses | | | 1,335 | | | 709 | | | 30 | |
| Tenants’ security deposits | | | 14 | | | 374 | | | 5 | |
| Prepaid rent | | | 275 | | | 215 | | | (199 | ) |
| Net cash provided by operating activities | | | 16,846 | | | 8,784 | | | 9,530 | |
| | | | | | | | | | | |
| Cash flows from investing activities: | | | | | | | | | | |
| Additions to real estate | | | (2,055 | ) | | (31,792 | ) | | (10,277 | ) |
| Proceeds from sale of real estate | | | 1,065 | | | — | | | — | |
| Proceeds from legal settlement | | | 288 | | | — | | | — | |
| Investment in real estate partnership | | | | | | — | | | (9,034 | ) |
| Distributions received from real estate partnership | | | — | | | 10 | | | 9,234 | |
| Repayment of note receivable | | | 25 | | | 26 | | | 32 | |
| | | | | | | | | | | |
| Net cash used in investing activities | | | (677 | ) | | (31,756 | ) | | (10,045 | ) |
| | | | | | | | | | | |
| Cash flows from financing activities: | | | | | | | | | | |
| Dividends paid | | | (6,078 | ) | | (5,289 | ) | | (4,907 | ) |
| Distributions paid to OP unit holders | | | (3,753 | ) | | (4,100 | ) | | (4,066 | ) |
| Proceeds from issuance of common shares | | | 9,453 | | | 17,035 | | | 1,472 | |
| Increase (decrease) in stock offering proceeds escrowed | | | (1,560 | ) | | 88 | | | (1,472 | ) |
| Proceeds from notes payable | | | 35,281 | | | 46,725 | | | 19,013 | |
| Repayments of notes payable | | | (41,943 | ) | | (30,926 | ) | | (9,430 | ) |
| Payments of loan origination costs | | | (120 | ) | | (344 | ) | | (42 | ) |
| | | | | | | | | | | |
| Net cash provided by (used in) financing activities | | | (8,720 | ) | | 23,189 | | | 568 | |
| | | | | | | | | | | |
| Net increase in cash and cash equivalents | | | 7,449 | | | 217 | | | 53 | |
| | | | | | | | | | | |
| Cash and cash equivalents at beginning of period | | | 849 | | | 632 | | | 579 | |
| | | | | | | | | | | |
| Cash and cash equivalents at end of period | | $ | 8,298 | | $ | 849 | | $ | 632 | |
| | | | | | | | | | | |
| Supplemental disclosure of cash flow information | | | | | | | | | | |
| Disposal of fully depreciated real estate | | $ | 570 | | $ | — | | $ | — | |
| | | | | | | | | | | |
| Cash paid for interest | | $ | 4,981 | | $ | 3,788 | | $ | 2,729 | |
See notes to consolidated financial statements.
Hartman Commercial Properties REIT and Subsidiary Notes to Consolidated Financial Statements
December 31, 2005
Note 1 -– Summary of Significant Accounting Policies
Description of business and nature of operations
Hartman Commercial Properties REIT (“HCP”) was formed as a real estate investment trust, pursuant to the Texas Real Estate Investment Trust Act on August 20, 1998 to consolidate and expand the real estate investment strategy of Allen R. Hartman (“Hartman”) in acquiring and managing office and retail properties.1998. In July 2004, HCPwe changed itsour state of organization from Texas to Maryland pursuant to a merger of HCP directly with and into a Maryland real estate investment trust formed for the sole purpose of the reorganization and the conversion of each outstanding common share of beneficial interest of the Texas entity into 1.42857 common shares of beneficial interest of the Maryland entity (see Note 11). Hartman, HCP’s Chairman of the Board of Trustees, has been engaged in the ownership, acquisition, and management of commercial properties in the Houston, Texas, metropolitan area for over 20 years. HCP servesentity. We serve as the general partner of Hartman REIT Operating Partnership, L.P. (the “Operating Partnership” or “HROP” or “OP”), which was formed on December 31, 1998 as a Delaware limited partnership. HCP and the Operating Partnership are collectively referred to herein as the “Company.” HCPWe currently conductsconduct substantially all of itsour operations and activities through the Operating Partnership. As the general partner of the Operating Partnership, HCP haswe have the exclusive power to manage and conduct the business of the Operating Partnership, subject to certain customary exceptions. Hartman Management, L.P. (the “Management Company”), a company wholly owned by Hartman, provides a full range of real estate services for the Company, including leasing and property management, accounting, asset management and investor relations. As of December 31, 2006, 2005 and 2004, and 2003, the Companywe owned and operated 36, 37 and 34 retail, warehouse and 33 office and retail properties, respectively, in and around Houston, Dallas and San Antonio, Texas.Texas metropolitan areas.
Basis of consolidation
HCP isWe are the sole general partner of the Operating Partnership and possessespossess full legal control and authority over the operations of the Operating Partnership. As of December 31, 2006 and 2005, HCPwe owned a majority of the partnership interests in the Operating Partnership. Consequently, the accompanying consolidated financial statements of HCP include the accounts of the Operating Partnership. All significant intercompanyinter-company balances have been eliminated. Minority interest in the accompanying consolidated financial statements represents the share of equity and earnings of the Operating Partnership allocable to holders of partnership interests other than the Company.us. Net income is allocated to minority interests based on the weighted-average percentage ownership of the Operating Partnership during the year. Issuance of additional common shares of beneficial interest in HCP (“common shares”) and units of limited partnership interest in the Operating Partnership (“OP Units”) changes the ownership interests of both the minority interests and HCP.
Basis of accounting
TheOur financial records of the Company are maintained on the accrual basis of accounting whereby revenues are recognized when earned and expenses are recorded when incurred.
Reclassifications
We have reclassified certain prior fiscal year amounts in the accompanying consolidated financial statements in order to be consistent with the current fiscal year presentation. These reclassifications had no effect on net income or shareholders equity.
Cash and cash equivalents
The Company considersWe consider all highly liquid debt instruments purchased with an original maturity of three months or less to be cash equivalents. Cash and cash equivalents at December 31, 20052006 and 20042005 consist of demand deposits at commercial banks and money market funds.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2005
2006
Note 1 -– Summary of Significant Accounting Policies (Continued)
Due from affiliates
Due from affiliates includeat December 31, 2005, includes amounts owed to the Companyus from Hartman operated limited partnerships and other entities.entities affiliated with Hartman Management, L.P. (“Hartman Management”) our former manager and adviser. In December 2006, a note receivable of approximately $3.5 million was paid in full by a limited partnership affiliated with Hartman Management.
Escrows and acquisition deposits
Escrow deposits include escrows established pursuant to certain mortgage financing arrangements for real estate taxes, insurance, maintenance and capital expenditures. Escrow deposits also include theexpenditures and escrow of proceeds of the Public Offering until investors are admitted as shareholders asour public offering described in Note 11. The balance in the Public Offering escrow account was $1,559,439 at December 31, 2005 as follows:
| Gross offering proceeds | | $ | 1,560,100 | |
| Less discounts | | | (661 | ) |
| Balance in escrow account at December 31, 2005 | | $ | 1,559,439 | |
12 prior to shares being issued for those proceeds. Acquisition deposits include earnest money deposits on future acquisitions.
Real estate
Real estate properties are recorded at cost, net of accumulated depreciation. Improvements, major renovations, and certain costs directly related to the acquisition, improvement, and leasing of real estate are capitalized. Expenditures for repairs and maintenance are charged to operations as incurred. Depreciation is computed using the straight-line method over the estimated useful lives of 5 to 39 years for the buildings and improvements. Tenant improvements are depreciated using the straight-line method over the life of the lease.
Management reviews itsour properties for impairment annually or whenever events or changes in circumstances indicate that the carrying amount of the assets, including accrued rental income, may not be recoverable through operations. Management determines whether an impairment in value has occurred by comparing the estimated future cash flows (undiscounted and without interest charges), including the estimated residual value of the property, with the carrying cost of the property. If impairment is indicated, a loss will be recorded for the amount by which the carrying value of the property exceeds its fair value. Management has determined that there has been no impairment in the carrying value of the Company’sour real estate assets as of December 31, 2005.2006.
Deferred costs
Deferred costs consist primarily of leasing commissions paid to theHartman Management, Companyour former investment adviser, external brokers and deferred financing costs.in-house leasing agents. Leasing commissions are amortized using the straight-line method over the terms of the related lease agreements. Deferred financing costs are amortized on the straight-line method over the terms of the loans, which approximates the interest method. Costs allocated to in-place leases whose terms differ from market terms related to acquired properties are amortized over the remaining life of the respective leases.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2005
Note 1 - Summary of Significant Accounting Policies (Continued)
Offering costs
Offering costs include selling commissions, issuance costs, investor relations fees and unit purchase discounts. These costs were incurred in the raising of capital through the sale of common shares and are treated as a reduction of shareholders’ equity.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2006
Note 1 – Summary of Significant Accounting Policies (Continued)
Revenue recognition
All leases on our properties held by the Company are classified as operating leases, and the related rental income is recognized on a straight-line basis over the terms of the related leases. Differences between rental income earned and amounts due per the respective lease agreements are capitalized or charged, as applicable, to accrued rent receivable. Percentage rents are recognized as rental income when the thresholds upon which they are based have been met. Recoveries from tenants for taxes, insurance, and other operating expenses are recognized as revenues in the period the corresponding costs are incurred. The Company providesWe have established an allowance for doubtful accounts against the portion of tenant accounts receivable which is estimated to be uncollectible.
Federal income taxes
HCP isWe are qualified as a real estate investment trust (“REIT”) under the Internal Revenue Code of 1986 and isare therefore not subject to Federal income taxes provided it meetswe meet all conditions specified by the Internal Revenue Code for retaining itsour REIT status. HCP believes it hasWe believe we have continuously met these conditions since reaching 100 shareholders in 1999 (see Note 9)10).
Use of estimates
The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Significant estimates used by the Companyus include the estimated useful lives for depreciable and amortizable assets and costs, and the estimated allowance for doubtful accounts receivable. Actual results could differ from those estimates.
Derivative instruments
We have initiated a program designed to manage exposure to interest rate fluctuations by entering into financial derivative instruments. The primary objective of this program is to comply with debt covenants on a credit facility. We entered into an interest rate swap agreement with respect to amounts borrowed under certain of our credit facilities, which effectively exchanges existing obligations to pay interest based on floating rates for obligations to pay interest based on fixed LIBOR rates.
Changes in the market value of the derivative instruments and in the market value of the hedged items are recorded in earnings each reporting period. For items that are appropriately classified as cash flow hedges in accordance with Statement of Financial Accounting Standards, (“SFAS”) No. 133, “Accounting forDerivative Instruments and Hedging Activities,” changes in the market value of the instrument and in the market value of the hedged item are recorded as other comprehensive income with the exception of the portion of the hedged items that are considered ineffective. The derivative instruments are reported at fair value as other assets or other liabilities as applicable. As of December 31, 2006, the fair value of this instrument is approximately $30,000 and is included in prepaid expenses and other assets in the consolidated balance sheet.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2006
Note 1 – Summary of Significant Accounting Policies (Continued)
Additionally, approximately $30,000 is included in other income on the consolidated statement of income for the year ended December 31, 2006.
Fair value of financial instruments
The Company’sOur financial instruments consist primarily of cash, cash equivalents, accounts receivable, and accounts and notes payable. The carrying value of cash, cash equivalents, accounts receivable and accounts payable are representative of their respective fair values due to the short-term nature of these instruments. The fair value of the Company’sour debt obligations is representative of its carrying value based upon current rates offered for similar types of borrowing arrangements.
Hartman Commercial Properties REIT The fair value of interest rate swaps (used for hedging purposes) is the estimated amount that the financial institution would receive or pay to terminate the swap agreements at the reporting date, taking into account current interest rates and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2005
Note 1 - Summarythe current credit worthiness of Significant Accounting Policies (Continued)the swap counterparties.
Concentration of risk
Substantially all of the Company’sour revenues are obtained from office, office-warehousewarehouse and retail locations in the Houston, Dallas and San Antonio, Texas metropolitan areas. The Company maintainsWe maintain cash accounts in major U.S. financial institutions. The terms of these deposits are on demand to minimize risk. The balances of these accounts occasionally exceed the federally insured limits, although no losses have been incurred in connection with such cash balances.these deposits.
Comprehensive income
The Company adopted Statement of Financial Accounting Standards (“SFAS”)We follow SFAS No. 130, “Reporting“Reporting Comprehensive Income” in 1999.Income,” which establishes standards for reporting and display of comprehensive income and its components. For the yearsperiods presented, the Companywe did not have significant amounts of other comprehensive income.
New accounting pronouncements
In December 2004,May 2005, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 123R, “Share Based Payment.” This statement requires companies to categorize share based payment as either liability or equity awards. For liability awards, companies will remeasure the award at fair value at each balance sheet date until the award is settled. Equity classified awards are measured at the grant-date fair value and are not remeasured. SFAS No. 123R is effective for interim or annual periods beginning after June 15, 2005. Awards issued, modified or settled after the effective date will be measured and recorded in accordance with SFAS No. 123R. On April 14, 2005, the SEC adopted a new rule that defers the effective date of SFAS No. 123R and allows companies to implement the provisions of SFAS 123R at the beginning of their next fiscal year. Management believes that the implementation of this standard will not have a material effect on the Company’s consolidated financial position or results of operations.
