PART I. FINANCIAL INFORMATION (CONTINUED)
Item 1. Financial Statements (continued)
KBS REAL ESTATE INVESTMENT TRUST III, INC.
The following table summarizes the effects of derivative instruments on the Company’s consolidated statements of operations (in thousands):
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 1. Financial Statements (continued)
KBS REAL ESTATE INVESTMENT TRUST III, INC.
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
September 30, 20172023
(unaudited)
8. FAIR VALUE DISCLOSURES
Under GAAP, the Company is required to measure certain financial instruments at fair value on a recurring basis. In addition, the Company is required to measure other non-financial and financial assets at fair value on a non-recurring basis (e.g., carrying value of impaired real estate loans receivable and long-lived assets). Fair value is defined as the price that would be received upon the sale of an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The GAAP fair value framework uses a three-tiered approach. Fair value measurements are classified and disclosed in one of the following three categories:
•Level 1: unadjusted quoted prices in active markets that are accessible at the measurement date for identical assets or liabilities;
•Level 2: quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-derived valuations in which significant inputs and significant value drivers are observable in active markets; and
•Level 3: prices or valuation techniques where little or no market data is available that requires inputs that are both significant to the fair value measurement and unobservable.
The fair value for certain financial instruments is derived using a combination of market quotes, pricing models and other valuation techniques that involve significant management judgment. The price transparency of financial instruments is a key determinant of the degree of judgment involved in determining the fair value of the Company’s financial instruments. Financial instruments for which actively quoted prices or pricing parameters are available and for which markets contain orderly transactions will generally have a higher degree of price transparency than financial instruments for which markets are inactive or consist of non-orderly trades. The Company evaluates several factors when determining if a market is inactive or when market transactions are not orderly. The following is a summary of the methods and assumptions used by management in estimating the fair value of each class of assets and liabilities for which it is practicable to estimate the fair value:
Cash and cash equivalents, restricted cash, rent and other receivables, and accounts payable and accrued liabilities: These balances approximate their fair values due to the short maturities of these items.
Real estate equity securities: At September 30, 2023, the Company’s investment in the units of the SREIT was presented at fair value on the accompanying consolidated balance sheet. The fair value of the units of the SREIT was based on a quoted price in an active market on a major stock exchange. The Company classifies these inputs as Level 1 inputs.
Derivative instruments: The Company’s derivative instruments are presented at fair value on the accompanying consolidated balance sheets. The valuation of these instruments is determined using a proprietary model that utilizes observable inputs. As such, the Company classifies these inputs as Level 2 inputs. The proprietary model uses the contractual terms of the derivatives, including the period to maturity, as well as observable market-based inputs, including interest rate curves and volatility. The fair values of interest rate swaps are estimated using the market standard methodology of netting the discounted fixed cash payments and the discounted expected variable cash receipts. The variable cash receipts are based on an expectation of interest rates (forward curves) derived from observable market interest rate curves. In addition, credit valuation adjustments, which consider the impact of any credit risks to the contracts, are incorporated in the fair values to account for potential nonperformance risk. The fair value of interest rate caps (floors) are determined using the market standard methodology of discounting the future expected cash payments (receipts) which would occur if variable interest rates rise above (below) the strike rate of the caps (floors). The variable interest rates used in the calculation of projected payments (receipts) on the cap (floors) are based on an expectation of future interest rates derived from observed market interest rate curves and volatilities.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 1. Financial Statements (continued)
KBS REAL ESTATE INVESTMENT TRUST III, INC.
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
September 30, 2023
(unaudited)
8. FAIR VALUE DISCLOSURES (CONTINUED)
Notes payable: The fair values of the Company’s notes payable are estimated using a discounted cash flow analysis based on management’s estimates of current market interest rates for instruments with similar characteristics, including remaining loan term, loan-to-value ratio, type of collateral and other credit enhancements. Additionally, when determining the fair value of a liability in circumstances in which a quoted price in an active market for an identical liability is not available, the Company measures fair value using (i) a valuation technique that uses the quoted price of the identical liability when traded as an asset or quoted prices for similar liabilities when traded as assets or (ii) another valuation technique that is consistent with the principles of fair value measurement, such as the income approach or the market approach. The Company classifies these inputs as Level 3 inputs.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 1. Financial Statements (continued)
KBS REAL ESTATE INVESTMENT TRUST III, INC.
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
September 30, 2017
(unaudited)
The following were the face values, carrying amounts and fair values of the Company’s notes payable as of September 30, 20172023 and December 31, 2016,2022, which carrying amounts generally do not approximate the fair values (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | September 30, 2023 | | December 31, 2022 |
| | | Face Value | | Carrying Amount | | Fair Value | | Face Value | | Carrying Amount | | Fair Value |
| Financial liabilities: | | | | | | | | | | | | |
| Notes payable | | $ | 1,716,859 | | | $ | 1,715,243 | | | $ | 1,656,701 | | | $ | 1,671,395 | | | $ | 1,667,288 | | | $ | 1,654,046 | |
|
| | | | | | | | | | | | | | | | | | | | | | | | |
| | | September 30, 2017 | | December 31, 2016 |
| | | Face Value | | Carrying Amount | | Fair Value | | Face Value | | Carrying Amount | | Fair Value |
| Financial liabilities: | | | | | | | | | | | | |
| Notes payable | | $ | 1,898,897 |
| | $ | 1,891,442 |
| | $ | 1,889,296 |
| | $ | 1,793,405 |
| | $ | 1,783,468 |
| | $ | 1,775,953 |
|
Disclosure of the fair values of financial instruments is based on pertinent information available to the Company as of the period end and requires a significant amount of judgment. Low levels of transaction volume for certain financial instruments have made the estimation of fair values difficult and, therefore, both the actual results and the Company’s estimate of value at a future date could be materially different.
As of September 30, 2017,2023, the Company measured the following assets and liabilities at fair value (in thousands):
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | Fair Value Measurements Using |
| | | Total | | Quoted Prices in
Active Markets
for Identical Assets
(Level 1) | | Significant Other
Observable Inputs
(Level 2) | | Significant
Unobservable Inputs
(Level 3) |
| Recurring Basis: | | | | | | | | |
| Real estate equity securities | | $ | 29,786 | | | $ | 29,786 | | | $ | — | | | $ | — | |
Asset derivatives - interest rate swaps (1) | | $ | 49,415 | | | $ | — | | | $ | 49,415 | | | $ | — | |
| Asset derivatives - interest rate caps | | $ | — | | | $ | — | | | $ | — | | | $ | — | |
| | | | | | | | |
| | | | | | | | |
_____________________
(1) Includes eight forward interest rate swaps. See Note 7, “Derivative Instruments.” Also includes a $1.1 million asset related to the fair value of two off-market interest rate swaps determined to be hybrid financial instruments for which the Company elected to apply the fair value option.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 1. Financial Statements (continued)
KBS REAL ESTATE INVESTMENT TRUST III, INC.
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
September 30, 2023
(unaudited)
8. FAIR VALUE DISCLOSURES (CONTINUED)
|
| | | | | | | | | | | | | | | | |
| �� | | | | Fair Value Measurements Using |
| | | Total | | Quoted Prices in Active Markets
for Identical Assets
(Level 1) | | Significant Other Observable Inputs
(Level 2) | | Significant Unobservable Inputs
(Level 3) |
| Recurring Basis: | | | | | | | | |
| Asset derivatives - interest rate swaps | | $ | 1,500 |
| | $ | — |
| | $ | 1,500 |
| | $ | — |
|
| Liability derivatives - interest rate swaps | | (4,700 | ) | | — |
| | (4,700 | ) | | — |
|
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | Fair Value Measurements Using |
| | | Total | | Quoted Prices in
Active Markets
for Identical Assets
(Level 1) | | Significant Other
Observable Inputs
(Level 2) | | Significant
Unobservable Inputs
(Level 3) |
| Nonrecurring Basis: | | | | | | | | |
Impaired real estate (1) | | $ | 71,918 | | | $ | — | | | $ | — | | | $ | 71,918 | |
_____________________ | |
9. | RELATED PARTY TRANSACTIONS |
(1) Amount represents the fair value for a real estate asset impacted by an impairment charge during the nine months ended September 30, 2023, as of the date that the fair value measurement was made, which was June 30, 2023. The carrying value for the real estate asset measured at a reporting date other than June 30, 2023 may have subsequently increased or decreased from the fair value reflected due to activity that has occurred since the measurement date.
During the nine months ended September 30, 2023, one of the Company’s real estate properties was measured at its estimated fair value based on a discounted cash flow approach. The significant unobservable inputs the Company used in measuring the estimated fair value of this property included a discount rate of 9.75% and a terminal cap rate of 7.75%. See Note 3, “Real Estate – Impairment of Real Estate” for further discussion of the impaired real estate property.
9. RELATED PARTY TRANSACTIONS
The Company has entered into the Advisory Agreement with the Advisor and the Dealer Manager Agreement with the Dealer Manager. These agreements entitled the Advisor and/or the Dealer Manager to specified fees upon the provision of certain services with regard to the Offering and reimbursement of organization and offering costs incurred by the Advisor and the Dealer Manager on behalf of the Company and entitle the Advisor to specified fees upon the provision of certain services with regard to the investment of funds in real estate investments, the management of those investments, among other services, and the disposition of investments, as well as entitle the Advisor and/or the Dealer Manager to reimbursement of offering costs related to the dividend reinvestment plan incurred by the Advisor and the Dealer Manager on behalf of the Company and certain costs incurred by the Advisor in providing services to the Company. In addition, the Advisor is entitled to certain other fees, including an incentive fee upon achieving certain performance goals, as detailed in the Advisory Agreement. The Company has also entered into a fee reimbursement agreement with the Dealer Manager pursuant to which the Company agreed to reimburse the Dealer Manager for certain fees and expenses it incurs for administering the Company’s participation in the DTCC Alternative Investment Product Platform with respect to certain accounts of the Company’s investors serviced through the platform. The Advisor and Dealer Manager also serve or served as the advisor and dealer manager, respectively, for KBS Real Estate Investment Trust II, Inc. (“KBS REIT I”II”), KBS Real Estate Investment Trust II, Inc., KBS Strategic Opportunity REIT, Inc., KBS Legacy Partners Apartment REIT, Inc., KBS Strategic Opportunity REIT II, Inc. (liquidated May 2023) and KBS Growth & Income REIT, Inc. (“KBS Growth & Income REIT”).
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 1. Financial Statements (continued)
KBS REAL ESTATE INVESTMENT TRUST III, INC.
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
September 30, 2017
(unaudited)
On January 6, 2014,1, 2022, the Company, together with KBS REIT I,II, KBS Real Estate Investment Trust II, Inc., KBS Strategic OpportunityGrowth & Income REIT, Inc., KBS Legacy Partners Apartment REIT, Inc., KBS Strategic Opportunity REIT II, Inc., the Dealer Manager, the Advisor and other KBS-affiliated entities, had entered into an errors and omissions and directors and officers liability insurance program where the lower tiers of such insurance coverage arewere shared. The cost of these lower tiers is allocated by the Advisor and its insurance broker among each of the various entities covered by the program, and is billed directly to each entity. The allocation of these shared coverage costs is proportionate to the pricing by the insurance marketplace for the first tiers of directors and officers liability coverage purchased individually by each REIT. The Advisor’s and the Dealer Manager’s portion of the shared lower tiers’ cost is proportionate to the respective entities’ prior cost for the errors and omissions insurance. In June 2015, KBS Growth & Income REIT, Inc. was added to the insurance program at terms similar to those described above. In June 2017,2023, the Company renewed its participation in the program, and the program is effective through June 30, 2018. As2024. At renewal on June 30, 2022, due to its liquidation, KBS REIT I is implementing its plan of liquidation, at renewal in June 2017, KBS REIT III elected to cease participation in the program and obtainobtained separate insurance coverage.
During the three and nine months ended September At renewal on June 30, 2017 and 2016, no other business transactions occurred between the Company and KBS Real Estate Investment Trust, Inc., KBS Real Estate Investment Trust II, Inc., KBS Strategic Opportunity REIT, Inc., KBS Legacy Partners Apartment REIT, Inc., KBS Strategic Opportunity REIT II, Inc. and2023, due to its liquidation, KBS Growth & Income REIT Inc.elected to cease participation in the program and obtained separate insurance coverage.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 1. Financial Statements (continued)
KBS REAL ESTATE INVESTMENT TRUST III, INC.
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
September 30, 2023
(unaudited)
9. RELATED PARTY TRANSACTIONS (CONTINUED)
Pursuant to the terms of these agreements, summarized below are the related-party costs incurred by the Company for the three and nine months ended September 30, 20172023 and 2016,2022, respectively, and any related amounts receivable and payable as of September 30, 20172023 and December 31, 20162022 (in thousands):
|
| | | | | | | | | | | | | | | | | | | | | | | |
| | Incurred | | Payable as of |
| | Three Months Ended September 30, | | Nine Months Ended September 30, | | September 30, | | December 31, |
| | 2017 | | 2016 | | 2017 | | 2016 | | 2017 | | 2016 |
| Expensed | | | | | | | | | | | |
| Asset management fees | $ | 6,587 |
| | $ | 6,286 |
| | $ | 19,223 |
| | $ | 18,646 |
| | $ | 2,158 |
| | $ | 2,126 |
|
Reimbursement of operating expenses (1) | 59 |
| | 68 |
| | 255 |
| | 261 |
| | 70 |
| | 139 |
|
| Real estate acquisition fees | — |
| | — |
| | — |
| | 1,473 |
| | — |
| | — |
|
| Capitalized | | | | | | | | | | | |
| Acquisition fee on development project | 64 |
| | 28 |
| | 234 |
| | 87 |
| | 355 |
| | 121 |
|
| Acquisition fee on unconsolidated joint venture | 120 |
| | — |
| | 497 |
| | — |
| | 173 |
| | — |
|
| Asset management fee on development project | — |
| | — |
| | 48 |
| | — |
| | — |
| | 11 |
|
| Asset management fee on unconsolidated joint venture | — |
| | — |
| | 14 |
| | — |
| | — |
| | — |
|
| | $ | 6,830 |
| | $ | 6,382 |
| | $ | 20,271 |
| | $ | 20,467 |
| | $ | 2,756 |
| | $ | 2,397 |
|
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Incurred | | Incurred | | Receivable as of | | Payable as of |
| Three Months Ended September 30, | | Nine Months Ended September 30, | | September 30, | | December 31, | | September 30, | | December 31, |
| | 2023 | | 2022 | | 2023 | | 2022 | | 2023 | | 2022 | | 2023 | | 2022 |
| Expensed | | | | | | | | | | | | | | | |
Asset management fees (1) | $ | 5,268 | | | $ | 5,091 | | | $ | 15,542 | | | $ | 14,952 | | | $ | — | | | $ | — | | | $ | 15,383 | | | $ | 10,191 | |
Reimbursement of operating expenses (2) | 79 | | | 53 | | | 273 | | | 245 | | | — | | | 10 | | | 294 | | | 174 | |
| | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | |
| $ | 5,347 | | | $ | 5,144 | | | $ | 15,815 | | | $ | 15,197 | | | $ | — | | | $ | 10 | | | $ | 15,677 | | | $ | 10,365 | |
_____________________
(1) See “Asset Management Fees” below.
(2)Reimbursable operating expenses primarily consists of internal audit personnel costs, accounting software costs and cybersecurity related expenses incurred by the Advisor under the Advisory Agreement. The Company has reimbursed the Advisor for the Company’s allocable portion of the salaries, benefits and overhead of internal audit department personnel providing services to the Company. These amounts totaled $49,000$30,000 and $169,000$86,000 for the three and nine months ended September 30, 2017,2023, respectively, and $51,000$48,000 and $145,000$150,000 for the three and nine months ended September 30, 2016,2022, respectively, and were the only type of employee costs reimbursed under the Advisory Agreement for the three and nine months ended September 30, 20172023 and 2016,2022, respectively. The Company willcurrently does not reimburse for employee costs in connection with services for which the Advisor earns acquisition or origination fees or disposition fees (other than reimbursement of travel and communication expenses) orand other than future payments pursuant to the Bonus Retention Fund (see below, “–Asset Management Fees”), the Company does not reimburse the Advisor for the salaries or benefits the Advisor or its affiliates may pay to the Company’s executive officers.officers and affiliated directors. In addition to the amounts above, the Company reimburses the Advisor for certain of the Company'sCompany’s direct costs incurred from third parties that were initially paid by the Advisor on behalf of the Company. As of December 31, 2021, the Company was charged $0.8 million by certain vendors for services for which the Company believes it was either overcharged or which were never performed. Additionally, during the year ended December 31, 2022, the Company incurred $1.6 million of legal and accounting costs related to the investigation of this matter. The Advisor agreed to reimburse the Company for any amounts inappropriately charged to the Company for these vendor services, including legal and accounting costs incurred related to the investigation of this matter. As of September 30, 2023, the Company recorded a credit against the liability for asset management fees that were deferred in prior periods of $0.5 million that would have been due by the Company to the Advisor in those periods as a result of the increase in the Company’s net income and MFFO for such periods, and corresponding decrease in expenses, related to the charges that the Company should not have incurred and additionally, the Advisor reimbursed the Company $1.9 million in cash for amounts inappropriately charged to the Company and for legal and accounting costs related to the investigation of this matter.
In connection with the Offering, Messrs. Bren, Hall, McMillan and Schreiber agreed to provide additional indemnification to one of the participating broker-dealers. The Company agreed to add supplemental coverage to its directors’ and officers’ insurance coverage to insure Messrs. Bren, Hall, McMillan and Schreiber’s obligations under this indemnification agreement in exchange for reimbursement by Messrs. Bren, Hall, McMillan and Schreiber to the Company for all costs, expenses and premiums related to this supplemental coverage. During the nine months ended September 30, 2023 and 2022, the Advisor incurred $72,000 and $79,000, respectively, for the costs of the supplemental coverage obtained by the Company.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 1. Financial Statements (continued)
KBS REAL ESTATE INVESTMENT TRUST III, INC.
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
September 30, 20172023
(unaudited)
9. RELATED PARTY TRANSACTIONS (CONTINUED)
Asset Management Fees
For asset management services, the Company pays the Advisor a monthly fee. With respect to investments in real property, the asset management fee is a monthly fee equal to one-twelfth of 0.75% of the amount paid or allocated to acquire the investment, plus the cost of any subsequent development, construction or improvements to the property. This amount includes any portion of the investment that was debt financed and is inclusive of acquisition expenses related thereto (but excludes acquisition fees paid or payable to the Advisor). In the case of investments made through joint ventures, the asset management fee is determined based on the Company’s proportionate share of the underlying investment (but excluding acquisition fees paid or payable to the Advisor). With respect to investments in loans and any investments other than real property, the asset management fee is a monthly fee calculated, each month, as one-twelfth of 0.75% of the lesser of (i) the amount actually paid or allocated to acquire or fund the loan or other investment (which amount includes any portion of the investment that was debt financed and is inclusive of acquisition or origination expenses related thereto, but is exclusive of acquisition or origination fees paid or payable to the Advisor) and (ii) the outstanding principal amount of such loan or other investment, plus the acquisition or origination expenses related to the acquisition or funding of such investment (excluding acquisition or origination fees paid or payable to the Advisor), as of the time of calculation. The Company currently does not pay any asset management fees in connection with the Offering,Company’s investment in the equity securities of the SREIT.
Notwithstanding the foregoing, on November 8, 2022, the Company and the Advisor amended the advisory agreement and commencing with asset management fees accruing from October 1, 2022, the Company pays $1.15 million of the monthly asset management fee to the Advisor in cash and the Company deposits the remainder of the monthly asset management fee into an interest bearing account in the Company’s sponsorsname, which amounts will be paid to the Advisor from such account solely as reimbursement for payments made by the Advisor pursuant to the Advisor’s employee retention program (such account, the “Bonus Retention Fund”). The Bonus Retention Fund was established in order to incentivize and retain key employees of the Advisor. The Company will be deemed to have fully funded the Bonus Retention Fund once the Company has deposited $8.5 million in cash into such account, at which time the monthly asset management fee will be payable in full to the Advisor. The Advisor has acknowledged and agreed that payments by the Advisor to provideemployees under the Advisor’s employee retention program that are reimbursed by the Company from the Bonus Retention Fund will be conditioned on (a) the Company’s liquidation and dissolution; (b) a transaction involving the acquisition, merger, conversion or consolidation, either directly or indirectly, of the Company in which (i) the Company is not the surviving entity and (ii) the Advisor is no longer serving as an advisor or asset manager to the surviving entity in such transaction; (c) the sale or other disposition of all or substantially all of the Company’s assets; (d) the non-renewal or termination of the Advisory Agreement without cause; or (e) the termination of the employee without cause. To the extent the Bonus Retention Fund is not fully paid out to employees as set forth above, the Advisory Agreement provides that the residual amount will be deemed additional indemnification toDeferred Asset Management Fees (defined below) and be treated in accordance with the provisions for payment of Deferred Asset Management Fees. Two of the Company’s executive officers, Jeff Waldvogel and Stacie Yamane, and one of the participating broker-dealers. TheCompany’s directors, Marc DeLuca, participate in and have been allocated awards under the Advisor’s employee retention program, which awards would only be paid as set forth above. As of September 30, 2023, the Company agreedhas deposited $6.9 million of restricted cash into the Bonus Retention Fund and the Company had not made any payments to add supplemental coveragethe Advisor from the Bonus Retention Fund.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 1. Financial Statements (continued)
KBS REAL ESTATE INVESTMENT TRUST III, INC.