In December 2004, the FASB issued SFAS No. 153, “Accounting for Non-monetary Transactions.” This standard requires that non-monetary exchanges be accounted for at fair value, recognizing any gain or loss, if the transactions meet a commercial-substance criteria and fair value is determinable. SFAS No. 153 is effective for non-monetary transactions occurring in fiscal years beginning after June 15, 2005. Management believes that the implementation of this standard will not have a material effect on the Company’s consolidated financial position or results of operations.
In May 2005, the FASB issued SFAS No. 154 “Accounting“Accounting Changes and Error Corrections - A Replacement of APB Opinion No. 2 and FASB Statement No. 3.3”.This statement changes the requirements for the accounting for and reporting of a change in accounting principle. This statement applies to all voluntary changes in accounting principle.principles. It also applies to changes required by an accounting pronouncement in the unusual instance that the pronouncement does not include specific transition provisions. When a pronouncement includes specific transition provisions, those provisions should be followed. This statement is effective for fiscal years beginning after December 15, 2005 and isdid not expected to have a material impact on the Company’sour consolidated financial statements.
In February 2006, the FASB issued SFAS No. 155, “Accounting for Certain Hybrid FinancialInstruments- an amendment of FASB Statements No. 133 and 140” (“SFAS 155”). This statement will be effective beginning the first quarter of 2007. Earlier adoption is permitted. The statement permits interests in hybrid financial assets that contain an embedded derivative that would require bifurcation to be accounted for as a single financial instrument at fair value with changes in fair value recognized in earnings. This election is permitted on an instrument-by-instrument basis for all hybrid financial instruments held, obtained, or issued as of the adoption date. We are currently assessing the impact of adoption of SFAS 155.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2005
2006
Note 1 – Summary of Significant Accounting Policies (Continued)
New accounting pronouncements (continued)
In March 2006, the FASB issued SFAS No. 156, “Accounting for Servicing of Financial Assets - anamendment of FASB Statement No. 140,” (“SFAS 156”), which permits entities to elect to measure servicing assets and servicing liabilities at fair value and report changes in fair value in earnings. Adoption of SFAS 156 is required for financial periods beginning after September 15, 2006. We are currently assessing the impact and timing of adoption of SFAS 156 but do not expect the standard to have a material impact on our consolidated financial statements.
In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS 157”). SFAS 157 defines fair value, establishes a framework for measuring fair value under U.S. generally accepted accounting principles and requires enhanced disclosures about fair value measurements. It does not require any new fair value measurements. SFAS 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years. We are currently assessing whether to early adopt SFAS 157 as of the first quarter of fiscal 2007 as permitted, and are currently evaluating the impact adoption may have on our consolidated financial statements.
In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities—Including an amendment of FASB Statement No. 115” (“SFAS 159”). SFAS 159 permits entities to choose to measure many financial instruments and certain other items at fair value. The objective is to improve financial reporting by providing entities with the opportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions. SFAS 159 is effective for financial statements issued for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years. We are currently assessing whether to early adopt SFAS 159 as of the first quarter of fiscal 2007 as permitted, and are currently evaluating the impact adoption may have on our consolidated financial statements.
Note 2 -– Interest Rate Swap
Effective March 16, 2006, we executed an interest rate swap used to mitigate the risks associated with adverse movements in interest rates which might affect expenditures. We have not designated this derivative contract as a hedge, and as such, the change in the fair value of the derivative is recognized currently in earnings. This derivative instrument has a total notional amount of $30 million, is at a fixed rate of 5.09% plus the LIBOR margin (see Note 8), and matures monthly through March, 2008. As of December 31, 2006, the fair value of this instrument is approximately $30,000 and is included in prepaid expenses and other assets in our consolidated balance sheet and other income in our consolidated statement of income.
Note 3 – Real Estate
During 2003, the Company acquired from an unrelated party one multi-tenant retail center comprising approximately 192,458 square feet of GLA. The property was acquired for cash and assumption of debt of $6,550,000 for a total consideration of approximately $13,100,000.
During 2004, the Companywe acquired from an unrelated party one multi-tenant retail center comprising approximately 95,032 square feet of GLA.gross leasable area. The property was acquired for cash in the amount of approximately $8,900,000.$8.9 million.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2006
Note 3 – Real Estate (Continued)
During 2005, the Companywe acquired from an unrelated party one multi-tenant office building comprising approximately 106,169 square feet of GLA.gross leasable area. The property was acquired for cash in the amount of approximately $5,500,000$5.5 million plus closing costs.
On August 10,During 2005, the Companywe acquired from an unrelated party one multi-tenant office building comprising approximately 125,874 square feet of GLA.gross leasable area. The property was acquired for cash in the amount of approximately $7,980,000$8.0 million plus closing costs.
On November 22,During 2005, the Companywe acquired from an unrelated party one multi-tenant office building comprising approximately 253,981 square feet of GLA.gross leasable area. The property was acquired for cash in the amount of approximately $16,950,000$17.0 million plus closing costs.
The purchase prices the Companywe paid for the properties were determined by, among other procedures, estimating the amount and timing of expected cash flows from the acquired properties, discounted at market rates. This process in general also results in the assessment of fair value for each property.
The Company allocatesWe allocate the purchase price of real estate to the acquired tangible assets, consisting of land, building and tenant improvements, and identified intangible assets and liabilities, generally consisting of the value of above-market and below-market leases, other value of in-place leases and value of tenant relationships, based in each case on our management’s estimates of their fair values.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2005
Note 2 - Real Estate (Continued)
ManagementOur management estimates the fair value of acquired tangible assets by valuing the acquired property as if it were vacant. The “as-if-vacant” value (limited to the purchase price) is allocated to land, building, and tenant improvements based on management’s determination of the relative fair values of these assets.
Above-marketWe record above-market and below-market in-place lease values for owned properties are recorded based on the present value (using an interest rate which reflects the risks associated with the leases acquired) of the difference between (i) the contractual amounts to be paid pursuant to the in-place leases and (ii) management’s estimate of fair market lease rates for the corresponding in-place leases, measured over a period equal to the remaining non-cancelable term of the lease. The capitalized above-market lease values are amortized as a reduction of rental income over the remaining non-cancelable terms of the respective leases. The capitalized below-market lease values are amortized as an increase to rental income over the initial term and any fixed-rate renewal periods in the respective leases.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2006
Note 3 – Real Estate (Continued)
We measure the aggregate value of other intangible assets acquired is measured based on the difference between (i) the property valued with existing in-place leases adjusted to market rental rates and (ii) the property valued as if vacant. Management’sOur management’s estimates of value are made using methods similar to those used by independent appraisers, primarily discounted cash flow analysis. Factors considered by our management in its analysis include an estimate of carrying costs during hypothetical expected lease-up periods considering current market conditions, and costs to execute similar leases. The CompanyWe also considersconsider information obtained about each property as a result of itsour pre-acquisition due diligence, marketing and leasing activities in estimating the fair value of the tangible and intangible assets acquired. In estimating carrying costs, our management also includes real estate taxes, insurance and other operating expenses and estimates of lost rentals at market rates during the expected lease-up periods, which generally range from four to 18eighteen months, depending on specific local market conditions. ManagementOur management also estimates costs to execute similar leases including leasing commissions, legal and other related expenses to the extent that suchthese costs are not already incurred in connection with a new lease origination as part of the transaction.
The total amount of other intangible assets acquired is further allocated to in-place lease values and customer relationship intangible values based on our management’s evaluation of the specific characteristics of each tenant’s lease and the Company’sour overall relationship with that respective tenant. Characteristics considered by our management in allocating these values include the nature and extent of the Company’sour existing business relationships with the tenant, growth prospects for developing new business with the tenant, the tenant’s credit quality, and expectations of lease renewals (including those existing under the terms of the lease agreement), among other factors.
The value of in-place leases, if any, is amortized to expense over the remaining initial term of the respective leases, which, for leases with allocated intangible value, are expected to range generally from five to 10ten years. The value of customer relationship intangibles is amortized to expense over the remaining initial term and any renewal periods in the respective leases, but in no event does the amortization period for intangible assets exceed the remaining depreciable life of the building. Should a tenant terminate its lease, the unamortized portion of the in-place lease value and customer relationship intangibles are charged to expense.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
On December 1, 2006, we sold Northwest Place II, a 27,974 square foot office/warehouse building located in Houston, Texas for a sales price of $1,175,000. A gain of $197,000 was generated from this sale, which is reflected in our consolidated financial statements for the year ended December 31, 2005
Note 2 - Real Estate (Continued)2006. It is anticipated that the funds received from this sale will be used for future acquisitions and/or capital improvements to existing properties. It was determined that “discontinued operations” classification was not required due to the immateriality of this property to our overall results.
At December 31, 2005, the Company2006, we owned 3736 commercial properties in the Houston, Dallas and San Antonio, Texas areas comprising approximately 3,121,0003,093,000 square feet of GLA.gross leasable area.
Note 3 - Investment in Real Estate Partnership
Hartman Commercial Properties REIT and Subsidiary
During January 2004, the Company contributed approximately $9,000,000Notes to Hartman Gulf Plaza Acquisitions LP, a Texas limited partnership, in which it is a limited partner with a 73.11% percentage interest. On January 30, 2004, the partnership purchased Gulf Plaza, a 120,651 square foot office building located in Houston, Texas. The purpose of the partnership is to acquire and sell tenant-in-common interests in the building. The Company had received approximately $9,200,000 in distributions from the partnership for the year ended December 31, 2004.Consolidated Financial Statements
The Company’s equity in income of the partnership of $0 and $209,737 for the years ended December 31, 2005 and 2004 respectively, is included in other income on the consolidated statement of income. The partnership owns a one-percent tenant-in-common interest in the building.2006
Note 4 -– Note Receivable
In January 2003, the Companywe partially financed the sale of a property itwe had previously sold and for which itwe had taken a note receivable of $420,000$0.4 million as part of the consideration. The CompanyWe advanced $290,000$0.3 million and renewed and extended the balance of $420,000$0.4 million still due from the original sale.
The original principal amount of the note receivable, dated January 10, 2003, is $710,000.$0.7 million. The note is payable in monthly installments of $6,382, including interest at 7% per annum, for the first two years of the note. Thereafter, monthly installments of $7,489 are due with interest at 10% per annum. The note is fully amortizing with the final payment due January 10, 2018.
Note 5 – Accounts Receivable, net
Accounts receivable consists of amounts billed and due from tenants, amounts due from insurance claims and allowance for doubtful accounts as follows (in thousands):
| | | | December 31, | |
| | | | 2006 | | 2005 | |
| | Tenant receivables | | $ | 1,941 | | $ | 1,458 | |
| | Allowance for doubtful accounts | | | (641 | ) | | (473 | ) |
| | Insurance claim receivables | | | 427 | | | 264 | |
| | Totals | | $ | 1,727 | | $ | 1,249 | |
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2005
2006
Note 56 - Deferred Costs
Deferred costs consist of the following:
| | | December 31, | |
| | | 2005 | | 2004 | |
| | | | | | |
| Leasing commissions | | $ | 5,921,323 | | $ | 4,333,305 | |
| Deferred financing costs | | | 1,829,191 | | | 1,485,381 | |
| | | | | | | | |
| | | | 7,750,514 | | | 5,818,686 | |
| | | | | | | | |
| Less: accumulated amortization | | | (4,746,296 | ) | | (3,021,392 | ) |
| | | | | | | | |
| | | $ | 3,004,218 | | $ | 2,797,294 | |
| | | | December 31, | |
| | | | 2006 | | 2005 | |
| | Leasing commissions | | $ | 6,904 | | $ | 5,921 | |
| | Deferred financing costs | | | 1,949 | | | 1,829 | |
| | | | | 8,853 | | | 7,750 | |
| | | | | | | | | |
| | Less: accumulated amortization | | | (5,963 | ) | | (4,746 | ) |
| | Totals | | $ | 2,890 | | $ | 3,004 | |
A summary of expected future amortization of deferred costs is as follows:follows (in thousands):
| | Years Ended December 31, | | | | |
| | 2007 | | | $ | 987 | |
| | 2008 | | | | 665 | |
| | 2009 | | | | 447 | |
| | 2010 | | | | 301 | |
| | 2011 | | | | 208 | |
| | Thereafter | | | | 282 | |
| | Total | | | $ | 2,890 | |
Years Ended December 31, | | | |
| 2006 | | $ | 776,083 | |
| 2007 | | | 675,970 | |
| 2008 | | | 458,703 | |
| 2009 | | | 313,239 | |
| 2010 | | | 213,928 | |
| Thereafter | | | 566,295 | |
| | | $ | 3,004,218 | |
F-16
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2006
Note 6 -7 – Future Minimum Lease Income
The Company leasesWe lease the majority of itsour office and retail properties under noncancelable operating leases which provide for minimum base rentals plus, in some instances, contingent rentals based upon a percentage of the tenants’ gross receipts.