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
September 30, 2023
(unaudited)
9. RELATED PARTY TRANSACTIONS (CONTINUED)
Prior to its directors’ and officers’ insurance coverageamending the Advisory Agreement in November 2022, the prior advisory agreement had provided that with respect to insureasset management fees accruing from March 1, 2014, the sponsors’ obligations under this indemnification agreementAdvisor would defer, without interest, the Company’s obligation to pay asset management fees for any month in exchangewhich the Company’s modified funds from operations (“MFFO”) for reimbursementsuch month, as such term is defined in the practice guideline issued by the sponsors toInstitute for Portfolio Alternatives (“IPA”) in November 2010 and interpreted by the Company, excluding asset management fees, did not exceed the amount of distributions declared by the Company for all costs, expensesrecord dates of that month. The Company remained obligated to pay the Advisor an asset management fee in any month in which the Company’s MFFO, excluding asset management fees, for such month exceeded the amount of distributions declared for the record dates of that month (such excess amount, an “MFFO Surplus”); however, any amount of such asset management fee in excess of the MFFO Surplus was deferred under the prior advisory agreement. If the MFFO Surplus for any month exceeded the amount of the asset management fee payable for such month, any remaining MFFO Surplus was applied to pay any asset management fee amounts previously deferred in accordance with the prior advisory agreement.
Pursuant to the current Advisory Agreement, asset management fees accruing from October 1, 2022 are no longer subject to the deferral provision described above. Asset management fees that remained deferred as of September 30, 2022 are “Deferred Asset Management Fees.” As of September 30, 2022, Deferred Asset Management Fees totaled $8.5 million. The Advisory Agreement also provides that the Company remains obligated to pay the Advisor outstanding Deferred Asset Management Fees in any month to the extent that MFFO for such month exceeds the amount of distributions declared for the record dates of that month (such excess amount, a “RMFFO Surplus”); provided however, that any amount of outstanding Deferred Asset Management Fees in excess of the RMFFO Surplus will continue to be deferred.
As of September 30, 2023 and premiumsDecember 31, 2022, the Company had accrued $15.4 million and $10.2 million of asset management fees, respectively, of which $8.5 million were Deferred Asset Management Fees as of September 30, 2023 and December 31, 2022, and $6.9 million and $1.7 million were related to this supplemental coverage. Duringasset management fees that were restricted for payment and deposited in the nine months ended Bonus Retention Fund as of September 30, 2017,2023 and December 31, 2022, respectively.
Consistent with the prior advisory agreement, the current Advisory Agreement provides that notwithstanding the foregoing, any and all Deferred Asset Management Fees that are unpaid will become immediately due and payable at such time as the Company’s stockholders have received, together as a collective group, aggregate distributions (including distributions that may constitute a return of capital for federal income tax purposes) sufficient to provide (i) an 8.0% per year cumulative, noncompounded return on such net invested capital (the “Stockholders’ 8% Return”) and (ii) a return of their net invested capital, or the amount calculated by multiplying the total number of shares purchased by stockholders by the issue price, reduced by any amounts to repurchase shares pursuant to the Company’s share redemption program. The Stockholders’ 8% Return is not based on the return provided to any individual stockholder. Accordingly, it is not necessary for each of the Company’s stockholders to have received any minimum return in order for the Advisor incurred $0.1 million forto receive Deferred Asset Management Fees.
In addition, the costscurrent Advisory Agreement provides that any and all Deferred Asset Management Fees that are unpaid will also be immediately due and payable upon the earlier of:
(i) a listing of the supplemental coverage obtainedCompany’s shares of common stock on a national securities exchange;
(ii) the Company’s liquidation and dissolution;
(iii) a transaction involving the acquisition, merger, conversion or consolidation, either directly or indirectly, of the Company in which (y) the Company is not the surviving entity and (z) the Advisor is no longer serving as an advisor or asset manager to the surviving entity in such transaction; and
(iv) the sale or other disposition of all or substantially all of the Company’s assets.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 1. Financial Statements (continued)
KBS REAL ESTATE INVESTMENT TRUST III, INC.
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
September 30, 2023
(unaudited)
9. RELATED PARTY TRANSACTIONS (CONTINUED)
The Advisory Agreement has a term expiring on September 27, 2024 but may be renewed for an unlimited number of successive one-year periods upon the mutual consent of the Company and the Advisor. The Advisory Agreement may be terminated (i) upon 60 days written notice without cause or penalty by either the Company (acting through the conflicts committee) or the Advisor or (ii) immediately by the Company. DuringCompany for cause or upon the nine months ended September 30, 2016,bankruptcy of the Advisor. If the Advisory Agreement is terminated without cause, then the Advisor incurred $0.1 million forwill be entitled to receive from the costsCompany any residual amount of the supplemental coverage obtainedBonus Retention Fund deemed to be additional Deferred Asset Management Fees, provided that upon such non-renewal or termination the Company does not retain an advisor in which the Advisor or its affiliates have a majority interest. Upon termination of the Advisory Agreement, all unpaid Deferred Asset Management Fees will automatically be forfeited by the Company.
DuringAdvisor, and if the nine months ended September 30, 2017,Advisory Agreement is terminated for cause, any residual amount of the Advisor paidBonus Retention Fund deemed to be additional Deferred Asset Management Fees will also automatically be forfeited by the Company a $0.2 million property insurance rebate. During the nine months ended September 30, 2016, the Advisor paid the Company a $0.2 million property insurance rebate and $0.1 million for legal and professional fees due from the Advisor.
Lease to Affiliate
On May 29, 2015, the indirect wholly owned subsidiary (the “Lessor”) of the Company that owns 3003 Washington Boulevard entered into a lease with an affiliate of the Advisor (the “Lessee”) for 5,046 rentable square feet, or approximately 2.3%2.4% of the total rentable square feet, at 3003 Washington Boulevard. The lease commenced on October 1, 2015 and terminateswas amended on March 14, 2019 (the “Amended Lease”) to extend the lease period commencing on September 1, 2019 and terminating on August 31, 2019.2024 and set the annual base rent during the extension period. The annualized base rent which represents annualized contractual base rental income as of September 30, 2017, adjusted to straight-line any contractual tenant concessions (including free rent) and rent increases from the lease’s inception through the balancecommencement of the lease term, for this leaseAmended Lease is approximately $0.2$0.3 million, and the average annual rental rate (net of rental abatements) over the lease term of the Amended Lease through its termination is $46.38$62.55 per square foot.
During the three and nine months ended September 30, 2017,2023, the Company recognized $61,000$83,000 and $180,000$248,000 of revenue related to this lease, respectively. During the three and nine months ended September 30, 2016,2022, the Company recognized $59,000$82,000 and $176,000$247,000 of revenue related to this lease, respectively.
Prior to their approval of the lease and the Amended Lease, the Company’s conflicts committee and board of directors determined the lease to be fair and reasonable to the Company.
Portfolio Sale
On July 18, 2019, the Company sold the Singapore Portfolio to the SREIT, which is affiliated with Charles J. Schreiber, Jr., a director and executive officer of the Company. See Note 5, “Real Estate Equity Securities” for information related to the Company’s investment in the SREIT. The SREIT is externally managed by an entity (the “Manager”) in which Charles J. Schreiber, Jr. currently holds an indirect ownership interest. Mr. Schreiber is also a former director of the Manager. The SREIT pays the Manager an annual base fee of 10% of annual distributable income and an annual performance fee of 25% of the increase in distributions per unit of the SREIT from the preceding year. For acquisitions other than the Singapore Portfolio, the SREIT pays the Manager an acquisition fee of 1% of the acquisition price. The SREIT will also pay the Manager a divestment fee of 0.5% of the sale price of any real estate sold and a development management fee of 3% of the total project costs incurred for development projects. A portion of the fees paid to the Manager are paid to KBS Realty Advisors LLC, an entity controlled by Mr. Schreiber, for sub-advisory services. The Schreiber Trust, a trust whose beneficiaries are Charles J. Schreiber, Jr. and his family members, and the Linda Bren 2017 Trust also acquired units in the SREIT. The Schreiber Trust agreed it will not sell any portion of its units in the SREIT unless it has received the consent of the Company’s conflicts committee. The Linda Bren 2017 Trust has agreed it will not sell $5.0 million of its investment in the SREIT unless it has received the consent of the Company’s conflicts committee.
During the nine months ended September 30, 2023 and 2022, no other business transactions occurred between the Company and KBS REIT II, KBS Growth & Income REIT, the Advisor, the Dealer Manager or other KBS-affiliated entities.
| |
10. | COMMITMENTS AND CONTINGENCIES |
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 1. Financial Statements (continued)
KBS REAL ESTATE INVESTMENT TRUST III, INC.
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
September 30, 2023
(unaudited)
10. COMMITMENTS AND CONTINGENCIES
Economic Dependency
The Company is dependent on the Advisor for certain services that are essential to the Company, including the identification, evaluation, negotiation, origination, acquisition and disposition of investments; management of the daily operations of the Company’s investment portfolio; and other general and administrative responsibilities. In the event that the Advisor is unable to provide the respective services, the Company will be required to obtain such services from other sources.
Legal Matters
From time to time, the Company may be party to legal proceedings that arise in the ordinary course of its business. Management is not aware of any legal proceedings of which the outcome is probable or reasonably possible to have a material adverse effect on the Company’s results of operations or financial condition, which would require accrual or disclosure of the contingency and possible range of loss. Additionally, the Company has not recorded any loss contingencies related to legal proceedings in which the potential loss is deemed to be remote.
Environmental
As an owner of real estate, the Company is subject to various environmental laws of federal, state and local governments. Compliance with existing environmental laws is not expected to have a material adverse effect on the Company’s financial condition and results of operations as of September 30, 2017.2023.
11. SUBSEQUENT EVENTS
The Company evaluates subsequent events up until the date the consolidated financial statements are issued.
Accenture Tower Revolving Loan
On November 2, 2020, the Company, through an indirect wholly owned subsidiary (the “Accenture Tower Borrower”), entered into a three-year loan facility with U.S. Bank, National Association, as administrative agent, joint lead arranger and co-book runner; Bank of America, N.A., as syndication agent, joint lead arranger and co-book runner; and Deutsche Pfandbriefbank AG (together, with the National Bank of Kuwait S.A.K.P. Grand Caymans Branch (which was subsequently added as a lender), the “Accenture Tower Lenders”), for a committed amount of up to $375.0 million (as amended and modified, the “Accenture Tower Revolving Loan”), of which $281.3 million was term debt and $93.7 million was revolving debt. The Accenture Tower Revolving Loan is secured by Accenture Tower.
The Accenture Tower Revolving Loan had a maturity date of November 2, 2023, with two 12-month extension options, subject to certain terms and conditions contained in the loan documents. On November 2, 2023, the Company, through the Accenture Tower Borrower, entered into a second modification agreement with the Accenture Tower Lenders to extend the initial maturity date of the Accenture Tower Revolving Loan to December 4, 2023. The two 12-month extension options pursuant to the loan agreement remain available from the original maturity date of November 2, 2023, in each case subject to certain terms and conditions contained in the loan documents. As of November 2, 2023, the outstanding principal balance of the Accenture Tower Revolving Loan consisted of $281.3 million of term debt and the $93.7 million of revolving debt was undrawn. Pursuant to the second modification agreement, the Accenture Tower Borrower shall have no right to request and the Accenture Tower Lenders shall have no obligation to disburse, any advances of the revolving debt until the Accenture Tower Borrower successfully extends the term of the Accenture Tower Revolving Loan by satisfying the terms and conditions of the first extension option. The Company continues to have discussions with the Accenture Tower Lenders regarding potential modifications to the Accenture Tower Revolving Loan, which would include, among other modifications, an extension of the maturity date, but the Company can give no assurance that such modification will be completed.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 1. Financial Statements (continued)
KBS REAL ESTATE INVESTMENT TRUST III, INC.
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
September 30, 20172023
(unaudited)
11. SUBSEQUENT EVENTS (CONTINUED)
The Company evaluates subsequent events up until the date the consolidated financial statements are issued.
Distributions Paid
On October 2, 2017, the Company paid distributions of $9.7 million, which related to distributions declared for daily record dates for each day in the period from September 1, 2017 through September 30, 2017. On November 1, 2017, the Company paid distributions of $10.0 million, which related to distributions declared for daily record dates for each day in the period from October 1, 2017 through October 31, 2017.
Distributions Declared
On October 9, 2017, the Company’s board of directors authorized distributions based on daily record dates for the period from November 1, 2017 through November 30, 2017, which the Company expects to pay in December 2017. On November 14, 2017, the Company’s board of directors authorized distributions based on daily record dates for the period from December 1, 2017 through December 31, 2017, which the Company expects to pay in January 2018,Amended and distributions based on daily record dates for the period from January 1, 2018 through January 31, 2018, which the Company expects to pay in February 2018. Investors may choose to receive cash distributions or purchase additional shares through the Company’s dividend reinvestment plan.
Distributions for these periods will be calculated based on stockholders of record each day during these periods at a rate of $0.00178082 per share per day and equal a daily amount that, if paid each day for a 365-day period, would equal a 6.11% annualized rate based on the Company's December 9, 2016 estimated value per share of $10.63.
Financing Subsequent to September 30, 2017
Restated Portfolio Loan Facility
On November 3, 2017,2021, the Company, through indirect wholly owned subsidiaries (each a “Borrower” and together, the “Borrowers”), entered into a three-yeartwo-year loan facilityagreement with Bank of America, N.A., as administrative agent; Merril Lynch Pierce Fenner & Smith Incorporated,BofA Securities, Inc., Wells Fargo Securities, LLC and U.S. Bank, N.A.,Capital One, National Association as joint lead arrangers and joint book runners; Wells Fargo Bank, NA,N.A., as syndication agent, and each of the financial institutions a signatory thereto, (the “Lenders”), for an amount of up to $1.01 billion (the “Portfolio Loan Facility”),$613.2 million, of which $757.5$459.9 million iswas term debt and $252.5$153.3 million was revolving debt (the “Amended and Restated Portfolio Loan Facility”). The current lenders under the Amended and Restated Portfolio Loan Facility are Bank of America, N.A.; Wells Fargo Bank, National Association; U.S. Bank, National Association; Capital One, National Association; PNC Bank, National Association; Regions Bank; and Zions Bankcorporation, N.A., DBA California Bank & Trust (together, the “Amended and Restated Portfolio Loan Facility Lenders”).
The Amended and Restated Portfolio Loan Facility is revolving debt. Proceeds from the term debt were used to pay off and address the upcoming 2018 loan maturities for the existing Town Center Mortgage Loan, RBCsecured by 60 South Sixth, Preston Commons, Sterling Plaza, Mortgage Loan, National Office Portfolio Mortgage Loan, 500 West Madison Mortgage Loan, Ten Almaden Mortgage Loan and Towers at Emeryville, Mortgage Loan. At closing, $787.5 million was funded, of which $776.0 million was used to pay off the existing mortgage loans (listed above)Ten Almaden and the remaining amount was used to pay origination feesTown Center.
The Amended and accrued interest. The $787.5 million funded consisted of $757.5 million of term debt and $30.0 million of revolving debt. TheRestated Portfolio Loan Facility may be used for the repaymenthad a maturity date of debt, for tenant improvements, leasing commissions and capital improvements, for working capital or liquidity management of the Company and for other purposes described in the loan agreement. During the term of the Portfolio Loan Facility, the Company has an option to increase the aggregate loan amount by up to an additional $400.0 million in increments of $25.0 million, to a maximum of $1.41 billion, 25% of which would be revolving debt and 75% of which would be term debt, subject to certain conditions contained in the loan agreement.
The Portfolio Loan Facility matures on November 3, 2020,2023, with twoone 12-month extension options,option, subject to certain terms and conditions containedas described in the loan documents. TheAs of November 3, 2023, the Company did not meet the conditions necessary to exercise the one-year extension option. On November 8, 2023, the Company, through the Borrowers, entered into a loan modification and extension agreement with the Amended and Restated Portfolio Loan Facility bears interest at a floating rateLenders, effective as of 180 basis points over one-month LIBOR duringNovember 3, 2023 (the “Extension Agreement”). Pursuant to the initial termExtension Agreement, the maturity date of the loanAmended and monthly payments are interest only with the entire balance and all outstanding interest and fees due at maturity, assuming no prior prepayment. The Company will have the right to prepay all of theRestated Portfolio Loan Facility subjectwas extended to certain expenses potentially incurred byNovember 17, 2023 with no additional options to extend the Lenders as a resultmaturity date. As of November 3, 2023, the aggregate outstanding principal balance of the prepaymentAmended and subject to certain conditions contained in the loan documents. In addition, theRestated Portfolio Loan Facility contains customary representationswas approximately $606.3 million. The unadvanced portion of the commitment of approximately $6.9 million was permanently cancelled. The Company continues to have discussions with the Amended and warranties, financialRestated Portfolio Loan Facility Lenders regarding a potential modification of the Amended and Restated Portfolio Loan Facility which would include, among other affirmative and negative covenants (including maintenancemodifications, an extension of an ongoing debt service coverage ratio), events of default and remedies typical for this type of facility.
the maturity date, but the Company can give no assurance that such modification will be completed.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 1. Financial Statements (continued)
KBS REAL ESTATE INVESTMENT TRUST III, INC.
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
September 30, 2017
(unaudited)
On November 3, 2017, KBS REIT Properties III, LLC (“REIT Properties III”), an indirect wholly owned subsidiary of the Company, entered into three interest rate swap agreements with a current aggregate notional amount of $451.5 million. As of November 3, 2017, the Company had three existing interest rate swaps related to the paid off loans with a current notional amount in the aggregate of $306.0 million. As the existing interest rate swaps expire at various times from January 1, 2018 through January 1, 2020, the notional amount of the new interest rate swaps in the aggregate will increase to maintain a notional amount of $757.5 million. The new and existing interest rate swaps, in the aggregate, effectively fix the interest rate on the term portion of the Portfolio Loan Facility at a blended rate of 3.861%, effective from November 3, 2017 through November 1, 2022.
The Portfolio Loan Facility is secured by RBC Plaza, Preston Commons, Sterling Plaza, One Washingtonian Center, Towers at Emeryville, Ten Almaden, Town Center and 500 West Madison. The Company has the right to substitute properties securing the Portfolio Loan Facility at any time, subject to approval of the Lenders and compliance with the terms and conditions described in the loan agreement.
Under the guaranty agreement related to the Portfolio Loan Facility (the “Guaranty”), REIT Properties III (i) provides a guaranty of, among other sums described in the Guaranty, all principal and interest outstanding under the Portfolio Loan Facility in the event of certain bankruptcy or insolvency proceedings involving REIT Properties III, any Borrower or any of their affiliates and (ii) guarantees payment of, and agrees to protect, defend, indemnify and hold harmless each Lender for, from and against, any deficiency, loss or damage suffered by any Lender because of (a) certain intentional acts committed by any Borrower or (b) certain bankruptcy or insolvency proceedings involving REIT Properties III, any Borrower or any of their affiliates, as such acts are described in the Guaranty.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis should be read in conjunction with the accompanying financial statements of KBS Real Estate Investment Trust III, Inc. and the notes thereto. As used herein, the terms “Company,” “we,” “our” and “us” refer to KBS Real Estate Investment Trust III, Inc., a Maryland corporation, and, as required by context, KBS Limited Partnership III, a Delaware limited partnership, which we refer to as the “Operating Partnership,” and to their subsidiaries.
Forward-Looking Statements
Certain statements included in this Quarterly Report on Form 10-Q are forward-looking statements. Those statements include statements regarding the intent, belief or current expectations of KBS Real Estate Investment Trust III, Inc. and members of our management team, as well as the assumptions on which such statements are based, and generally are identified by the use of words such as “may,” “will,” “seeks,” “anticipates,” “believes,” “estimates,” “expects,” “plans,” “intends,” “should” or similar expressions. These include statements about our plans, strategies and prospects and these statements are subject to known and unknown risks and uncertainties. Readers are cautioned not to place undue reliance on these forward-looking statements. Actual results may differ materially from those contemplated by such forward-looking statements. Further, forward-looking statements speak only as of the date they are made, and we 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 over time, unless required by law. Moreover, you should interpret many of the risks identified in this report, as well as the risks set forth below, as being heightened as a result of the continued disruptions in the financial markets impacting the U.S. commercial real estate industry, especially as it pertains to commercial office buildings.