A summary of minimum future rentals to be received (exclusive of renewals, tenant reimbursements, and contingent rentals) under noncancelable operating leases in existence at December 31, 20052006 is as follows:follows (in thousands):
Years Ended December 31, | | | |
| 2006 | | $ | 19,518,573 | |
| 2007 | | | 16,775,309 | |
| 2008 | | | 13,219,848 | |
| 2009 | | | 9,536,569 | |
| 2010 | | | 6,513,033 | |
| Thereafter | | | 17,240,829 | |
| | | $ | 82,804,161 | |
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2005
| | Years Ended December 31, | | | | |
| | 2007 | | | $ | 22,483 | |
| | 2008 | | | | 18,710 | |
| | 2009 | | | | 14,334 | |
| | 2010 | | | | 10,479 | |
| | 2011 | | | | 6,706 | |
| | Thereafter | | | | 10,584 | |
| | Total | | | $ | 83,296 | |
Note 7 -8 – Debt
Notes payable
Mortgages and other notes payable consist of the following:following (in thousands):
| | | December 31, | |
| | | 2005 | | 2004 | |
| Mortgages and other notes payable | | $ | 40,050,441 | | $ | 40,526,111 | |
| Revolving loan secured by ownership in properties | | | 32,975,094 | | | 16,700,000 | |
| Total | | $ | 73,025,535 | | $ | 57,226,111 | |
| | | | | | | | |
| | | December 31, | |
| | | 2006 | | 2005 | |
| Mortgages and other notes payable | | $ | 5,138 | | $ | 40,050 | |
| Revolving loan secured by properties | | | 61,225 | | | 32,975 | |
| Totals | | $ | 66,363 | | $ | 73,025 | |
In December 2002, the Company refinanced substantially all of its mortgage debt with a $34,440,000 three-year floating rate mortgage loan collateralized by 18 of the Company’s properties and a maturity date of January 1, 2006, extendable for an additional two years. Effective as of February 28, 2006 we extended the loan to January 1, 2008. During the initial term, the loan bore interest at 2.5% over a 30-day LIBOR (6.79% and 4.79% at December 31, 2005 and 2004, respectively) computed on the basis of a 360-day year. During the extension term the interest rate will be 3.0% over 30-day LIBOR. Interest only payments are due monthly and the loan may be repaid in full or in $100,000 increments, with a final balloon payment due upon maturity. The Company capitalized loan costs of $1,271,043 financed from the proceeds of the refinancing and amortized the costs fully over the initial term of the loan. The security documents related to the mortgage loan contain a covenant that requires Hartman REIT Operating Partnership II, L.P., a wholly owned subsidiary formed for the purpose of this credit facility, to maintain adequate capital in light of its contemplated operations. This covenant and the other restrictions provided for in the credit facility do not affect Hartman REIT Operating Partnership II, L.P.’s ability to make distributions to the Company.
On June 30, 2003, the Company entered into a $25,000,000 loan agreement with a bank pursuant to which the Company could, subject to the satisfaction of certain conditions, borrow funds to acquire additional income producing properties. The revolving loan agreement matured in June, 2005 and provided for interest payments at a rate, adjusted monthly, of either (at the Company’s option) 30-day LIBOR plus 225 basis points, or the bank’s prime rate less 50 basis points, with either rate subject to a floor of 3.75% per annum. The loan was secured by then owned and otherwise unencumbered properties and could also be secured by properties acquired with the proceeds drawn from the facility. The Company was required to make monthly payments of interest only, with the principal and all accrued unpaid interest being due at maturity of the loan. The loan could be prepaid at any time without penalty. The Company paid off and closed this credit facility during June 2005.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 20052006
Note 7 -8 – Debt (Continued)
On June 2, 2005, the Company finalizedAs of December 31, 2006, we two active loans which are described below:
Revolving Credit Facility
We have a new revolving credit facility with a consortium of banks. The facility became retroactively effective as of March 11, 2005, the date certain documents for the facility were placed into escrow, pending the completion of the transaction. The credit facility is secured by a pledge of the partnership interests in Hartman REIT Operating Partnership III LP (“HROP III”), a new wholly owned subsidiary of the Operating Partnership that was formed to hold title to the properties comprising the borrowing base pool for the facility. Presently thereAt December 31, 2006, 35 properties are 18 properties owned by HROP III.
The current limit ofIn 2006, the credit facility is $50,000,000was increased to $75 million from $50 million and it may be increased to $100,000,000$100 million as the borrowing base pool expands. The CompanyWe entered into this credit facility to refinance the $25,000,000 loan described above,our then existing debt, to finance property acquisitions and for general corporate purposes.
As of December 31, 2006 and 2005, the balance outstanding under the credit facility was $32,975,094$61.2 million and $33.0 million, respectively, and the availability to draw was $17,024,906.$13.8 million and $17.0 million, respectively.
Outstanding amounts under the credit facility accrue interest computed (at the Company’sour option) at either the LIBOR or the Alternative Base Rate on the basis of a 360 day year, plus the applicable margin as determined from the following table:
| Total Leverage Ratio | | LIBOR Margin | | Alternative Base Rate Margin |
| Less than 60% but greater than or equal to 50% | | 2.40% | | 1.15% |
| Less than 50% but greater than or equal to 45% | | 2.15% | | 1.025% |
| Less than 45% | | 1.90% | | 1.00% |
Total Leverage Ratio | | | LIBOR Margin | | Alternative Base Rate Margin | |
| | | | | | |
| Less than 60% but greater than or equal to 50% | | | 2.40% | | | 1.150% | |
| Less than 50% but greater than or equal to 45% | | | 2.15% | | | 1.025% | |
| Less than 45% | | | 1.90% | | | 1.000% | |
The Alternative Base Rate is a floating rate equal to the higher of the bank’s base rate or the Federal Funds Rate plus .5%0.5%. LIBOR Rate loans will be available in one, two, three or six month periods, with a maximum of sixnine contracts at any time. The effective interest rate as of December 31, 20052006 was 5.68%7.28% per annum.
Interest only is payable monthly under the loan with the total amount of principal due at maturity on March 11, 2008. The loan may be prepaid at any time in part or in whole, provided that the credit facility is not in default. If LIBOR pricing is elected, there is a prepayment penalty based on a “make-whole” calculation for all costs associated with prepaying a LIBOR borrowing.
On March 27, 2006 the Company executed an interest rate swap, dated as of March 16, 2006, for the purpose of hedging variable interest rate exposure, in compliance with the requirements of the loan agreement. The lender waived default for the fact that the hedge was not executed within six months of closing, as required by the loan agreement.
As of December 31, 2005, the Company waswe were in violation of a loan covenant which provides that the ratio of declared dividends to funds from operations (as defined in the loan agreement) shall not be greater than 95%. As this violation constitutes an event of default, the lenders havehad the right to accelerate payment of amounts outstanding under this credit facility. As of December 31, 2005, and continuing through March 31,However, on May 8, 2006, the Company had notwe received a waiver from the required majority of the consortium of banks in the credit facility. facility and also entered into a modification of the loan agreement whereby the covenant was amended though December 31, 2006.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2006
Note 8 – Debt (Continued)
As amended, the ratio of declared dividends to funds from operations (as defined in the loan agreement) shall not exceed 107% for the three months ended March 31, 2006 and June 30,2006, 104% for the three months ended September 30, 2006 and 100% for the three months ended December 31, 2006. As of December 31, 2006, we are in compliance with the covenant, as amended.
On October 2, 2006, our Board (i) elected not to renew our advisory agreement with Hartman Management; (ii) terminated a certain management agreement with Hartman Management; and (iii) removed Mr. Hartman from his positions as our President, Secretary and Chief Executive Officer. These actions violated certain covenants in the loan agreement and were events of default thereunder. These events of default have been waived by the lenders.
On January 8, 2007, we requested that legal fees incurred in connection with the litigation with Mr. Hartman and Hartman Management be excluded from the definition of funds from operations in testing the covenant requiring the ratio of declared and paid dividends to funds from operations not be in excess of 95%. On January 23, 2007, the lenders granted the exclusion as requested. On March 26, 2007, we formalized this agreement in Amendment No. 3 to our Revolving Credit Agreement which is filed as exhibit 10.26 to this document.
The Companyrevolving credit facility is currently in discussionssupported by a pool of eligible properties referred to receive such waiver, and as the violation constitutes less than 0.4%, management believes thatborrowing base pool. The borrowing base pool must meet the Company will receive such waiver. However, therefollowing criteria:
| · | We will provide a negative pledge on the borrowing base pool and may not provide a negative pledge of the borrowing base pool to any other lender. |
| · | The properties must be free of all liens, unless otherwise permitted. |
| · | All eligible properties must be retail, office-warehouse, or office properties, must be free and clear of material environmental concerns and must be in good repair. |
| · | The aggregate physical occupancy of the borrowing base pool must remain above 80% at all times. |
| · | No property may comprise more than 15% of the value of the borrowing base pool with the exception of Corporate Park Northwest, which is allowed into the borrowing base pool. |
| · | The borrowing base pool must at all times be comprised of at least 10 properties. |
| · | The borrowing base pool properties may not contain development or redevelopment projects. |
Properties can be added to and removed from the borrowing base pool at any time provided no assurance that managementdefaults would occur as a result of the removal. If a property does not meet the criteria of an eligible property and we want to include it in the borrowing base pool, a majority vote of the bank consortium is required for inclusion in the borrowing base pool.
Covenants, tested quarterly, relative to the borrowing base pool are as follows:
| · | We will not permit any liens on the properties in the borrowing base pool unless otherwise permitted. |
| · | The ratio of aggregate net operating income from the borrowing base pool to debt service shall at all times exceed 1.5 to 1.0. For any quarter, debt service shall be equal to the average loan balance for the past quarter times an interest rate which is the greater of (a) the then current annual yield on 10 year United States Treasury notes over 25 years plus 2%; (b) a 6.5% constant; or (c) the actual interest rate for the facility. |
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2006
Note 8 – Debt (Continued)
| · | The ratio of the value of the borrowing base pool to total funded loan balance must always exceed 1.67 to 1.00. The value of the borrowing base pool is defined as aggregate net operating income for the preceding four quarters, less a $0.15 per square foot per annum capital expenditure reserve, divided by a 9.25% capitalization rate. |
Covenants, tested quarterly, relative to us are as follows:
| · | We will not permit our total indebtedness to exceed 60% of the fair market value of our real estate assets at the end of any quarter. Total indebtedness is defined as all our liabilities, including this facility and all other secured and unsecured debt, including letters of credit and guarantees. Fair market value of real estate assets is defined as aggregate net operating income for the preceding four quarters, less a $0.15 per square foot per annum capital expenditure reserve, divided by a 9.25% capitalization rate. |
| · | The ratio of consolidated rolling four-quarter earnings before interest, income tax, depreciation and amortization expenses to total interest expense, including capitalized interest, shall not be less than 2.0 to 1.0. |
| · | The ratio of consolidated earnings before interest, income tax, depreciation and amortization expenses to total interest expense, including capitalized interest, principal amortization, capital expenditures and preferred stock dividends shall not be less than 1.5 to 1.0. Capital expenditures shall be deemed to be $0.15 per square foot per annum. |
| · | The ratio of secured debt to fair market value of real estate assets shall not be greater than 40%. |
| · | The ratio of declared dividends to funds from operations shall not be greater than 95%. |
| · | The ratio of development assets to fair market value of real estate assets shall not be greater than 20%. |
| · | We must maintain our status as a REIT for income tax purposes. |
| · | Total other investments shall not exceed 30% of total asset value. Other investments shall include investments in joint ventures, unimproved land, marketable securities and mortgage notes receivable. Additionally, the preceding investment categories shall not comprise greater than 30%, 15%, 10% and 20%, respectively, of total other investments. |
Within six months of closing, we must hedge all variable rate debt above $40 million until the point at which the ratio of variable rate debt to fixed rate debt is 50% of total debt. Thereafter, we must maintain this type of hedge during any period in which variable rate debt exceeds 50% of total debt. On March 27, 2006, we executed an interest rate swap dated as of March 16, 2006, for the purpose of hedging variable interest rate exposure, in compliance with the requirements of the loan agreement. The lenders waived the default for not executing the hedge within six months of closing, as required by the loan agreement.
On June 30, 2006, we drew down $34.8 million on the revolving credit facility to extinguish the three year floating rate mortgage loan described in the following paragraph and pay related legal and banking fees.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2006
Note 8 – Debt (Continued)
In December 2002, we refinanced substantially all of our mortgage debt with a $34.4 million three-year floating rate mortgage loan collateralized by 18 of our then existing properties. The loan had a maturity date of January 1, 2006, extendable for an additional two years. Effective as of February 28, 2006, we extended the loan to January 1, 2008. During the initial term, the loan bore interest at 2.5% over a 30-day LIBOR (6.79% at December 31, 2005) computed on the basis of a 360-day year. During the extension term the interest rate will be successful3.0% over 30-day LIBOR. Interest only payments were due monthly, and the loan could be repaid in its negotiations to obtainfull or in $100,000 increments, with a waiver.final balloon payment due upon maturity.
Mortgage Loan on Windsor Park Centre
In connection with the purchase of the Windsor Park property in December 2003, the Companywe assumed a note payable in the amount of $6,550,000$6.6 million, secured by the property. The balance at December 31, 20052006, was $5,610,441.$5.1 million. The note iswas payable in equal monthly installments of principal and interest of $80,445, with interest at the rate of 8.34% per annum. The balance of the note iswas payable in full on December 1, 2006. We obtained an extension through March 2, 2007 and paid off this note in full with the proceeds from a $10.0 million loan described in the following paragraph.
On March 1, 2007, we obtained a $10.0 million loan to pay off the loan obtained upon the acquisition of the Windsor Park property and to provide funds for future acquisitions. The mortgage loan is secured by the Windsor Park property which is owned by HCP REIT Operating Company IV LLC (“HROC IV”), a wholly owned subsidiary of the Operating Partnership that was formed to hold title to the Windsor Park property. On March 1, 2007, we conveyed ownership of the Windsor Park property from the Operating Partnership to HROC IV in order to secure the $10 million mortgage loan. The note is payable in equal monthly installments of principal and interest of $60,212, with interest at the rate of 6.04% per annum. The balance of the note is payable in full on March 1, 2014.
Annual maturities of notes payable as of December 31, 2006, including the revolving loan, are as follows (in thousands):
| | | |
| | | | |
| 2007 | | $ | 5,138 | |
| 2008 | | | 61,225 | |
| Total | | $ | 66,363 | |
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 20052006
Note 7 - Debt (Continued)
Anual maturities of notes payable, including the revolving loan, are as follows:
Year Ended December 31, | | | |
| 2006 | | $ | 5,610,441 | |
| 2007 | | | — | |
| 2008 | | | 67,415,094 | |
| | | $ | 73,025,535 | |
Note payable to affiliate
In November 2002, the Company issued a $3,278,000 note payable bearing interest at 4.25% per annum to Houston R.E. Income Properties XVI, Ltd., a related party operated by Hartman. The note was secured by property and was due upon demand with interest only payments due monthly. The note was repaid in the second quarter of 2003.
Supplemental cash flow information
The Company made cash payments for interest on debt of $3,788,471, $2,728,985 and $1,321,758 for the years ended December 31, 2005, 2004 and 2003, respectively.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2005
Note 8 -9 – Earnings Per Share
Basic earnings per share is computed using net income to common shareholders and the weighted average number of common shares outstanding. Diluted earnings per share reflects common shares issuable from the assumed conversion of OP Units convertible into common shares. Only those items that have a dilutive impact on basic earnings per share are included in the diluted earnings per share. Accordingly, excluded from the earnings per share calculation for each of the years ended December 31, 2006, 2005 2004 and 20032004, are 5,808,337 OP units as their inclusion would be antidilutive.
| | | Year Ended December 31, | |
| | | 2005 | | 2004 | | 2003 | |
| | | | | | | | |
| Basic and diluted earnings per share | | | | | | | | | | |
| Weighted average common shares outstanding | | | 7,887,749 | | | 7,010,146 | | | 7,010,146 | |
| Basic and diluted earnings per share | | $ | 0.310 | | $ | 0.488 | | $ | 0.496 | |
| Net income | | $ | 2,448,182 | | $ | 3,423,619 | | $ | 3,474,174 | |
| | | | Year Ended December 31, | |
| | | | 2006 | | 2005 | | 2004 | |
| | Basic and diluted earnings per share: | | | | | | | |
| | Weighted average common | | | | | | | |
| | shares outstanding | | | 9,652 | | | 7,888 | | | 7,010 | |
| | | | | | | | | | | | |
| | Basic and diluted earnings per share | | $ | 0.185 | | $ | 0.310 | | $ | 0.488 | |
| | | | | | | | | | | | |
| | Net income | | $ | 1,781 | | $ | 2,448 | | $ | 3,424 | |
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2006
Note 9 -10 – Federal Income Taxes
Federal income taxes are not provided because the Company intendswe intend to and believes it qualifiesbelieve we qualify as a REIT under the provisions of the Internal Revenue Code. Shareholders of the CompanyOur shareholders include their proportionate taxable income in their individual tax returns. As a REIT, the Companywe must distribute at least 90% of its ordinary taxable income to itsour shareholders and meet certain income sources and investment restriction requirements. In addition, REITs are subject to a number of organizational and operational requirements. If the Company failswe fail to qualify as a REIT in any taxable year, the Companywe will be subject to federal income tax (including any applicable alternative minimum tax) on itsour taxable income at regular corporate tax rates.
Taxable income differs from net income for financial reporting purposes principally due to differences in the timing of recognition of interest, real estate taxes, depreciation and rental revenue.
For Federal income tax purposes, the cash dividends distributed to shareholders are characterized as follows for the years ended December 31:
| | | 2005 | | 2004 | | 2003 |
| | | | | | | |
| Ordinary income (unaudited) | | 62.6% | | 67.7% | | 24.8% |
| Return of capital (unaudited) | | 37.4% | | 32.3% | | 75.2% |
| Capital gain distributions (unaudited) | | 0.0% | | 0.0% | | 0.0% |
| | | | | | | |
Total | | 100.0% | | 100.0% | | 100.0% |
| | | | 2006 | | 2005 | | 2004 | |
| | | | | | | | | |
| | Ordinary income (unaudited) | | | 36.2 | % | | 62.6 | % | | 67.7 | % |
| | Return of capital (unaudited) | | | 59.9 | % | | 37.4 | % | | 32.3 | % |
| | Capital gain distributions (unaudited) | | | 3.9 | % | | 0.0 | % | | 0.0 | % |
| | Total | | | 100.0 | % | | 100.0 | % | | 100.0 | % |
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2005
2006
Note 10 -11 – Related-Party Transactions
In January 1999, the Companywe entered into a property management agreement with the Management Company.Hartman Management. Effective September 1, 2004, this agreement was amended and restated. Prior to September 1, 2004, in consideration for supervising the management and performing various day-to-day affairs, the Companywe paid theHartman Management Company a management fee of 5% and a partnership management fee of 1% based on Effective Gross Revenueseffective gross revenues from the properties, as defined.defined in the agreement. After September 1, 2004, the Company pays thewe paid Hartman Management Companyproperty management fees in an amount not to exceed the fees customarily charged in arm’s length transactions by others rendering similar services in the same geographic area, as determined by a survey of brokers and agents in suchthat area. The Company expects theseThese fees to behave ranged between approximately 2% and 4% of Gross Revenues, as such term isgross revenues (as defined in the amended and restated property management agreement,agreement) for the management of commercial office buildings and approximately 5% of Gross Revenuesgross revenues for the management of retail and office-warehousewarehouse properties.
In October 2006, our Board terminated for cause our property management agreement with Hartman Management. Hartman Management turned over all property management functions to us on November 14, 2006.
Effective September 1, 2004, the Companywe entered into an advisory agreement with theHartman Management Company which providesprovided that the Companywe pay theHartman Management Company a quarterly fee of one-fourth of .25% of Gross Asset Value, as such term isgross asset value (as defined in the advisory agreement, per quarteragreement) for asset management services. In addition, the advisory agreement provided for the payment of a deferred performance fee, payable in certain events, including termination of the advisory agreement, based upon appreciation in the value of certain of our real estate assets. The Companyadvisory agreement expired by its terms on September 30, 2006.
We incurred total management, partnership and asset management fees of $1,405,587, $1,339,822$1.5 million, $1.4 million and $1,232,127$1.3 million, under the advisory and management agreements for the years ended December 31, 2006, 2005 and 2004, and 2003, respectively,respectively. Management fees of which $111,286 and $54,331$0.1 million were payable at December 31, 20052005. No management fees were payable at December 31, 2006. We have not accrued any deferred performance fees, as we believe the amount of these fees, if any are owing, cannot be determined with reasonable certainty at this time.
The aggregate fees and reimbursements payable to Hartman Management under the advisory agreement was not intended to be significantly different from the fees that would have been payable under our previous agreement with Hartman Management. The asset management fee under the advisory agreement, however, was significantly higher. Hartman Management waived the excess of the fee for the period September 1, 2004 respectively.through March 31, 2006 in perpetuity. The asset management fee under the advisory agreement was charged by Hartman Management in the second and third quarters of 2006 and has been reflected in our consolidated financial statements as of December 31, 2006.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2006
Note 11 – Related-Party Transactions (Continued)
During July 2004, the Companywe amended certain terms of its Declarationour declaration of Trust.trust. Under the amended terms, theHartman Management Company may bewas required to reimburse the Companyus for operating expenses exceeding certain limitations determined at the end of each fiscal quarter. Reimbursements, if any, from theHartman Management Company arewere recorded on a quarterly basis as a reduction in property management fees.
Under the provisions of the property management agreements,agreement, costs incurred by theHartman Management Company for the management and maintenance of the properties arewere reimbursable to the Management Company.Hartman Management. At December 31, 2005, and 2004, $51,675 and $188,772, respectively,$0.05 million was payable to theHartman Management Company related to these reimbursable costs. No such amounts were payable at December 31, 2006.
In consideration of leasing the properties, the Company also pays thewe historically paid Hartman Management Company leasing commissions of 6% for leases originated by theHartman Management Company and 4% for expansions and renewals of existing leases based on Effective Gross Revenues from the properties. The Companyleases. We incurred total leasing commissions to theHartman Management Company of $1,588,018, $952,756$0.9 million, $1.6 million and $978,398$1.0 million for the years ended December 31, 2006, 2005 2004 and 2003,2004, respectively, of which $78,744 and $232,343$0.08 million was payable at December 31, 2005. No such amounts were payable at December 31, 2005 and 2004, respectively.2006.
The fees payable to the Management Company under the new agreements effective September 1, 2004 were not intended to be significantly different from those that would have been payable under the previous agreement. Upon actual calculation, the asset management fee under the new agreement was significantly higher. The Management Company waived the excess of the fee for the period September 1, 2004 through December 31, 2005 in perpetuity.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2005
Note 10 - Related-Party Transactions (Continued)
In connection with the Public Offeringour public offering described in Note 11, the Company reimburses the12, we have reimbursed Hartman Management Company up to 2.5% of the gross selling price of all common shares sold for organization and offering expenses (excluding selling commissions and a dealer manager fee) incurred by theHartman Management Company on behalf of the Company. The Company pays itsour behalf. We have paid our dealer manager, through theHartman Management Company by agreement between them, a fee of up to 2.5% of the gross selling price of all common shares sold in the offering. The CompanyWe incurred total fees of $929,819$0.5 million and $0.9 million for the yearyears ended December 31, 2005. Such2006 and 2005, respectively. These fees have been treated as offering costs and netted against the proceeds from the sale of common shares. On October 2, 2006, our Board elected to terminate the public offering described in Note 12.
Also in connection with the Public Offeringour public offering described in Note 11, the12, Hartman Management Company also receiveshas historically received an acquisition fee equal to 2% of the gross selling price of all common shares sold for services in connection with the selection, purchase, development or construction of properties for the Company.us. The Company will capitalize thisadvisory agreement expired by its terms on September 30, 2006. On September 30, 2006, $0.2 million of acquisition feefees paid to Hartman Management had been capitalized and allocate itnot yet allocated to the purchase price of a property. In accordance with advisory agreement, Hartman Management is obligated to reimburse us for any acquisition fee that has not been allocated to the purchase price of our properties acquired with offering proceeds. The Companyas provided for in our declaration of trust. A letter demanding payment was sent to Hartman Management on December 21, 2006, and $0.2 million is netted against other payables to Hartman Management and included in due to affiliates in our consolidated balance sheet at December 31, 2006.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2006
Note 11 – Related-Party Transactions (Continued)
We incurred total acquisition fees to Hartman Management of $373,111$0.2 million and $0.4 million for the yearyears ended December 31, 2006 and 2005. At December 31, 2005, and 2004, $109,160 and $200,415, respectively, were$0.1 million was payable to theHartman Management Company relating to organization and offering expenses, dealer manager fees and acquisition fees. No such amounts were payable at December 31, 2006.
TheHartman Management Company paid the Company $110,042, $106,824was billed $0.2 million, $0.1 million and $106,789$0.1 million for office space infor the years ended December 31, 2006, 2005 and 2004, and 2003, respectively. SuchThese amounts are included in rental income in theour consolidated statements of income.
HCP’sOur day-to-day operations are strategically directed by the Boardour Board. We own substantially all of Trustees and implementedour real estate properties through the Management Company.Operating Partnership. Mr. Hartman was our President, Secretary and Chief Executive Officer through October 2, 2006, and he resigned as our Chairman on October 27, 2006. He is HCP’s Board Chairman andalso the sole owner of the Management Company.Hartman Management. Mr. Hartman was owed $47,478$44,094 and $47,386$47,478 in dividends payable on his common shares at December 31, 2006 and 2005, and 2004, respectively. Mr. Hartman owned 3.0%, 3.9%2.9% and 3.4%3.0% of theour issued and outstanding common shares of the Company as of December 31, 2005, 20042006 and 2003,2005, respectively.
The Company wasWe were a party to various other transactions with related parties which are reflected in due to/from affiliates in the accompanying consolidated balance sheets and also disclosed in Notes 78 and 11.12.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2005
Note 11 -12 – Shareholders’ Equity
In July 2004, HCP changed its stateUnder our declaration of organization from Texas to Maryland pursuant to a merger of HCP directly with and into a Maryland real estate investment trust, formed for the sole purpose of the reorganization and the conversion of each outstanding common share of beneficial interest of the Texas entity into 1.42857 common shares of beneficial interest of the Maryland entity. Under its Articles of Amendment and Restatement in effect, HCP haswe have authority to issue 400,000,000400 million common shares of beneficial interest, $0.001 par value per share, and 50,000,00050 million preferred shares of beneficial interest, $0.001 par value per share. All capital stock amounts, share and per share information in the accompanying consolidated financial statements and the related notes to consolidated financial statements reflect this recapitalization.
On September 15, 2004, HCP’sour Registration Statement on Form S-11, with respect to aour public offering (the “Public Offering”) of up to 10,000,00010 million common shares of beneficial interest to be offered at a price of $10 per share was declared effective under the Securities Act of 1933. The Registration Statement also coverscovered up to 1,000,0001 million shares available pursuant to HCP’sour dividend reinvestment plan to be offered at a price of $9.50 per share. The shares arewere offered to investors on a best efforts basis. Post-Effective AmendmentAmendments No. 1, 2 and 3 to the Registration Statement waswere declared effective by the SEC on June 27, 2005, and Post-Effective Amendment No. 2 to the Registration Statement was declared effective by the SEC on March 9, 2006.