The following are some of the risks and uncertainties, although not all of the risks and uncertainties, that could cause our actual results to differ materially from those presented in our forward-looking statements:
•The ongoing challenges affecting the U.S. commercial real estate industry, especially as it pertains to commercial office buildings, continues to be one of the most significant risks and uncertainties we face. The combination of the continued economic slowdown, rising interest rates and significant inflation (or the perception that any of these events may continue), as well as a lack of lending activity in the debt markets, have contributed to considerable weakness in the commercial real estate markets. There can be no assurance as to when the markets will stabilize. Upcoming and recent tenant lease expirations and leasing challenges in certain markets amidst the aforementioned headwinds coupled with slower than expected return-to-office, most notably in the San Francisco Bay Area where we own several assets, have had direct and material impacts on our ability to access certain credit facilities and on our ongoing cash flow. Additionally, due to disruptions in the financial markets, it is becoming increasingly difficult to refinance maturing debt obligations as lenders are hesitant to make new loans in the current market environment with so many uncertainties surrounding asset valuations, especially in the office real estate market. We have $1.7 billion of loan maturities in the next 12 months. Considering the current commercial real estate lending environment, this raises substantial doubt as to our ability to continue as a going concern for at least a year from the date of issuance of these financial statements. All but three of the loans have additional extension options; however, these extensions are subject to certain terms and conditions contained in the loan documents some of which are more stringent than our current loan compliance tests, including loan-to-value, debt service coverage or other requirements. As a result, in order to qualify for certain loan extensions, we will likely be required to reduce the loan commitment by a substantial amount and/or make paydowns on certain loans. Due to this potential reduction in loan commitment and ongoing capital expenditure needs in our real estate portfolio, we will likely seek to refinance or restructure certain debt instruments, may need to evaluate selling equity securities and/or may be required to sell certain assets into a challenged real estate market in an effort to manage our liquidity needs. However, there can be no assurances as to the certainty or timing of the outcome of such efforts. Selling real estate assets in the current market would likely impact the ultimate sale price. We also may defer noncontractual expenditures or further suspend or cease distributions and redemptions. Additionally, we anticipate we may relinquish ownership of one or more secured properties to the mortgage lender. Continued increases in interest rates, reductions in real estate values and future tenant turnover in the portfolio will have a further impact on our ability to meet loan compliance tests and may further reduce our available liquidity under our loan agreements, and continued disruptions in the financial markets and economic uncertainty could adversely affect our ability to implement our business strategy and continue as a going concern. Further, potential changes in customer behavior, such as continued work-from-home arrangements, which increased as a result of the COVID-19 pandemic, could materially and negatively impact the future demand for office space, adversely impacting our operations.
•We are dependent on KBS Capital Advisors LLC (“KBS Capital Advisors”), our advisor, to manageconduct our investmentsoperations.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and for the dispositionAnalysis of our investments.Financial Condition and Results of Operations (continued)
•All of our executive officers, our affiliated directors and other key real estate and debt finance professionals are also officers, affiliated directors, managers, key professionals and/or holders of a direct or indirect controlling interest in our advisor our dealer manager and/or other KBS-affiliated entities. As a result, our executive officers, our affiliated directors, some of our key real estate and debt finance professionals,these individuals, our advisor and its affiliates face conflicts of interest, including significant conflicts created by our advisor’s and its affiliates’ compensation arrangements with us and other KBS-sponsoredKBS programs and KBS-advised investors and conflicts in allocating time among us and these other programs and investors. Furthermore, these individuals may become employees of another KBS-sponsored program in an internalization transaction or, if we internalize our advisor, may not become our employees as a result of their relationship with other KBS-sponsored programs. These conflicts could result in action or inaction that is not in the best interests of our stockholders.
•Our advisor and its affiliates currently receive fees in connection with transactions involving the purchase or origination, management and managementdisposition of our investments. TheseAcquisition and asset management fees are based on the cost of the investment, and not based on the quality of the investment or the quality of the services rendered to us. This may influence our advisor to recommend riskier transactions to us and increases our stockholders’ risk of loss. In addition, we have paid substantial fees to and expenses of our advisor, its affiliates and participating broker-dealers in connection with our now-terminated primary initial public offering, which payments increase the risk that our stockholders will not earn a profit on their investment. We may also pay significant fees during our listing/liquidation stage. Although most of the fees payable during our listing/liquidation stage are contingent on our stockholders first enjoying agreed-upon investment returns, the investment return thresholds may be reduced subject to approval by our conflicts committee and to other limitations in our charter.
Our charter permits us to pay distributions from any source, including offering proceeds or borrowings (which may constitute a return of capital), and our charter doeslimitations. These payments increase the risk that our stockholders will not limitearn a profit on their investment in us and increase the risk of loss to our stockholders.
•We cannot guarantee that we will pay distributions. Due to the illiquidity of the current debt and capital markets and upcoming loan maturities, we have adjusted the timing and amount of stockholder distributions going forward in order to be able to retain funds for future leasing needs in the portfolio. We have moved to quarterly assessments of distributions, and by the last month of each calendar quarter we may use fromwill make a decision on the distribution amount (if any) to be paid. We did not declare any source to pay such distributions. As of distributions for the three months ended September 30, 2017,2023. For the reasons discussed herein, we had usedare unable to predict when we will be in a combinationposition to resume the payment of cash flow from operations, proceeds from debt financingregular distributions to our stockholders. We have and proceeds from an advance from our advisor tomay in the future fund distributions. From time to time during our operational stage, we expect to use proceeds from third party financings to fund at least a portion of distributions in anticipation of cash flow to be received in later periods. We may also fund such distributions from the sale of assets or from the maturity, payoff or settlement of debt investments, to the extent we make any such additional investments. If we pay distributions from sources other than our cash flow from operations, including, without limitation, the overallsale of assets, borrowings, return to our stockholdersof capital or offering proceeds. We have no limits on the amounts we may be reduced.
pay from such sources.•We may incur debt until our total liabilities would exceed 75% of the cost of our tangible assets (before deducting depreciation and other non-cash reserves), and we may exceed this limit with the approval of the conflicts committee of our board of directors. To the extent financing in excess of this limit is available on attractive terms, our conflicts committee may approve debt such that our total liabilities would exceed this limit. High debt levels could limit the amount of cash we have available to distribute and could result in a decline in the value of an investment in us.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
•We depend on tenants for the revenue generated by our real estate investments and, accordingly, the revenue generated by our real estate investments is dependent upon the success and economic viability of our tenants.investments. Revenues from our properties could decrease due to a reduction in occupancy (caused by factors including, but not limited to, tenant defaults, tenant insolvency, early termination of tenant leases and non-renewal of existing tenant leases) and/, rent deferrals or abatements, tenants becoming unable to pay their rent, lower rental rates and/or potential changes in customer behavior, such as continued work from home arrangements, making it more difficult for us to meet our debt service obligations and limiting our ability to pay distributions to our stockholders.
•Our significant investment in the equity securities of Prime US REIT (the “SREIT”), a traded Singapore real estate investment trust, is subject to the risks associated with real estate investments as well as the risks inherent in investing in traded securities, including, in this instance, risks related to the quantity of units held by us relative to the trading volume of the units. Due to the disruptions in the financial markets, since March 2020, the trading price of the common units of the SREIT has experienced substantial volatility. The trading price of the common units of the SREIT has been significantly impacted by the market sentiment for stock with significant investment in U.S. commercial office buildings. The SREIT also has a significant amount of debt maturing in 2024, which adds additional uncertainty around the value of the units.
•We cannot predict with any certainty how much, if any, of ourwhen dividend reinvestment plan proceeds will be available for general corporate purposes, including, but not limited to:as we are unable to predict when we will be in a position to resume the repurchasepayment of shares under our share redemption program; capital expenditures, tenant improvement costs and leasing costs relatedregular distributions to our real estate properties; reserves required by any financings of our real estate investments; the acquisition or origination of real estate investments, which include payment of acquisition or origination fees to our advisor; and the repayment of debt. Ifstockholders. When such funds are not available, from our dividend reinvestment plan offering, then we may have to use a greater proportion of our cash flow from operations to meet these cash requirements, which would further reduce cash available for distributions and could further limit our ability to redeem shares under our share redemption program.
Disruptions in the financial markets and uncertain economic conditions could adversely affect our ability to implement our business strategy and generate returns to stockholders. In addition, our real estate investments may be affected by unfavorable real estate market and general economic conditions, which could decrease the value of those assets and reduce the investment return to our stockholders.
•Our charter does not require us to liquidate our assets and dissolve by a specified date, nor does our charter require our directors to list our shares for trading by a specified date. No public market currently exists for our shares of common stock, and we have no plans at this time to list our sharesstock. There are limits on a national securities exchange. Until our shares are listed, if ever, our stockholders may not sell their shares unless the buyer meets the applicable suitability and minimum purchase standards. Any sale must comply with applicable state and federal securities laws. In addition, our charter prohibits the ownership and transferability of more than 9.8% of our stock, unless exempted by our board of directors, which may inhibit large investors from purchasing our shares. Our shares cannot be readily sold and, if our stockholders are able to sell their shares, they would likely have to sell them at a substantial discount fromdiscount.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
•Stockholders may have to hold their shares an indefinite period of time. We can provide no assurance that we will be able to provide additional liquidity to stockholders. Since 2019, due to the pricelimitations on redemptions under our stockholders paidshare redemption program, our pursuit of strategic alternatives and/or disruptions in the financial markets impacting the U.S. office market, we have either exhausted the funds available for Ordinary Redemptions (defined below) under our share redemption program or implemented suspensions of Ordinary Redemptions under our share redemption program for all or a portion of the calendar year. Since 2019, we have redeemed 19,536,779 shares under our share redemption program, which is approximately 13% of our current outstanding shares. On January 17, 2023, our board of directors determined to acquiresuspend Ordinary Redemptions under our share redemption program to preserve capital in the sharescurrent market environment. Ordinary Redemptions are all redemptions other than those that qualify for the special provisions for redemptions sought in connection with a stockholder’s death, “Qualifying Disability” or “Determination of Incompetence” (each as defined in the share redemption program and, fromtogether, “Special Redemptions”). We cannot predict future redemption demand with any certainty. If Ordinary Redemptions are resumed and future redemption requests exceed the redemption limitations under our estimated value per share.share redemption program, the number of rejected redemption requests will increase over time.
All forward-looking statements should be read in light of the risks identified in Part I, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 20162022 and in Part II, Item 1A of our Quarterly Report on Form 10-Q for the period ended March 31, 2023, each as filed with the Securities and Exchange Commission (the “SEC”), and the risks identified in Part II, Item 1A herein.
Overview
We were formed on December 22, 2009 as a Maryland corporation that elected to be taxed as a real estate investment trust (“REIT”) beginning with the taxable year ended December 31, 2011 and we intend to continue to operate in such a manner. We conduct our business primarily through our Operating Partnership, of which we are the sole general partner. Subject to certain restrictions and limitations, our business is managed by our advisor pursuant to an advisory agreement and our advisor conducts our operations and manages our portfolio of real estate investments. Our advisor owns 20,00020,857 shares of our common stock. We have no paid employees.
We have invested in a diverse portfolio of real estate investments. As of September 30, 2017,2023, we owned 2816 office properties, and one mixed-use office/retail property and had made an investment in an unconsolidated joint venture to develop and subsequently operate an office/retail property, which is currently under construction. Additionally, asthe equity securities of September 30, 2017, we had entered into a consolidated joint venture to develop and subsequently operate a multifamily apartment project, which is currently under construction.the SREIT.
On February 4, 2010, we filed a registration statement on Form S-11 with the SEC to offer a minimum of 250,000 shares and a maximum of up to 280,000,000 shares, or up to $2,760,000,000 of shares, of common stock for sale to the public, of which up to 200,000,000 shares, or up to $2,000,000,000 of shares, were registered in our primary offering and up to 80,000,000 shares, or up to $760,000,000 of shares, were registered under our dividend reinvestment plan. We ceased offering shares of common stock in our primary offering on May 29, 2015 and terminated the primary offering on July 28, 2015 upon the completion of review of subscriptions submitted in accordance with our processing procedures. 2015.