Hartman Commercial Properties REIT2006 and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2005
Note 11 - Shareholders’ Equity (Continued)May 3, 2006, respectively.
As of December 31, 2005, 1,865,5572006, 2.8 million shares had been issued pursuant to the Public Offeringour public offering with net offering proceeds received of $16,674,294, net of offering costs of $1,981,276.$24.6 million. An additional 37,951138,000 shares had been issued pursuant to the dividend reinvestment plan in lieu of dividends totalling $360,535. An additional 156,010totaling $1.3 million. Shareholders that received shares with gross offering proceedspursuant to our dividend reinvestment plan on or after October 2, 2006 may have recission rights. See “Dividend Reinvestment Plan” in Item 5 of $1,559,439, were issued duringthis report.
On October 2, 2006, relatedour Board terminated the public offering. On March 27, 2007, we gave the required ten day notice to subscriptions received in participants informing them that we intend to terminate our dividend reinvestment plan. As a result, our dividend reinvestment plan will terminate on April 6, 2007.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 2005.31, 2006
Note 12 – Shareholders’ Equity (Continued)
At December 31, 2006 and 2005, Mr. Hartman owned 2.9% and 3.0%, respectively, of our outstanding shares. At December 31, 2006 and 2005, our Board collectively owned 2.6% and 2.9%, respectively, of our outstanding shares.
All net proceeds of the Public Offering areour public offering were contributed by HCP to the Operating Partnership in exchange for OP Units. The Operating Partnership usesused the proceeds to acquire additional properties and for general working capital purposes. In accordance with the Operating Partnership’s Agreement of Limited Partnership, in exchange for the contribution of net proceeds from sales of stock, HCPwe received an equivalent number of HROPOP Units as shares of stock that are sold.
At December 31, 2005 and 2004, Hartman and the Board of Trustees collectively owned 5.95% and 8.22%, respectively of HCP’s outstanding shares.
Operating Partnershippartnership units
Limited partners in the Operating Partnership holding OP Units have the right to convert their OP Units into common shares at a ratio of one OP Unit for one common share. In connection with the reorganization discussed above,Distributions to OP Unit holders received 1.42857 OP Units for each OP Unit previously held.are paid at the same rate per unit as dividends per share of HCP. Subject to certain restrictions, OP Units are not convertible into common shares until the later of one year after acquisition or an initial public offering of the common shares. As of December 31, 20052006 and 20042005, there were 14,360,50315,421,212 and 12,456,995, respectively,14,360,503 OP Units outstanding. HCPoutstanding, respectively. We owned 9,612,875 and 8,552,166 and 6,648,658OP Units as of December 31, 2006 and 2005, respectively. The balance of the OP Units is owned by third parties, including Mr. Hartman and 2004. HCP’scertain trustees. Our weighted-average share ownership in the Operating Partnership was approximately 56.44%62.43%, 53.37%56.44% and 53.37% during the years ended December 31, 2006, 2005 2004 and 2003,2004, respectively. At December 31, 2006 and 2005, Mr. Hartman owned 6.9% and 2004, Hartman and the Board of Trustees collectively owned 7.82% and 9.50%7.4%, respectively, of the Operating Partnership’s outstanding units. At December 31, 2006 and 2005, our Board collectively owned 0.4% of the Operating Partnership’s outstanding units.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 20052006
Note 11 -12 – Shareholders’ Equity (Continued)
Dividends and distributions
The following tables summarize the cash dividends/distributions payablepaid to holders of common shares and holders of OP Units (after giving effect to the recapitalization) related toduring the years ended December 31, 2006 and 2005 and 2004.the quarter ended March 31, 2007.
| HCP Shareholders | |
Dividend/Distribution per Common Share | | Date Dividend Payable | | Total Amount Payable | |
| 0.0583 | | 4/15/04 | | $408,762 | |
| 0.0583 | | 5/15/04 | | 408,762 | |
| 0.0584 | | 6/15/04 | | 409,253 | |
| 0.0583 | | 7/15/04 | | 408,762 | |
| 0.0583 | | 8/15/04 | | 408,762 | |
| 0.0584 | | 9/15/04 | | 409,253 | |
| 0.0583 | | 10/15/04 | | 408,692 | |
| 0.0583 | | 11/15/04 | | 408,692 | |
| 0.0584 | | 12/15/04 | | 409,392 | |
| 0.0583 | | 1/15/05 | | 408,692 | |
| 0.0583 | | 2/15/05 | | 408,692 | |
| 0.0589 | | 3/15/05 | | 412,897 | |
| 0.0589 | | 4/15/05 | | 412,931 | |
| 0.0589 | | 5/15/05 | | 429,416 | |
| 0.0590 | | 6/15/05 | | 439,453 | |
| 0.0589 | | 7/15/05 | | 445,621 | |
| 0.0589 | | 8/15/05 | | 452,396 | |
| 0.0590 | | 9/15/05 | | 460,581 | |
| 0.0589 | | 10/15/05 | | 467,260 | |
| 0.0589 | | 11/15/05 | | 470,627 | |
| 0.0590 | | 12/15/05 | | 480,737 | |
| 0.0589 | | 1/15/06 | | 489,019 | |
| 0.0589 | | 2/15/06 | | 509,475 | |
| 0.0590 | | 3/15/06 | | 526,966 | |
| | | | | | | |
HCP Shareholders |
Dividend per Common Share | | Date Dividend Paid | | Total Amount Paid (in thousands) |
| | | | | |
| $ 0.1755 | | Qtr ended 03/31/05 | | $ 1,230 |
| 0.1768 | | Qtr ended 06/30/05 | | 1,282 |
| 0.1768 | | Qtr ended 09/30/05 | | 1,351 |
| 0.1768 | | Qtr ended 12/31/05 | | 1,412 |
| 0.1768 | | Qtr ended 03/31/06 | | 1,526 |
| 0.1768 | | Qtr ended 06/30/06 | | 1,632 |
| 0.1500 | | Qtr ended 09/30/06 | | 1,443 |
| 0.1500 | | Qtr ended 12/31/06 | | 1,477 |
| 0.1500 | | Qtr ended 03/31/07 | | 1,495 |
OP Unit Holders Including Minority Unit Holders |
Distribution per OP Unit | | Date Distribution Paid | | Total Amount Paid (in thousands) |
| | | | | |
| $ 0.1755 | | Qtr ended 03/31/05 | | $ 2,186 |
| 0.1768 | | Qtr ended 06/30/05 | | 2,240 |
| 0.1768 | | Qtr ended 09/30/05 | | 2,308 |
| 0.1768 | | Qtr ended 12/31/05 | | 2,370 |
| 0.1768 | | Qtr ended 03/31/06 | | 2,488 |
| 0.1768 | | Qtr ended 06/30/06 | | 2,594 |
| 0.1500 | | Qtr ended 09/30/06 | | 2,260 |
| 0.1500 | | Qtr ended 12/31/06 | | 2,294 |
| 0.1500 | | Qtr ended 03/31/07 | | 2,314 |
| | | | | |
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 20052006
Note 11 - Shareholders’ Equity (Continued)
| OP Unit Holders Including Minority Unit Holders |
Dividend/Distribution per OP Unit | | Date Dividend Payable | | Total Amount Payable |
| | | | | |
| 0.0583 | | 1/15/04 | | $726,368 |
| 0.0583 | | 2/15/04 | | 726,368 |
| 0.0584 | | 3/15/04 | | 727,240 |
| 0.0583 | | 4/15/04 | | 726,368 |
| 0.0583 | | 5/15/04 | | 726,368 |
| 0.0584 | | 6/15/04 | | 727,240 |
| 0.0583 | | 7/15/04 | | 726,368 |
| 0.0583 | | 8/15/04 | | 726,368 |
| 0.0584 | | 9/15/04 | | 727,240 |
| 0.0583 | | 10/15/04 | | 726,243 |
| 0.0583 | | 11/15/04 | | 726,243 |
| 0.0584 | | 12/15/04 | | 727,488 |
| 0.0583 | | 1/15/05 | | 726,243 |
| 0.0583 | | 2/15/05 | | 726,243 |
| 0.0589 | | 3/15/05 | | 733,717 |
| 0.0589 | | 4/15/05 | | 733,748 |
| 0.0589 | | 5/15/05 | | 748,498 |
| 0.0590 | | 6/15/05 | | 758,154 |
| 0.0589 | | 7/15/05 | | 762,996 |
| 0.0589 | | 8/15/05 | | 768,976 |
| 0.0590 | | 9/15/05 | | 776,345 |
| 0.0589 | | 10/15/05 | | 782,136 |
| 0.0589 | | 11/15/05 | | 785,388 |
| 0.0590 | | 12/15/05 | | 802,101 |
| 0.0589 | | 01/15/06 | | 809,838 |
| 0.0589 | | 02/15/06 | | 830,294 |
| 0.0590 | | 03/15/06 | | 848,042 |
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2005
Note 12 -13 – Incentive Share Plan
The Company hasIn 1999, we adopted an Employee and Trust Manager Incentive Share Plan (the “Incentive Share Plan”) to (i) furnish incentives to individuals chosen to receive share-based awards because they are considered capable of improving operations and increasing profits; (ii) encourage selected persons to accept or continue employment with the Company;us; and (iii) increase the interest of our employees and Trusteestrustees in the Company’sour welfare through their participation and influence on the growth in value of theour common shares. The class of eligible persons that can receive grants of incentive awards under the Incentive Share Plan consists of key employees, directors, non-employee trustees, members of the Management Company and consultants as determined by the compensation committee of the Board of Trustees.our Board. The totalmaximum number of common shares that may be issued under the Incentive Share Plan is an amountthe lesser of shares equal to 5% of the outstanding shares on a fully diluted basis.basis or 5,000,000. As of December 31, 2005,2006, no options or awards to purchase common shares have been granted under the Incentive Share Plan.
UnderIn December 2004 the FASB issued SFAS No. 123, “Accounting123R, “Share-Based Payment,” which establishes accounting standards for Stock Based Compensation”,all transactions in which an entity exchanges its equity instruments for goods and SFAS No. 148, “Accounting for Stock-Based Compensation-Transition and Disclosure, an amendment of FASB Statement No. 123”, the Company is permitted to either record compensation expense for incentive awards granted toservices. This accounting standard focuses primarily on equity transactions with employees and directors based on theirrequires share-based payments to be assigned a fair value onand expensed over the daterequisite service period of grant or to applyeach award. As of December 31, 2006, no awards have been granted under the intrinsic value method prescribed in Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees”,Incentive Share Plan and recognize compensation expense, if any, tothus, no amounts have been expensed during the extent that the fair market value of the underlying stock on the grant date exceeds the exercise price of the award granted. Compensation expense for awards granted to employees and directors is currently based on the intrinsic value method. For awards granted to non-employees, such as Trustees, employees of the Management Company, and consultants, the Company currently records expense based on the award’s fair value on its date of grant as required by SFAS 123 and SFAS 148. Pursuant to SFAS 123R, discussed in Note 1, the Company will determine upon the award of any shared-based payments whether the award should be categorized as an equity award or a liability award, and account for each accordingly.year then ended.
Note 13 -14 – Commitments and Contingencies
The Companynature of our business exposes us to the risk of lawsuits for damages or penalties relating to, among other things, breach of contract and employment disputes. We are currently involved in the following litigation.
Hartman Commercial Properties REIT and Hartman REIT Operating Partnership, L.P. v.
Allen R. Hartman and Hartman Management, L.P., in the 333rd Judicial District Court of Harris County, Texas
In October 2006, we initiated this action against our former Chief Executive Officer, Allen R. Hartman, and our former manager and advisor Hartman Management. L.P. We are seeking damages for breach of contract, fraudulent inducement and breach of fiduciary duties.
In November 2006, Mr. Hartman and Hartman Management filed a counterclaim against us, the members of our Board, and our Chief Operating Officer, John J. Dee. The counterclaim has since been amended to drop the claims against the individual defendants with the exception our current interim Chief Executive Officer, James C. Mastandrea, and Mr. Dee. The amended counterclaim asserts claims against us for alleged breach of contract and alleges that we owe Mr. Hartman and Hartman Management fees for the termination of an advisory agreement. The amended counterclaim asserts claims against Messrs. Mastandrea and Dee for tortious interference with the advisory agreement and a management agreement and conspiracy to seize control of us for their own financial gains. We have indemnified Messrs. Mastandrea and Dee to the extent allowed by our governing documents and Maryland law. The amended counterclaim also asserts claims against our prior outside law firm and one of its partners.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2006
Note 14 – Commitments and Contingencies (Continued)
Limited discovery has been conducted in this case as of the date of this report. The case is set for trial in July 2007.
It is too early to express an opinion respecting the likelihood of an adverse outcome on the counterclaim, although we intend to vigorously defend against those claims and vigorously prosecute our affirmative claims.
Hartman Commercial Properties REIT v. Allen R. Hartman, et al; in the United States
District Court for the Southern District of Texas
In December 2006, we initiated this action complaining of the attempt by Mr. Hartman and Hartman Management to solicit written consents from shareholders to replace our Board.
Mr. Hartman and Hartman Management have filed a counterclaim claiming that certain changes to our bylaws and declaration of trust are invalid and that their enactment is a breach of fiduciary duty. They are seeking a declaration that the changes to our bylaws and declaration of trust are invalid and an injunction barring their enforcement. These changes, among other things, will stagger the terms of our Board members over three years, require two-thirds vote of the outstanding common shares to remove a Board member and provide that our secretary may call a special meeting of shareholders only on the written request of a majority of outstanding common shares. We believe the changes in our bylaws and declaration of trust are valid under Maryland law and in the best interest of our shareholders. We have filed a motion to dismiss the counterclaims. A group of shareholders has filed a request to intervene in this action to assert claims similar to those asserted by Mr. Hartman and Hartman Management. We have opposed the intervention.
There has been limited discovery in this case as of the date of this report. Documents have been produced and interrogatory responses exchanged. We have produced the members of our Board for deposition as well as our Chief Operating Officer, John J. Dee. The Court has conducted a hearing on the parties’ cross request for preliminary injunction, but has not yet ruled on that request.
It is too early to express an opinion respecting the likelihood of an adverse outcome on the counterclaim, although we intend to vigorously defend against those claims and vigorously prosecute our affirmative claim.
Other
We are a participant in various other legal proceedings and claims that arise in the ordinary course of our business. These matters are generally covered by insurance. While the resolution of these matters cannot be predicted with certainty, the Company believeswe believe that the final outcome of suchthese matters will not have a material effect on theour financial position, results of operations, or cash flows of the Company.flows.
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 20052006
Note 14 -15 – Segment Information
Management doesOur management historically has not differentiatedifferentiated by property types and because no individual property is so significant as to be a separate segment, the Companytherefore does not present segment information.
Note 15 - Pro Forma Financial Information (Unaudited)
During 2005 the Company acquired two office buildings for $24,930,000 that the Company considers to be material. The pro forma financial information for the years ended December 31, 2005 and 2004 is based on the historical statements of the Company after giving effect to the acquisitions as if such acquisitions took place on January 1, 2004.
The pro forma financial information shown below is presented for informational purposes only and may not be indicative of results that would have actually occurred if the acquisition had been in effect at the date indicated, nor does it purport to be indicative of the results that may be achieved in the future.
| | | Year EndedDecember 31, 2005 | | Year Ended December 31, 2004 | |
| | | | | | |
| Pro forma revenues | | $ | 27,518,098 | | $ | 27,500,345 | |
| Pro forma net income available to | | | | | | | |
| common shareholders | | $ | 2,240,150 | | $ | 3,307,715 | |
| Pro forma basic and diluted earnings per | | | | | | | |
| common share | | $ | 0.284 | | $ | 0.471 | |
Hartman Commercial Properties REIT and Subsidiary
Notes to Consolidated Financial Statements
December 31, 2005
Note 16 - Selected Quarterly Financial Data (Unaudited)
The following is a summary of theour unaudited quarterly financial information for the years ended December 31, 2006 and 2005 and 2004:(in thousands, except per share data):
| | | First Quarter | | Second Quarter | | Third Quarter | | Fourth Quarter | |
2005 | | | | | | | | | |
| Revenues | | $ | 6,312,640 | | $ | 6,270,409 | | $ | 6,204,629 | | $ | 6,431,555 | |
| Income before minority interests | | | 1,521,681 | | | 1,339,869 | | | 894,172 | | | 583,076 | |
| Minority interest in income | | | (697,237 | ) | | (593,383 | ) | | (382,662 | ) | | (217,334 | ) |
| Net income | | | 824,444 | | | 746,486 | | | 511,510 | | | 365,742 | |
| Basic and diluted earnings per share | | $ | 0.114 | | $ | 0.097 | | $ | 0.064 | | $ | 0.035 | |
| | | | | | | | | | | | | | |
2004 | | | | | | | | | | | | | |
| Revenues | | $ | 5,486,426 | | $ | 6,095,742 | | $ | 5,922,856 | | $ | 5,978,633 | |
| Income before minority interests | | | 1,384,807 | | | 1,792,127 | | | 1,493,760 | | | 1,743,335 | |
| Minority interest in income | | | (645,689 | ) | | (835,606 | ) | | (696,464 | ) | | (812,651 | ) |
| Net income | | | 739,118 | | | 956,521 | | | 797,296 | | | 930,684 | |
| Basic and diluted earnings per share | | $ | 0.105 | | $ | 0.136 | | $ | 0.114 | | $ | 0.133 | |
| | | | | | | | | | | |
| | 2006 | | | | | | | | | |
| | Revenues | | $ | 7,414 | | $ | 7,689 | | $ | 7,416 | | $ | 7,321 | |
| | Income before minority interests | | | 937 | | | 1,403 | | | 974 | | | (465 | ) |
| | Minority interest in income | | | (372 | ) | | (545 | ) | | (371 | ) | | 220 | |
| | Net income | | | 565 | | | 858 | | | 603 | | | (245 | ) |
| | Basic and diluted earnings per share | | $ | 0.061 | | $ | 0.089 | | $ | 0.061 | | $ | (0.025 | ) |
| | | | | | | | | | | | | | | |
| | 2005 | | | | | | | | | | | | | |
| | Revenues | | $ | 6,244 | | $ | 6,246 | | $ | 6,081 | | $ | 6,348 | |
| | Income before minority interests | | | 1,522 | | | 1,340 | | | 894 | | | 583 | |
| | Minority interest in income | | | (697 | ) | | (593 | ) | | (383 | ) | | (218 | ) |
| | Net income | | | 824 | | | 746 | | | 512 | | | 366 | |
| | Basic and diluted earnings per share | | $ | 0.114 | | $ | 0.097 | | $ | 0.064 | | $ | 0.035 | |
Hartman Commercial Properties REIT and Subsidiary
Schedule II - Valuation and Qualifying Accounts
Description | | Balance at Beginning of Period | | Additions Charged (Recoveries Credited) to Expense | | Deductions | | | | |
| | | | | | | | | | | | | | |
| Allowance for doubtful accounts: | | | | | | | | | | | | | |
| Year ended December 31, 2005 | | $ | 342,690 | | $ | 130,185 | | $ | - | | $ | 472,875 | |
| Year ended December 31, 2004 | | $ | 350,750 | | $ | (8,060 | ) | $ | - | | $ | 342,690 | |
| Year ended December 31, 2003 | | $ | 391,500 | | $ | 213,250 | | $ | (254,000 | ) | $ | 350,750 | |
| | | (in thousands) | |
Description | | Balance at Beginning of Period | | Charged (credited) to Income | | Deductions from Reserves | | Balance at End of Period | |
| Allowance for doubtful accounts: | | | | | | | | | |
| Year ended December 31, 2006 | | $ | 473 | | $ | 388 | | $ | (220 | ) | $ | 641 | |
| Year ended December 31, 2005 | | | 343 | | | 130 | | | — | | | 473 | |
| Year ended December 31, 2004 | | | 351 | | | (8 | ) | | — | | | 343 | |
Hartman Commercial Properties REIT and Subsidiary
Schedule III - Real Estate and Accumulated Depreciation
December 31, 20052006
| | | | | Initial Cost | | Costs Capitalized Subsequent to Acquisition | | Gross Amount at which Carried at End of Period (1) (2) | |
Name | | Description | | Land | | Building and Improvements | | Improvements | | Carrying Costs | | Land | | Building and Improvements | | Total | |
| | | | | | | | | | | | | | | | | | |
| Holly Knight | | Retail | | $ | 319,981 | | $ | 1,292,820 | | $ | 38,226 | | | - | | $ | 319,981 | | $ | 1,331,046 | | $ | 1,651,027 | |
| Kempwood Plaza | | Retail | | | 733,443 | | | 1,798,433 | | | 941,766 | | | - | | | 733,443 | | | 2,740,199 | | | 3,473,642 | |
| Bissonnet Beltway | | Retail | | | 414,515 | | | 1,946,808 | | | 162,650 | | | - | | | 414,515 | | | 2,109,458 | | | 2,523,973 | |
| Interstate 10 | | Office-warehouse | | | 207,903 | | | 3,700,169 | | | 258,711 | | | - | | | 207,903 | | | 3,958,880 | | | 4,166,783 | |
| West Belt Plaza | | Office-warehouse | | | 567,805 | | | 2,165,204 | | | 318,666 | | | - | | | 567,805 | | | 2,483,870 | | | 3,051,675 | |
| Greens Road | | Retail | | | 353,604 | | | 1,283,613 | | | 97,778 | | | - | | | 353,604 | | | 1,381,391 | | | 1,734,995 | |
| Town Park | | Retail | | | 849,529 | | | 2,911,206 | | | 198,963 | | | - | | | 849,529 | | | 3,110,169 | | | 3,959,698 | |
| Webster Point | | Retail | | | 720,336 | | | 1,150,029 | | | 75,253 | | | - | | | 720,336 | | | 1,225,282 | | | 1,945,618 | |
| Centre South | | Retail | | | 481,201 | | | 1,595,997 | | | 386,964 | | | - | | | 481,201 | | | 1,982,961 | | | 2,464,162 | |
| Torrey Square | | Retail | | | 1,981,406 | | | 2,970,911 | | | 378,109 | | | - | | | 1,981,406 | | | 3,349,020 | | | 5,330,426 | |
| Dairy Ashford | | Office-warehouse | | | 225,544 | | | 1,211,476 | | | 90,854 | | | - | | | 225,544 | | | 1,302,330 | | | 1,527,874 | |
| Main Park | | Office-warehouse | | | 1,327,762 | | | 2,721,075 | | | 496,123 | | | - | | | 1,327,762 | | | 3,217,198 | | | 4,544,960 | |
| Northeast Square | | Retail | | | 564,927 | | | 2,007,585 | | | 283,436 | | | - | | | 564,927 | | | 2,291,021 | | | 2,855,948 | |
| Plaza Park | | Office-warehouse | | | 901,602 | | | 3,293,514 | | | 247,948 | | | - | | | 901,602 | | | 3,541,462 | | | 4,443,064 | |
| Northwest Place | | Office-warehouse | | | 110,790 | | | 978,554 | | | 27,365 | | | - | | | 110,790 | | | 1,005,919 | | | 1,116,709 | |
| Lion Square | | Retail | | | 1,546,010 | | | 4,289,098 | | | 281,567 | | | - | | | 1,546,010 | | | 4,570,665 | | | 6,116,675 | |
| Zeta Building | | Office | | | 637,180 | | | 1,819,409 | | | 152,200 | | | - | | | 637,180 | | | 1,971,609 | | | 2,608,789 | |
| Royal Crest | | Office | | | 508,850 | | | 1,355,215 | | | 129,852 | | | - | | | 508,850 | | | 1,485,067 | | | 1,993,917 | |
| Featherwood | | Office | | | 368,283 | | | 2,591,026 | | | 479,721 | | | - | | | 368,283 | | | 3,070,747 | | | 3,439,030 | |
| South Richey | | Retail | | | 777,720 | | | 2,584,167 | | | 231,926 | | | - | | | 777,720 | | | 2,816,093 | | | 3,593,813 | |
| Corporate Park Woodland | | Office-warehouse | | | 651,549 | | | 5,376,813 | | | 516,690 | | | - | | | 651,549 | | | 5,893,503 | | | 6,545,052 | |
| South Shaver | | Retail | | | 184,368 | | | 632,635 | | | 192,875 | | | - | | | 184,368 | | | 825,510 | | | 1,009,878 | |
| Providence | | Retail | | | 917,936 | | | 3,674,732 | | | 476,520 | | | - | | | 917,936 | | | 4,151,252 | | | 5,069,188 | |
| Corporate Park Northwest | | Office-warehouse | | 1,533,940 | | | 6,305,599 | | | 453,026 | | | - | | | 1,533,940 | | | 6,758,625 | | | 8,292,565 | |
| Bellnot Square | | Retail | | | 1,154,239 | | | 4,638,055 | | | 53,643 | | | - | | | 1,154,239 | | | 4,691,698 | | | 5,845,937 | |
| Corporate Park West | | Office-warehouse | | | 2,555,289 | | | 10,507,691 | | | 338,354 | | | - | | | 2,555,289 | | | 10,846,045 | | | 13,401,334 | |
| Westgate | | Office-warehouse | | | 672,303 | | | 2,775,879 | | | 137,630 | | | - | | | 672,303 | | | 2,913,509 | | | 3,585,812 | |
| Garden Oaks | | Retail | | | 1,285,027 | | | 5,292,755 | | | 185,828 | | | - | | | 1,285,027 | | | 5,478,583 | | | 6,763,610 | |
| Westchase | | Retail | | | 422,745 | | | 1,750,555 | | | 240,132 | | | - | | | 422,745 | | | 1,990,687 | | | 2,413,432 | |
| Sunridge | | Retail | | | 275,534 | | | 1,186,037 | | | 58,295 | | | - | | | 275,534 | | | 1,244,332 | | | 1,519,866 | |
| Holly Hall | | Office-warehouse | | | 607,519 | | | 2,515,881 | | | 20,803 | | | - | | | 607,519 | | | 2,536,684 | | | 3,144,203 | |
| Brookhill | | Office-warehouse | | | 185,659 | | | 787,605 | | | 166,014 | | | - | | | 185,659 | | | 953,619 | | | 1,139,278 | |
| Windsor Park | | Retail | | | 2,620,500 | | | 10,482,000 | | | - | | | - | | | 2,620,500 | | | 10,482,000 | | | 13,102,500 | |