We sold 169,006,162 shares of common stock in our now-terminated primary initial public offering for gross offering proceeds of $1.7 billion. As of September 30, 2017,2023, we had also sold 21,438,40646,154,757 shares of common stock under our dividend reinvestment plan for gross offering proceeds of $210.1 million.$471.3 million. Also as of September 30, 2017,2023, we had redeemed 10,620,360or repurchased 74,407,668 shares sold in our initial public offering for $107.2$787.1 million.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
Additionally, on October 3, 2014, we issued 258,462 shares of common stock, for $2.4 million, in private transactions exempt from the registration requirements pursuant to Section 4(a)(2) of the Securities Act of 1933.
We continue to offer shares of common stock under our dividend reinvestment plan. In some states, we will need to renew the registration statement annually or file a new registration statement to continue the dividend reinvestment plan offering. We may terminate our dividend reinvestment plan offering at any time.
Market Outlook – Real Estate and Real Estate Finance Markets
The following discussion is basedSection 5.11 of our charter requires that we seek stockholder approval of our liquidation if our shares of common stock are not listed on management’s beliefs, observations and expectations with respect to the real estate and real estate finance markets.
The global economy is broadly improving albeit at an uneven pace. European economic growth has recently picked up, with improving employment data in mosta national securities exchange by September 30, 2020, unless a majority of the European Union countries. The U.K. and China remain areasconflicts committee of concern. The U.K.our board of directors, composed solely of all of our independent directors, determines that liquidation is working through its BREXIT process, whereas the Chinese economy has shown signs of stabilization, but is still struggling with uncertainty in its banking system in relation to bad loans. Against this backdrop, the central banks of the world’s major industrialized economies are beginning to back away from their strong monetary accommodation. Quantitative easing (“QE”) in Japan and Europe is slowing, but the liquidity generated from these programs continues to impact the global capital markets.
At a duration of 100 months (as of the end of third quarter 2017), the current business cycle, which commenced in June 2009, is the third longest in U.S. history, behind only the periods between 1961 - 1969 and 1991 - 2001. In June 2017, the U.S. Federal Reserve (the “Fed”) increased interest rates for the fourth time in three years. Expectations are that the Fed will increase rates again in December, citing low unemployment and strong economic growth. The Fed is still attempting to normalize the level of interest ratesnot then in the United States. U.S.best interest rates are relatively high when comparedof our stockholders. Pursuant to Europe, whereour charter requirement, the European Central Bank is still engaging in QE. Global inflation is starting to show signs of life as U.S. inflation has grown to approximately 1.9% versus 2.9% inconflicts committee considered the U.K. and 1.5% in the Eurozone. Real gross domestic product (“GDP”) in the United States has had two consecutive quarters of 3.0% or greater growth, and the U.S. unemployment rate is currently a relatively low 4.2%. Personal income growth has started to pick up and unemployment statistics indicate that labor market conditions are finally showing real improvements. Political uncertainty surrounding the current administration’s budget, tax reform plans, and the continued weakness in retailers, all may adversely impact business and consumer confidence.
In 2017ongoing challenges affecting the U.S. commercial real estate market has seen a declineindustry, especially as it pertains to commercial office properties, the challenging interest rate environment and lack of activity in transaction volume and a slowing of price increases. In the aggregate, property level operating income growth has begun to slow, while lending standards have tightened. The United States continues to benefit from inflows of foreign capital, albeit at a slowing rate. The capital flows from China have dropped asdebt markets, the Chinese government has successfully imposed constraints on capital leavinglimited availability in the country. The industrial property sector is a standout for investors, as internet sales volumes continue to increase the demand for warehouses and logistics-related assets. Traditional sources of capital are favoring a “risk-off” approach, as capital flows have shifted equity towards debt or secured, investing. Commercial real estate returns are increasingly being driven by property income (yield), as opposed to price appreciation through cap rate compression.
Lenders with long memories remain disciplined in their underwriting of investments. For balance sheet lenders, such as banks and insurance companies, underwriting standardsmarkets for commercial real estate have tightened. This has resulted in lower loan-to-valuetransactions, and higher debt coverage ratios. CMBS originations reboundedthe lack of transaction volume in the third quarter as banksU.S. office market, and insurance companies tightened loan terms. CMBS volumes are on paceAugust 10, 2023, our conflicts committee unanimously determined to beat 2016 issuance volumes. This is a positive forpostpone approval of our liquidation. Section 5.11 of our charter requires that the U.S. commercial real estate markets as it illustratesconflicts committee revisit the virtuesissue of having a diversified set of funding sources.
liquidation at least annually.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
Impact on OurMarket Outlook – Real Estate Investmentsand Real Estate Finance Markets and Going Concern Considerations
The volatilityVolatility in the global financial markets and changing political environment continues toenvironments can cause a level of uncertaintyfluctuations in our outlook for the performance of the U.S. commercial real estate markets. Both the investing and leasing environments are highly competitive. While foreign capital continues to flow into U.S. real estate markets, albeit at a slower rate, concerns regarding the political, regulatory and economic environments have introduced uncertainty into the markets. Possible future declines in rental rates, slower or potentially negative net absorption of leased space and expectations of future rental concessions, including free rent to renew tenants early, to retain tenants who are up for renewal or to attract new tenants, may result in decreases in cash flows. Historically low interest rates could help offset some of the impact of these potential decreases in operating cash flow for properties financed with variable rate mortgages; however, interest rates in the United States have started to increase. The Fed raised interest rates four times between the period December 2015 and June 2017. The real estate and finance markets anticipate further rate increases if the economy remains strong, but a flattening U.S. treasury yield curve is signaling a weakening in economic conditions, and highlights the degree of uncertainty surrounding the near-term U.S. economic prospects. Management continuously reviews our debt financing strategies to optimize the cost of our debt exposure.
Impact on Our Financing Activities
In light of the risks associated with potentially volatile operating cash flows from someinvestment properties. Further, revenues from our properties could decrease due to a reduction in occupancy (caused by factors including, but not limited to, tenant defaults, tenant insolvency, early termination of our real estate properties,tenant leases and the increasenon-renewal of existing tenant leases), rent deferrals or abatements, tenants being unable to pay their rent and/or lower rental rates. Increases in the cost of financing due to higher interest rates we may have difficultywill prevent us from refinancing some of our debt obligations prior to or at maturity or we may not be able to refinance these obligations at terms as favorable as the terms of our existing indebtedness. Short-termFurther, increases in interest rates inwould increase the United States have increased, andamount of our debt payments on our variable rate debt to the extent the interest rates on such debt are expected to increase againnot fixed through interest rate swap agreements or limited by the end of the year.interest rate caps. Market conditions can change quickly, potentially negatively impacting the value of real estate investments. The current rising interest rate environment has had a downward impact on real estate values, and the lack of financing available in the current environment, especially for commercial office buildings, has significantly impacted the amount of transaction activity in the commercial real estate market and made valuing such assets increasingly difficult. Management continuously reviews our investments.investment and debt financing strategies to optimize our portfolio and the cost of our debt exposure in this challenging environment.
AsThese ongoing challenges affecting the U.S. commercial real estate industry, especially as it pertains to commercial office buildings, continues to be one of September 30, 2017,the most significant risks and uncertainties we face. The combination of the continued economic slowdown, rising interest rates and significant inflation (or the perception that any of these events may continue), as well as a lack of lending activity in the debt markets, have contributed to considerable weakness in the commercial real estate markets. The usage and leasing activity of our assets in several markets remains lower than pre-pandemic levels, and we cannot predict when economic activity and demand for office space will return to pre-pandemic levels. Both upcoming and recent tenant lease expirations and leasing challenges in certain markets amidst the aforementioned headwinds coupled with slower than expected return-to-office, most notably in the San Francisco Bay Area where we own several assets, have had direct and material impacts on our ability to access certain credit facilities and on our ongoing cash flow, which, in large part, provide liquidity to manage redemption requests and capital expenditures needed to manage our real estate assets. Potential long-term changes in customer behavior, such as continued work-from-home arrangements, which increased as a result of the COVID-19 pandemic, could materially and negatively impact the future demand for office space, further adversely impacting our operations.
Due to disruptions in the financial markets, it is becoming increasingly difficult to refinance maturing debt obligations as lenders are hesitant to make new loans in the aggregate principal amountcurrent market environment with so many uncertainties surrounding asset valuations, especially in the office real estate market. We have $1.7 billion of $1.9 billion, withloan maturities in the next 12 months. Considering the current commercial real estate lending environment, this raises substantial doubt as to our ability to continue as a weighted-average remaining termgoing concern for a least a year from the date of 1.6 years. The maturity datesthe issuance of certainthese financial statements. All but three of the loans may be extended beyond their current maturity date,have additional extension options; however, these extensions are subject to certain terms and conditions contained in the loan documents. Ourdocuments some of which are more stringent than our current loan compliance tests, including loan-to-value, debt obligations consisted of $192.9 million of fixed rate notes payableservice coverage or other requirements. As a result, in order to qualify for certain loan extensions, we will likely be required to reduce the loan commitment by a substantial amount and/or make paydowns on certain loans. Due to this potential reduction in loan commitment and $1.7 billion of variable rate notes payable. We planongoing capital expenditure needs in our real estate portfolio, we will likely seek to exercise our extension options available under our loan agreementsrefinance or pay down restructure certain debt instruments, may need to evaluate selling equity securities and/or refinance the related notes payable priormay be required to their maturity dates. As of September 30, 2017, the interest rates on $1.1 billion of our variable rate notes payable were effectively fixed through interest rate swap agreements. In addition, we entered into two interest rate swaps with an aggregate notional amount of $91.5 million, which will become effective at various times during the remainder of 2017 through 2018. On November 3, 2017, we enteredsell certain assets into a three-year $1.01 billion loan facilitychallenged real estate market in an effort to pay offmanage our liquidity needs. However, there can be no assurances as to the upcoming 2018 loan maturities for sixcertainty or timing of our existing loans which had an aggregate outstanding balancethe outcome of $776.0 million, see “Subsequent Events - Financing Subsequentsuch efforts. Selling real estate assets in the current market would likely impact the ultimate sale price. We also may defer noncontractual expenditures. Additionally, we anticipate we may relinquish ownership of one or more secured properties to September 30, 2017 - Portfolio Loan Facility.”
the mortgage lender. See the discussion below under “—Liquidity and Capital Resources
We sold 169,006,162 shares of common stock in our now-terminated primary initial public offering for gross offering proceeds of $1.7 billion. As of September 30, 2017, we had also sold 21,438,406 shares of common stock under our dividend reinvestment plan for gross offering proceeds of $210.1 million. Also as of September 30, 2017, we had redeemed 10,620,360 shares sold in our initial public offering for $107.2 million. We ceased offering shares of common stock in our primary offering on May 29, 2015 and terminated our primary offering on July 28, 2015.