| SugarPark Plaza | | Retail | | | 1,781,211 | | | 7,124,846 | | | 20,098 | | | - | | | 1,781,211 | | | 7,144,944 | | | 8,926,155 | |
| Woodlake Plaza | | Office | | | 1,106,541 | | | 4,426,169 | | | 108,582 | | | - | | | 1,106,541 | | | 4,534,751 | | | 5,641,292 | |
| 9101 LBJ Freeway | | Office | | | 1,597,190 | | | 6,077,820 | | | - | | | - | | | 1,597,190 | | | 6,077,820 | | | 7,675,010 | |
| Uptown Tower | | Office | | | 1,620,625 | | | 15,550,861 | | | - | | | - | | | 1,620,625 | | | 15,550,861 | | | 17,171,486 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| TOTAL | | | | | $ | 32,770,566 | | $ | 132,772,242 | | $ | 8,246,568 | | $ | - | | $ | 32,770,566 | | $ | 141,018,810 | | $ | 173,789,376 | |
| | | Initial Cost | | Costs Capitalized Subsequent to Acquisition | | Gross Amount at which Carried at End of Period (1) (2) | |
| | | | | Building and | | | | Carrying | | | | Building and | | | |
Property Name | | Land | | Improvements | | Improvements | | Costs | | Land | | Improvements | | Total | |
Retail Properties: | | | | | | | | | | | | | | | |
| Bellnot Square | | $ | 1,154 | | $ | 4,638 | | $ | 69 | | $ | — | | $ | 1,154 | | $ | 4,707 | | $ | 5,861 | |
| Bissonnet Beltway | | | 415 | | | 1,947 | | | 184 | | | — | | | 415 | | | 2,131 | | | 2,546 | |
| Centre South | | | 481 | | | 1,596 | | | 429 | | | — | | | 481 | | | 2,025 | | | 2,506 | |
| Garden Oaks | | | 1,285 | | | 5,293 | | | 293 | | | — | | | 1,285 | | | 5,586 | | | 6,871 | |
| Greens Road | | | 354 | | | 1,284 | | | 111 | | | — | | | 354 | | | 1,395 | | | 1,749 | |
| Holly Knight | | | 320 | | | 1,293 | | | 66 | | | — | | | 320 | | | 1,359 | | | 1,679 | |
| Kempwood Plaza | | | 733 | | | 1,798 | | | 903 | | | — | | | 733 | | | 2,701 | | | 3,434 | |
| Lion Square | | | 1,546 | | | 4,289 | | | 317 | | | — | | | 1,546 | | | 4,606 | | | 6,152 | |
| Northeast Square | | | 565 | | | 2,008 | | | 286 | | | — | | | 565 | | | 2,294 | | | 2,859 | |
| Providence | | | 918 | | | 3,675 | | | 486 | | | — | | | 918 | | | 4,161 | | | 5,079 | |
| South Richey | | | 778 | | | 2,584 | | | 191 | | | — | | | 778 | | | 2,775 | | | 3,553 | |
| South Shaver | | | 184 | | | 633 | | | 173 | | | — | | | 184 | | | 806 | | | 990 | |
| SugarPark Plaza | | | 1,781 | | | 7,125 | | | 20 | | | — | | | 1,781 | | | 7,145 | | | 8,926 | |
| Sunridge | | | 276 | | | 1,186 | | | 41 | | | — | | | 276 | | | 1,227 | | | 1,503 | |
| Torrey Square | | | 1,981 | | | 2,971 | | | 435 | | | — | | | 1,981 | | | 3,406 | | | 5,387 | |
| Town Park | | | 850 | | | 2,911 | | | 214 | | | — | | | 850 | | | 3,125 | | | 3,975 | |
| Webster Point | | | 720 | | | 1,150 | | | 76 | | | — | | | 720 | | | 1,226 | | | 1,946 | |
| Westchase | | | 423 | | | 1,751 | | | 242 | | | — | | | 423 | | | 1,993 | | | 2,416 | |
| Windsor Park | | | 2,621 | | | 10,482 | | | — | | | — | | | 2,621 | | | 10,482 | | | 13,103 | |
| | | $ | 17,385 | | $ | 58,614 | | $ | 4,536 | | $ | — | | $ | 17,385 | | $ | 63,150 | | $ | 80,535 | |
Warehouse Properties: | | | | | | | | | | | | | | | | | | | | | | |
| Brookhill | | | 186 | | | 788 | | | 156 | | $ | — | | | 186 | | | 944 | | | 1,130 | |
| Corporate Park Northwest | | | 1,534 | | | 6,306 | | | 554 | | | — | | | 1,534 | | | 6,860 | | | 8,394 | |
| Corporate Park West | | | 2,555 | | | 10,267 | | | 456 | | | — | | | 2,555 | | | 10,723 | | | 13,278 | |
| Corporate Park Woodland | | | 652 | | | 5,330 | | | 742 | | | — | | | 652 | | | 6,072 | | | 6,724 | |
| Dairy Ashford | | | 226 | | | 1,211 | | | 78 | | | — | | | 226 | | | 1,289 | | | 1,515 | |
| Holly Hall | | | 608 | | | 2,516 | | | 6 | | | — | | | 608 | | | 2,522 | | | 3,130 | |
| Interstate 10 | | | 208 | | | 3,700 | | | 282 | | | — | | | 208 | | | 3,982 | | | 4,190 | |
| Main Park | | | 1,328 | | | 2,721 | | | 530 | | | — | | | 1,328 | | | 3,251 | | | 4,579 | |
| Plaza Park | | | 902 | | | 3,294 | | | 341 | | | — | | | 902 | | | 3,635 | | | 4,537 | |
| West Belt Plaza | | | 568 | | | 2,165 | | | 293 | | | — | | | 568 | | | 2,458 | | | 3,026 | |
| Westgate | | | 672 | | | 2,776 | | | 143 | | | — | | | 672 | | | 2,919 | | | 3,591 | |
| | | $ | 9,439 | | $ | 41,074 | | $ | 3,581 | | $ | — | | $ | 9,439 | | $ | 44,655 | | $ | 54,094 | |
Office Properties: | | | | | | | | | | | | | | | | | | | | | | |
| 9101 LBJ Freeway | | $ | 1,597 | | $ | 6,078 | | $ | 267 | | $ | — | | $ | 1,597 | | $ | 6,345 | | $ | 7,942 | |
| Featherwood | | | 368 | | | 2,591 | | | 535 | | | — | | | 368 | | | 3,126 | | | 3,494 | |
| Royal Crest | | | 509 | | | 1,355 | | | 100 | | | — | | | 509 | | | 1,455 | | | 1,964 | |
| Uptown Tower | | | 1,621 | | | 15,551 | | | 103 | | | — | | | 1,621 | | | 15,654 | | | 17,275 | |
| Woodlake Plaza | | | 1,107 | | | 4,426 | | | 360 | | | — | | | 1,107 | | | 4,786 | | | 5,893 | |
| Zeta Building | | | 636 | | | 1,819 | | | 206 | | | — | | | 636 | | | 2,025 | | | 2,661 | |
| | | $ | 5,838 | | $ | 31,820 | | $ | 1,571 | | $ | — | | $ | 5,838 | | $ | 33,391 | | $ | 39,229 | |
| | | | | | | | | | | | | | | | | | | | | | | |
Grand Totals | | $ | 32,662 | | $ | 131,508 | | $ | 9,688 | | $ | — | | $ | 32,662 | | $ | 141,196 | | $ | 173,858 | |
Hartman Commercial Properties REIT and Subsidiary
Schedule III - Real Estate and Accumulated Depreciation
December 31, 20052006
(Continued)
Name | | Description | | Accumulated Depreciation | | Date of Construction | | Date Acquired | | Depreciation Life | |
| | | | | | | | | | | | |
| Holly Knight | | Retail | | $ | 338,536 | | | | | 8/1/00 | | 5-39 years | |
| Kempwood Plaza | | Retail | | | 834,002 | | | | | 2/2/99 | | 5-39 years | |
| Bissonnet Beltway | | Retail | | | 616,715 | | | | | 1/1/99 | | 5-39 years | |
| Interstate 10 | | Office-warehouse | | | 1,184,715 | | | | | 1/1/99 | | 5-39 years | |
| West Belt Plaza | | Office-warehouse | | | 768,161 | | | | | 1/1/99 | | 5-39 years | |
| Greens Road | | Retail | | | 356,008 | | | | | 1/1/99 | | 5-39 years | |
| Town Park | | Retail | | | 818,353 | | | | | 1/1/99 | | 5-39 years | |
| Webster Point | | Retail | | | 256,690 | | | | | 1/1/00 | | 5-39 years | |
| Centre South | | Retail | | | 512,427 | | | | | 1/1/00 | | 5-39 years | |
| Torrey Square | | Retail | | | 618,091 | | | | | 1/1/00 | | 5-39 years | |
| Dairy Ashford | | Office-warehouse | | | 335,129 | | | | | 1/1/99 | | 5-39 years | |
| Main Park | | Office-warehouse | | | 902,119 | | | | | 1/1/99 | | 5-39 years | |
| Northeast Square | | Retail | | | 541,413 | | | | | 1/1/99 | | 5-39 years | |
| Plaza Park | | Office-warehouse | | | 762,163 | | | | | 1/1/00 | | 5-39 years | |
| Northwest Place | | Office-warehouse | | | 198,531 | | | | | 1/1/00 | | 5-39 years | |
| Lion Square | | Retail | | | 911,889 | | | | | 1/1/00 | | 5-39 years | |
| Zeta Building | | Office | | | 394,162 | | | | | 1/1/00 | | 5-39 years | |
| Royal Crest | | Office | | | 346,036 | | | | | 1/1/00 | | 5-39 years | |
| Featherwood | | Office | | | 779,583 | | | | | 1/1/00 | | 5-39 years | |
| South Richey | | Retail | | | 575,481 | | | | | 8/25/99 | | 5-39 years | |
| Corporate Park Woodland | | Office-warehouse | | | 1,257,607 | | | 11/1/00 | | | | 5-39 years | |
| South Shaver | | Retail | | | 239,183 | | | | | 12/17/99 | | 5-39 years | |
| Providence | | Retail | | | 584,646 | | | | | 3/30/01 | | 5-39 years | |
| Corporate Park Northwest | | Office-warehouse | | | 832,896 | | | | | 1/1/02 | | 5-39 years | |
| Bellnot Square | | Retail | | | 537,795 | | | | | 1/1/02 | | 5-39 years | |
| Corporate Park West | | Office-warehouse | | | 1,276,672 | | | | | 1/1/02 | | 5-39 years | |
| Westgate | | Office-warehouse | | | 367,747 | | | | | 1/1/02 | | 5-39 years | |
| Garden Oaks | | Retail | | | 680,428 | | | | | 1/1/02 | | 5-39 years | |
| Westchase | | Retail | | | 298,180 | | | | | 1/1/02 | | 5-39 years | |
| Sunridge | | Retail | | | 138,815 | | | | | 1/1/02 | | 5-39 years | |
| Holly Hall | | Office-warehouse | | | 291,896 | | | | | 1/1/02 | | 5-39 years | |
| Brookhill | | Office-warehouse | | | 191,030 | | | | | 1/1/02 | | 5-39 years | |
| Windsor Park | | Retail | | | 509,792 | | | | | 12/16/03 | | 5-39 years | |
| SugarPark Plaza | | Retail | | | 266,500 | | | | | 9/8/04 | | 5-39 years | |
| Woodlake Plaza | | Office | | | 102,958 | | | | | 3/14/05 | | 5-39 years | |
| 9101 LBJ Freeway | | Office | | | 89,990 | | | | | 8/10/05 | | 5-39 years | |
| Uptown Tower | | Office | | | 108,047 | | | | | 11/22/05 | | 5-39 years | |
| | | | | | | | | | | | | | | | | |
| TOTAL | | | | | $ | 19,824,386 | | | | | | | | | | |
Property Name | | Accumulated Depreciation (in thousands) | | Date of Construction | | Date Acquired | | Depreciation Life |
Retail Properties: | | | | | | | | | |
| Bellnot Square | | $ | 674 | | | | 1/1/2002 | | 5-39 years |
| Bissonnet Beltway | | | 710 | | | | 1/1/1999 | | 5-39 years |
| Centre South | | | 612 | | | | 1/1/2000 | | 5-39 years |
| Garden Oaks | | | 850 | | | | 1/1/2002 | | 5-39 years |
| Greens Road | | | 411 | | | | 1/1/1999 | | 5-39 years |
| Holly Knight | | | 402 | | | | 8/1/2000 | | 5-39 years |
| Kempwood Plaza | | | 970 | | | | 2/2/1999 | | 5-39 years |
| Lion Square | | | 1,073 | | | | 1/1/2000 | | 5-39 years |
| Northeast Square | | | 617 | | | | 1/1/1999 | | 5-39 years |
| Providence | | | 727 | | | | 3/30/2001 | | 5-39 years |
| South Richey | | | 675 | | | | 8/25/1999 | | 5-39 years |
| South Shaver | | | 289 | | | | 12/17/1999 | | 5-39 years |
| SugarPark Plaza | | | 464 | | | | 9/8/2004 | | 5-39 years |
| Sunridge | | | 176 | | | | 1/1/2002 | | 5-39 years |
| Torrey Square | | | 756 | | | | 1/1/2000 | | 5-39 years |
| Town Park | | | 921 | | | | 1/1/1999 | | 5-39 years |
| Webster Point | | | 297 | | | | 1/1/2000 | | 5-39 years |
| Westchase | | | 357 | | | | 1/1/2002 | | 5-39 years |
| Windsor Park | | | 867 | | | | 12/16/2003 | | 5-39 years |
| | $ | 11,848 | | | | | | |
Warehouse Properties: | | | | | | | | | |
| Brookhill | | $ | 226 | | | | 1/1/2002 | | 5-39 years |
| Corporate Park Northwest | | | 1,059 | | | | 1/1/2002 | | 5-39 years |
| Corporate Park West | | | 1,578 | | | | 1/1/2002 | | 5-39 years |
| Corporate Park Woodlands | | | 1,544 | | 11/1/2000 | | | | 5-39 years |
| Dairy Ashford | | | 368 | | | | 1/1/1999 | | 5-39 years |
| Holly Hall | | | 343 | | | | 1/1/2002 | | 5-39 years |
| Interstate 10 | | | 1,334 | | | | 1/1/1999 | | 5-39 years |
| Main Park | | | 1,007 | | | | 1/1/1999 | | 5-39 years |
| Plaza Park | | | 891 | | | | 1/1/2000 | | 5-39 years |
| West Belt Plaza | | | 804 | | | | 1/1/1999 | | 5-39 years |
| Westgate | | | 441 | | | | 1/1/2002 | | 5-39 years |
| | $ | 9,595 | | | | | | |
Office Properties: | | | | | | | | | |
| 9101 LBJ Freeway | | $ | 281 | | | | 8/10/2005 | | 5-39 years |
| Featherwood | | | 898 | | | | 1/1/2000 | | 5-39 years |
| Royal Crest | | | 354 | | | | 1/1/2000 | | 5-39 years |
| Uptown Tower | | | 551 | | | | 11/22/2005 | | 5-39 years |
| Woodlake Plaza | | | 261 | | | | 3/14/2005 | | 5-39 years |
| Zeta Building | | | 471 | | | | 1/1/2000 | | 5-39 years |
| | $ | 2,816 | | | | | | |
Grand Total | | $ | 24,259 | | | | | | |
(1) Reconciliations of total real estate carrying value for the three years ended December 31 follows:
| | | ( In thousands) | |
| | | 2006 | | 2005 | | 2004 | |
| Balance at beginning of period | | $ | 173,789 | | $ | 141,997 | | $ | 131,721 | |
| Additions during the period: | | | | | | | | | | |
| Acquisitions | | | — | | | 30,379 | | | 8,906 | |
| Improvements | | | 2,055 | | | 1,413 | | | 1,370 | |
| | | | 2,055 | | | 31,792 | | | 10,276 | |
| Deductions - cost of real estate sold or retired | | | (1,986 | ) | | | | | | |
Balance at close of period | | $ | 173,858 | | $ | 173,789 | | $ | 141,997 | |
(2) The aggregate cost of real estate (in thousands) for federal income tax purposes is $143,892
| (1) | Reconciliations of total real estate carrying value for the three years ended December 31, 2005 follows: |
| | | 2005 | | 2004 | | 2003 | |
| Balance at beginning of period | | $ | 141,997,630 | | $ | 131,720,634 | | $ | 117,029,136 | |
| Additions during the period | | | | | | | | | | |
| Acquisitions | | | 30,379,206 | | | 8,906,057 | | | 13,102,500 | |
| Improvements | | | 1,412,540 | | | 1,370,939 | | | 1,588,998 | |
| | | | 31,791,746 | | | 10,276,996 | | | 14,691,498 | |
| Deductions - cost of real estate sold | | | — | | | — | | | — | |
| Balance at close of period | | $ | 173,789,376 | | $ | 141,997,630 | | $ | 131,720,634 | |
| (2) | The aggregate cost of real estate for federal income tax purposes is $142,764,149. |
Hartman Commercial Properties REIT and Subsidiary
Index to Exhibits
Exhibit No. | | Description |
| 3.1 | |
3.1
| Declaration of Trust of Hartman Commercial Properties REIT, a Maryland real estate investment trust (previously filed as and incorporated by reference to Exhibit 3.1 to the Registrant’s Registration Statement on Form S-11/A, Commission File No. 333-111674, filed on May 24, 2004) |
| | | |
3.2 | | Articles of Amendment and Restatement of Declaration of Trust of Hartman Commercial Properties REIT (previously filed as and incorporated by reference to Exhibit 3.2 to the Registrant’s Registration Statement on Form S-11/A, Commission File No. 333-111674, filed on July 29, 2004) |
| | |
| 3.3 | | Articles Supplementary (previously filed as and incorporated by reference to Exhibit 3(i).1 to the Registrant’s Current Report on Form 8-K, Commission File No. 000-50256, filed on December 6, 2006) |
| | |
| 3.4 | | Bylaws (previously filed as and incorporated by reference to Exhibit 3.2 to the Registrant’s Registration Statement on Form S-11, Commission File No. 333-111674, filed on December 31, 2003) |
| | |
| 3.5 | | First Amendment to Bylaws (previously filed as and incorporated by reference to Exhibit 3(ii).1 to the Registrant’s Current Report on Form 8-K, Commission File No. 000-50256, filed on December 6, 2006) |
| | |
| 4.1 | | Specimen certificate for common shares of beneficial interest, par value $.001 (previously filed as and incorporated by reference to Exhibit 4.2 to the Registrant’s Registration Statement on Form S-11, Commission File No. 333-111674, filed on December 31, 2003) |
| | |
| 10.1 | | Agreement of Limited Partnership of Hartman REIT Operating Partnership, L.P. (previously filed as and incorporated by reference to Exhibit 10.1 to the Registrant’s General Form for Registration of Securities on Form 10, filed on April 30, 2003) |
| | |
| 10.2 | | Amended and Restated Property Management Agreement (previously filed and incorporated by reference to Exhibit 10.2 to the Registrant’s Form 10-K Annual Report for the year ended December 31, 2004, filed on March 31, 2005) (terminated on October 2, 2006) |
| | |
| 10.3 | | Advisory Agreement (previously filed and incorporated by reference to Exhibit 10.3 to the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004, filed on March 31, 2005) (terminated on September 30, 2006) |
| | |
| 10.4 | | Certificate of Formation of Hartman REIT Operating Partnership II GP, LLC (previously filed as and incorporated by reference to Exhibit 10.3 to the Registrant’s General Form for Registration of Securities on Form 10, filed on April 30, 2003) |
| | |
| 10.5 | | Limited Liability Company Agreement of Hartman REIT Operating Partnership II GP, LLC (previously filed as and incorporated by reference to Exhibit 10.4 to the Registrant’s General Form for Registration of Securities on Form 10, filed on April 30, 2003) |
| | |
| 10.6 | | Agreement of Limited Partnership of Hartman REIT Operating Partnership II, L.P. (previously filed as and incorporated by reference to Exhibit 10.6 to the Registrant’s General Form for Registration of Securities on Form 10, filed on April 30, 2003) |
Exhibit No. | | Description |
| 10.7 | | Promissory Note, dated December 20, 2002, between Hartman REIT Operating Partnership II, L.P. and GMAC Commercial Mortgage Corporation (previously filed as and incorporated by reference to Exhibit 10.7 to the Registrant’s General Form for Registration of Securities on Form 10, filed on April 30, 2003) |
| |
Exhibit No.
| Description
| |
| 10.8 | |
10.8 | Deed of Trust and Security Agreement, dated December 20, 2002, between Hartman REIT Operating Partnership II, L.P. and GMAC Commercial Mortgage Corporation (previously filed as and incorporated by reference to Exhibit 10.8 to the Registrant’s General Form for Registration of Securities on Form 10, filed on April 30, 2003) |
| | |
| 10.9 | | Loan Agreement between Hartman REIT Operating Partnership, L.P. and Union Planter’s Bank, N.A. (previously filed as and incorporated by reference to Exhibit 10.10 to Amendment No. 2 to the Registrant’s General Form for Registration of Securities on Form 10, filed on August 6, 2003) |
| | |
| 10.10+ | | Employee and Trust Manager Incentive Plan (previously filed and incorporated by reference to Exhibit 10.9 to the Registrant’s General Form for Registration of Securities on Form 10, filed on April 30, 2003) |
| | |
| 10.11+ | | Summary Description of Hartman Commercial Properties REIT Trustee Compensation Arrangements (previously filed and incorporated by reference to Exhibit 10.11 of the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004, filed on March 31, 2005) |
| | |
| 10.12 | | Form of Agreement and Plan of Merger and Reorganization (previously filed as and incorporated by reference to the Registrant’s Proxy Statement, filed on April 29, 2004) |
| | |
| 10.13 | | Dealer Manager Agreement (previously filed and as incorporated by reference to Exhibit 10.13 to the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004, Commission File No. 000-50256, Central Index Key No. 0001175535, filed on March 31, 2005) |
| | |
| 10.14 | | Escrow Agreement (previously filed as and incorporated by reference to Exhibit 10.14 to the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004, filed on March 31, 2005) |
| | |
| 10.15 | | Form of Amendment to the Agreement of Limited Partnership of Hartman REIT Operating Partnership, L.P. (previously filed in and incorporated by reference to the Registrant’s Registration Statement on Form S-11, Commission File No. 333-111674, filed on December 31, 2003) |
| | |
| 10.16 | | Revolving Credit Agreement among Hartman REIT Operating Partnership, L.P., Hartman REIT Operating Partnership III LP, and KeyBank National Association (together with other participating lenders), dated June 2, 2005 (previously filed as and incorporated by reference to Exhibit 10.13 to Post-Effective Amendment No. 1 to the Registrant’s Registration Statement on Form S-11, Commission File No. 333-111674, filed on June 17, 2005) |
| | |
| 10.17 | | Form of Revolving Credit Note under Revolving Credit Agreement among Hartman REIT Operating Partnership, L.P., Hartman REIT Operating Partnership III LP, and KeyBank National Association (together with other participating lenders) (previously filed as and incorporated by reference to Exhibit 10.14 to Post-Effective Amendment No. 1 to the Registrant’s Registration Statement on Form S-11, Commission File No. 333-111674, filed on June 17, 2005) |
Exhibit No. | | Description |
| 10.18 | | Guaranty under Revolving Credit Agreement among Hartman REIT Operating Partnership, L.P., Hartman REIT Operating Partnership III LP, and KeyBank National Association (together with other participating lenders) (previously filed as and incorporated by reference to Exhibit 10.15 to Post-Effective Amendment No. 1 to the Registrant’s Registration Statement on Form S-11, Commission File No. 333-111674, filed on June 17, 2005) |
Exhibit No.
| Description
| |
| 10.19 | |
10.19 | Form of Negative Pledge Agreement under Revolving Credit Agreement among Hartman REIT Operating Partnership, L.P., Hartman REIT Operating Partnership III LP, and KeyBank National Association (together with other participating lenders) (previously filed as and incorporated by reference to Exhibit 10.16 to Post-Effective Amendment No. 1 to the Registrant’s Registration Statement on Form S-11, Commission File No. 333-111674, filed on June 17, 2005) |
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| 10.20 | | Form of Collateral Assignment of Partnership Interests under Revolving Credit Agreement among Hartman REIT Operating Partnership, L.P., Hartman REIT Operating Partnership III LP, and KeyBank National Association (together with other participating lenders) (previously filed as and incorporated by reference to Exhibit 10.17 to Post-Effective Amendment No. 1 to the Registrant’s Registration Statement on Form S-11, Commission File No. 333-111674, filed on June 17, 2005) |
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| 10.21 | | Modification Agreement, dated as of February 28, 2006, between Hartman REIT Operating Partnership II, L.P. and GMAC Commercial Mortgage Corporation (previously filed and incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K, filed March 3, 2006) |
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10.22*10.22 | | Interest Rate Swap Agreement dated as of March 16, 2006, between Hartman REIT Operating Partnership, L.P., Hartman REIT Operating Partnership III LP, and KeyBank National Association.Association (previously filed as and incorporated by reference to Exhibit 10.22 to the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2005, filed on March 31, 2006) |
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| 10.23 | | Waiver and Amendment No. 1, dated May 8, 2006, between Hartman REIT Operating Partnership, L.P., Hartman REIT Operating Partnership III, L.P., and KeyBank National Association, as agent for the consortium of lenders (previously filed and incorporated by reference to Exhibit 10.23 to the Registrant’s Quarterly Report on Form 10-Q, filed on May 12, 2006) |
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14.1*10.24* | | Amendment No 2, dated May 19, 2006, between Hartman REIT Operating Partnership, L.P., Hartman REIT Operating Partnership III, L.P., and KeyBank National Association, as agent for the consortium of lenders |
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| 10.25* | | Promissory Note between HCP REIT Operating Company IV LLC and MidFirst Bank, dated March 1, 2007 |
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| 10.26* | | Amendment No 3, dated March 26, 2007, between Hartman REIT Operating Partnership, L.P., Hartman REIT Operating Partnership III, L.P., and KeyBank National Association, as agent for the consortium of lenders |
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| 14.1 | | Code of Business Conduct (previously filed as and incorporated by reference to Exhibit 14.1 to the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2005, filed on March 31, 2006) |
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| 21.1 | | List of subsidiaries of Hartman Commercial Properties REIT (previously filed as and incorporated by reference to Exhibit 21.1 to the Registrant’s Annual Report on Form 10-K for the year ended December 31, 2004, filed on March 31, 2005) |
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| 24.1 | | Power of Attorney (included on the Signatures page hereto) |
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| 31.1* | | Certification of Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
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| 31.2* | | Certification of Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
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Exhibit No. | | Description |
| 32.1* | | Certificate of Chief Executive and Financial Officers |
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| + | Denotes management contract or compensatory plan or arrangement. |
* Filed herewith.+ Denotes management contract or compensatory plan or arrangement.