We continue to offer shares under our dividend reinvestment plan. In some states, we will need to renew the registration statement annually or file a new registration statement to continue the dividend reinvestment plan offering. We may terminate our dividend reinvestment plan offering at any time.Resources.”
We have invested allconcluded that it is critical to preserve capital given the current state of the proceeds frommarkets. On January 17, 2023, our now-terminated primary initial public offering, netboard of selling commissions and dealer manager fees and other organization and offering costs, and proceeds from debt financing in a diverse portfolio of real estate investments. To date, proceeds from our dividend reinvestment plan have been used primarilydirectors determined to fund redemptions of sharessuspend Ordinary Redemptions under our share redemption program and reduced the distribution rate from that of prior periods. Commencing in July 2023, we further adjusted the timing and amount of stockholder distributions in order to be able to retain funds for capital expendituresfuture leasing needs in the portfolio. We have moved to quarterly assessments of distributions, and by the last month of each calendar quarter we will make a decision on our real estate investments.
Our principal demandsthe distribution amount (if any) to be paid. We did not declare any distributions for funds during the short and long-termthree months ended September 30, 2023. We are andunable to predict when we will be for operating expenses, capital expenditures and general and administrative expenses; payments under debt obligations; redemptionsin a position to resume the payment of common stock; capital commitments and development expenses under our joint venture agreements; and payments ofregular distributions to our stockholders. Our primary sourcesThese actions were a direct result of capital for meeting our cash requirements are as follows:
Cash flow generated by our real estate investments;
Debt financings (including amounts currently available under existing loan facilities); and
Proceeds from common stock issued under our dividend reinvestment plan.
the factors discussed above.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
During the nine months ended September 30, 2023, we recorded non-cash impairment charges of $45.5 million to write down the carrying value of 201 Spear Street (located in San Francisco, California) to its estimated fair value as a result of continued market uncertainty due to rising interest rates, increased vacancy rates as a result of slow return to office in San Francisco, additional projected vacancy due to anticipated tenant turnover and further declining values of comparable sales in the market, all of which impacted ongoing cash flow estimates and leasing projections, which resulted in the future estimated undiscounted cash flows to be lower than the net carrying value of the property. As a result, 201 Spear Street is currently valued at substantially less than the outstanding mortgage debt of $125.0 million, which debt has an initial loan maturity of January 5, 2024. We are currently engaged in discussions with our lender and due to the substantial difference between the mortgage debt and the fair value of the asset and the very uncertain path and timing of a recovery in the San Francisco market, we do not believe it is in the Company’s best interest to make significant paydowns on the loan and invest additional funds into this asset in an effort to refinance and extend the loan. As a result of the borrower’s failure to pay in full the entire November 2023 monthly interest payment under the 201 Spear Street Mortgage Loan on the due date, on November 9, 2023, the 201 Spear Street Mortgage Loan lender notified the borrower that if such amount is not paid by November 14, 2023, then the borrower will be in default under the loan. The borrower does not expect to make the full interest payment by this date, and as a result, will likely default on the loan. If the borrower defaults, interest on the loan will accrue at the default rate and additional daily or late charges will apply. As a result, we anticipate that there is a high likelihood that we may ultimately relinquish ownership of the property to the lender in a foreclosure transaction or other alternative to foreclosure in satisfaction of the mortgage.
We have also made a significant investment in the common units of the SREIT. Due to the disruptions in the financial markets discussed above, since early March 2020, the trading price of the common units of the SREIT has experienced substantial volatility. The trading price of the common units of the SREIT has been significantly impacted by the market sentiment for stock with significant investment in U.S. commercial office buildings. The SREIT also has a significant amount of debt maturing in 2024, which adds additional uncertainty around the value of the units. As of November 14, 2023, the aggregate value of our investment in the units of the SREIT was $29.1 million, which was based solely on the closing price of the units on the SGX-ST of $0.135 per unit as of November 14, 2023, and did not take into account any potential discount for the holding period risk due to the quantity of units we hold. This is a decrease of $0.745 per unit from our initial acquisition of the SREIT units at $0.880 per unit on July 19, 2019.
Continued disruptions in the financial markets and economic uncertainty could adversely affect our ability to implement our business strategy and continue as a going concern. Overall, there remains significant uncertainty regarding the timing and duration of the economic recovery, which precludes any prediction as to the ultimate adverse impact the current disruptions in the markets may have on our business.
Liquidity and Capital Resources
Our principal demands for funds during the short and long-term are and will be for payments (including maturity payments) under debt obligations; operating expenses, capital expenditures and general and administrative expenses; redemptions of common stock; and payments of distributions to stockholders. Our primary sources of capital for meeting our cash requirements are as follows:
•Cash flow generated by our real estate and real estate-related investments;
•Debt financings (including any amounts currently available under existing loan facilities); and
•Proceeds from the sale of our real estate properties and real estate-related investments.
Our real estate properties generate cash flow in the form of rental revenues and tenant reimbursements, which are reduced by operating expenditures, capital expenditures, debt service payments, the payment of asset management fees and corporate general and administrative expenses. Cash flow from operations from our real estate properties is primarily dependent upon the occupancy level of our portfolio, the net effective rental rates on our leases, the collectability of rent and operating recoveries from our tenants and how well we manage our expenditures. Due to uncertainties in the U.S. office real estate market, most notably in the greater San Francisco Bay Area where we own certain assets, we anticipate that our future cash flows from operations may be impacted due to lease rollover and reduced demand for office space.
Our investment in the equity securities of the SREIT generates cash flow in the form of dividend income, and dividends are typically declared and paid on a semi-annual basis, though dividends are not guaranteed. As of September 30, 2023, we held 215,841,899 units of the SREIT which represented 18.2% of the outstanding units of the SREIT as of that date.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
As of September 30, 2017,2023, we had mortgage debt obligations in the aggregate principal amount of $1.9$1.7 billion, with a weighted-average remaining term of 1.60.3 years. As of September 30, 2023, we had $1.7 billion of notes payable maturing during the 12 months ending September 30, 2024. Considering the current commercial real estate lending environment, this raises substantial doubt as to our ability to continue as a going concern for at least a year from the date of issuance of these financial statements. As of September 30, 2023, our debt obligations consisted of $123.0 million of fixed rate notes payable and $1.6 billion of variable rate notes payable. As of September 30, 2023, the interest rates on $1.0 billion of our variable rate notes payable were effectively fixed through interest rate swap agreements.
The maturity dates of certain loans may be extended beyond their current maturity date,dates; however, the extension options are subject to certain terms and conditions contained in the loan documents. Assumingdocuments some of which are more stringent than our notes payablecurrent loan compliance tests, including the leverage ratio required, debt service coverage and other requirements. The most stringent compliance test for our loan extensions will likely be the leverage ratio required, which will generally be based on updated lender commissioned appraisals. Given the uncertainty in the current real estate market and variability in appraisers’ views on fair values of office properties in the current market, these updated appraisals could have a significant impact on our availability under our loans. As a result, in order to qualify for certain loan extensions, we will likely be required to reduce the loan commitment by a substantial amount and/or make paydowns on certain loans. Due to this potential reduction in loan commitment and ongoing capital expenditure needs in our real estate portfolio, we will likely seek to refinance or restructure certain debt instruments, may need to evaluate selling equity securities and/or may be required to sell certain assets into a challenged real estate market in an effort to manage our liquidity needs. Selling real estate assets in the current market would likely impact the ultimate sale price. While we anticipate to have available funds on certain loans to make these loan paydowns where required, depending on the size of the required paydown (beyond just a loss of commitment), we may need to rely on asset sale proceeds or the completion of refinance discussions with certain lenders in order to be able meet any loan paydown requirements. We also may defer noncontractual expenditures. Additionally, we anticipate we may relinquish ownership of one or more secured properties to the mortgage lender. However, there can be no assurances as to the certainty or timing of management’s plans, as certain elements of management’s plans are fully extendedoutside our control, including our ability to sell assets or successfully refinance or restructure certain of our debt instruments. As a result of our upcoming loan maturities, the challenging commercial real estate lending environment, the current interest rate environment, leasing challenges in certain markets where we own properties and the lack of transaction volume in the U.S. office market as well as general market instability, management’s plans cannot be considered probable and thus do not alleviate substantial doubt about our ability to continue as a going concern. Continued increases in interest rates, reductions in real estate values and future tenant turnover in the portfolio will have a further impact on our ability to meet loan compliance tests and may further reduce our available liquidity under our loan agreements.
During the nine months ended September 30, 2023, we recorded non-cash impairment charges of $45.5 million to write down the carrying value of 201 Spear Street (located in San Francisco, California) to its estimated fair value as a result of continued market uncertainty due to rising interest rates, increased vacancy rates as a result of slow return to office in San Francisco, additional projected vacancy due to anticipated tenant turnover and further declining values of comparable sales in the market, all of which impacted ongoing cash flow estimates and leasing projections, which resulted in the future estimated undiscounted cash flows to be lower than the net carrying value of the property. As a result, 201 Spear Street is currently valued at less than the outstanding mortgage debt of $125.0 million, which debt has an initial loan maturity of January 5, 2024. We are currently engaged in discussions with our lender and due to the substantial difference between the mortgage debt and the fair value of the asset and the very uncertain path and timing of a recovery in the San Francisco market, we do not believe it is in the Company’s best interest to make significant paydowns on the loan and invest additional funds into this asset in an effort to refinance and extend the loan. As a result of the borrower’s failure to pay in full the entire November 2023 monthly interest payment under the 201 Spear Street Mortgage Loan on the due date, on November 9, 2023, the 201 Spear Street Mortgage Loan lender notified the borrower that if such amount is not paid by November 14, 2023, then the borrower will be in default under the loan. The borrower does not expect to make the full interest payment by this date, and as a result, will likely default on the loan. If the borrower defaults, interest on the loan will accrue at the default rate and additional daily or late charges will apply. As a result, we anticipate that there is a high likelihood that we may ultimately relinquish ownership of the property to the lender in a foreclosure transaction or other alternative to foreclosure in satisfaction of the mortgage.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
Additionally, as of September 30, 2023, we determined we did not meet the debt service coverage ratio required under the Amended and Restated Portfolio Loan Facility with an outstanding principal balance of $606.3 million as of that date. Pursuant to the terms of the respective loan agreementsAmended and other loan documents,Restated Portfolio Loan Facility, we are required to notify the lenders by November 29, 2023. At such time, we would have $171.8 million30 days from receipt of debt obligations maturing duringnotice from the 12 months ending September 30, 2018. We planlenders to exercise ourmake a principal paydown of up to $29.7 million. The Amended and Restated Portfolio Loan Facility had a maturity date of November 3, 2023, with one 12-month extension options available under our loan agreements or pay down or refinance the related notes payable prior to their maturity dates. As of September 30, 2017, we had $90.5 million of revolving debt available for immediate future disbursement under a portfolio loan,option, subject to certain terms and conditions set forthas described in the loan agreement. Ondocuments. As of November 3, 2017,2023, we did not meet the conditions necessary to exercise the one-year extension option. Subsequent to September 30, 2023, we entered into a three-year $1.01 billion loan facilitymodification and extension agreement with the lenders under the Amended and Restated Portfolio Loan Facility and extended the maturity date to pay off the upcoming 2018 loan maturities for six of our existing loans which had an aggregate outstanding balance of $776.0 million. As of November 3, 2017, the loan facility had $222.5 million of revolving debt available for immediate disbursement, see “Subsequent17, 2023, among other modifications. See “—Subsequent Events - Financing Subsequent to September 30, 2017 -– Amended and Restated Portfolio Loan Facility.”
We paid cash distributions to our stockholders during the nine months ended September 30, 20172023 using cash flow from operations from current and prior periods.periods and proceeds from debt financing. We believe thathave experienced a reduction in our net cash flows from operations in recent periods primarily due to lease expirations in our portfolio and a resulting decrease in occupancy. In January 2023, our board of directors reduced our distribution rate from prior periods due to the continued impact of the economic slowdown on our cash flow from operations, cashflows. Commencing in July 2023, we further adjusted the timing and amount of stockholder distributions in order to be able to retain funds for future leasing needs in the portfolio. We have moved to quarterly assessments of distributions, and by the last month of each calendar quarter we will make a decision on hand, proceeds from our dividend reinvestment plan, proceeds from the sale of real estate and current and anticipated financing activities are sufficientdistribution amount (if any) to meet our liquidity needsbe paid. We did not declare any distributions for the foreseeable future.three months ended September 30, 2023. For the reasons discussed herein, we are unable to predict when we will be in a position to resume the payment of regular distributions to our stockholders. See “—Distributions” below.
Under our charter, we are required to limit our total operating expenses to the greater of 2% of our average invested assets or 25% of our net income for the four most recently completed fiscal quarters, as these terms are defined in our charter, unless the conflicts committee has determined that such excess expenses were justified based on unusual and non-recurring factors. Operating expenses for the four fiscal quarters ended September 30, 20172023 did not exceed the charter-imposed limitation.
Cash Flows from Operating Activities
We commenced operations in connection with our first investment on June 24, 2011. As of September 30, 2017, we owned 28 office properties and one mixed-use office/retail property and had made an investment in an unconsolidated joint venture to develop and subsequently operate an office/retail property, which is currently under construction. In addition, we had entered into a consolidated joint venture to develop and subsequently operate a multifamily apartment project, which is currently under construction. During the nine months ended September 30, 2017,2023 and 2022, net cash provided by operating activities was $90.6$37.2 million compared to netand $58.8 million, respectively. Net cash provided by operating activities of $82.1 millionwas lower during the nine months ended September 30, 2016. Net cash provided2023 primarily as a result of higher interest expense and a decrease in dividend income received from the SREIT, offset by operating activities increased in 2017 primarilylower asset management fees paid to our advisor during the nine months ended September 30, 2023 as a result of an increase in lease terminationasset management fees rental rates, operating expense recoveriesthat were restricted for payment and property tax recoveries.deposited in the Bonus Retention Fund as discussed below.
Cash Flows from Investing Activities
Net cash used in investing activities was $124.2$63.2 million for the nine months ended September 30, 2017 and primarily consisted of the following:
$54.0 million used for2023 due to improvements to real estate;
$33.4 million to make an investment in an unconsolidated joint venture;
$33.0 million used for construction in progress related to Hardware Village (defined below); and
$3.8 million of escrow deposits for tenant improvements.estate.
Cash Flows from Financing Activities
Our cash flows from financing activities consist primarily of debt financings, redemptions and distributions paid to our stockholders. During the nine months ended September 30, 2017,2023, net cash provided by financing activities was $6.2$17.3 million and primarily consisted of the following:
•$104.244.8 million of net cash provided by debt financing as a result of proceeds from notes payable of $107.4$46.8 million, partially offset by principal payments on notes payable of $1.9$1.4 million and payments of deferred financing costs of $1.3$0.6 million;
•$54.7 million of cash used for redemptions of common stock; and
$43.425.3 million of net cash distributions, after giving effect to distributions reinvested by stockholders of $45.1 million.$16.2 million;
•$10.0 million of cash used for redemptions and repurchases of common stock; and
•$7.8 million provided by interest rate swap settlements for off-market swap instruments.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
We expect that our debt financing and other liabilities will be between 35%45% and 65% of the cost of our tangible assets (before deducting depreciation and other non-cash reserves). We expect our debt financing related to the acquisition of core real estate properties to be between 45% and 65% of the aggregate cost of all such assets. We expect our debt financing related to the acquisition or origination of real estate-related investments to be between 0% and 65% of the aggregate cost of all such assets, depending upon the availability of such financings in the marketplace. There is no limitation on the amount we may borrow for the purchase of any single asset. We limit our total liabilities to 75% of the cost of our tangible assets (before deducting depreciation and other non-cash reserves), meaning that our borrowings and other liabilities may exceed our maximum target leverage of 65% of the cost of our tangible assets without violating these borrowing restrictions. We may exceed the 75% limit only if a majority of the conflicts committee approves each borrowing in excess of this limitation and we disclose such borrowings to our stockholders in our next quarterly report with an explanation from the conflicts committee of the justification for the excess borrowing. To the extent financing in excess of this limit is available on attractive terms, our conflicts committee may approve debt in excess of this limit. From time to time, our total liabilities could also be below 35%45% of the cost of our tangible assets due to the lack of availability of debt financing. As of September 30, 2017,2023, our borrowings and other liabilities were approximately 57%59% of both the cost (before deducting depreciation and other noncash reserves) and 61% of the book value (before deducting depreciation) of our tangible assets, respectively. This leverage limitation is based on cost and not fair value, and our leverage may exceed 75% of the fair value of our tangible assets.
In addition to making investments in accordance with our investment objectives, weWe also expect to use our capital resources to make certain payments to our advisor and we have made certain payments to our dealer manager. During our operational stage, we expect toadvisor. We currently make payments to our advisor in connection with the acquisition of investments, the management of our investments and costs incurred by our advisor in providing services to us. We also pay fees to our advisor in connection with the disposition of investments. We reimburse our advisor and dealer manager for certain stockholder services. In addition, our advisor is entitled to an incentive fee upon achieving certain performance goals.
Among the fees payable to our advisor is an asset management fee. With respect to investments in real property, the asset management fee is a monthly fee equal to one-twelfth of 0.75% of the amount paid or allocated to acquire the investment, plus the cost of any subsequent development, construction or improvements to the property. This amount includes any portion of the investment that was debt financed and is inclusive of acquisition expenses related thereto (but excludes acquisition fees paid or payable to our advisor). In the case of investments made through joint ventures, the asset management fee is determined based on our proportionate share of the underlying investment (but excluding acquisition fees paid or payable to our advisor). With respect to investments in loans and any investments other than real property, the asset management fee is a monthly fee calculated, each month, as one-twelfth of 0.75% of the lesser of (i) the amount actually paid or allocated to acquire or fund the loan or other investment (which amount includes any portion of the investment that was debt financed and is inclusive of acquisition or origination expenses related thereto but is exclusive of acquisition or origination fees paid or payable to our advisor) and (ii) the outstanding principal amount of such loan or other investment, plus the acquisition or origination expenses related to the acquisition or funding of such investment (excluding acquisition or origination fees paid or payable to our advisor), as of the time of calculation. We currently do not pay asset management fees to our advisor on our investment in units of the SREIT.
Notwithstanding the foregoing on November 8, 2022, we and our advisor amended the advisory agreement related to the payment of asset management fees (the “Renewed Advisory Agreement”), among other provisions. Pursuant to the Renewed Advisory Agreement, commencing with asset management fees accruing from October 1, 2022, we pay $1.15 million of the monthly asset management fee to our advisor in cash and we deposit the remainder of the monthly asset management fee into an interest bearing account in our name, which amounts will be paid to our advisor from such account solely as reimbursement for payments made by our advisor pursuant to our advisor’s employee retention program (such account, the “Bonus Retention Fund”). The Bonus Retention Fund was established in order to incentivize and retain key employees of our advisor. We will be deemed to have fully funded the Bonus Retention Fund once we have deposited $8.5 million in cash into such account, at which time the monthly asset management fee will be payable in full to our advisor. Our advisor has acknowledged and agreed that payments by our advisor to employees under our advisor’s employee retention program that are reimbursed by us from the Bonus Retention Fund will be conditioned on (a) our liquidation and dissolution; (b) a transaction involving the acquisition, merger, conversion or consolidation, either directly or indirectly, of us in which (i) we are not the surviving entity and (ii) our advisor is no longer serving as an advisor or asset manager to the surviving entity in such transaction; (c) the sale or other disposition of all or substantially all of our assets; (d) the non-renewal or termination of the Renewed Advisory Agreement without cause; or (e) the termination of the employee without cause. To the extent the Bonus Retention Fund is not fully paid out to employees as set forth above, the Renewed Advisory Agreement provides that the residual amount will be deemed additional Deferred Asset Management Fees (defined below) and be treated in accordance with the provisions for payment of Deferred Asset Management Fees. Two of our executive officers, Mr. Waldvogel and Ms. Yamane, and one of our directors, Mr. DeLuca, participate in and have been allocated awards under our advisor’s employee retention program, which awards would only be paid as set forth above.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
Prior to entering the Renewed Advisory Agreement, the advisory agreement had provided that with respect to asset management fees accruing from March 1, 2014, our advisor agreed towould defer, without interest, our obligation to pay asset management fees for any month in which our modified funds from operations (“MFFO”) for such month, as such term is defined in the practice guideline issued by the Investment Program AssociationInstitute for Portfolio Alternatives (“IPA”) in November 2010 and interpreted by us, excluding asset management fees, doesdid not exceed the amount of distributions declared by us for record dates of that month. We remainremained obligated to pay our advisor an asset management fee in any month in which our MFFO, excluding asset management fees, for such month exceedsexceeded the amount of distributions declared for the record dates of that month (such excess amount, an “MFFO Surplus”); however, any amount of such asset management fee in excess of the MFFO Surplus will also bewas deferred under the advisory agreement. If the MFFO Surplus for any month exceedsexceeded the amount of the asset management fee payable for such month, any remaining MFFO Surplus will bewas applied to pay any asset management fee amounts previously deferred in accordance with the advisory agreement.
As of September 30, 2017, we had reimbursed our advisor for all accrued and deferredPursuant to the Renewed Advisory Agreement, asset management fees in accordance withaccruing from October 1, 2022 are no longer subject to the terms noteddeferral provision described above. The amount of assetAsset management fees deferred, if any, will vary on a month-to-month basis and the total amount of asset management feesthat remained deferred as well as the timing of the deferrals and repaymentsSeptember 30, 2022 are difficult to predict as they will depend on the amount of and terms of the debt we use to acquire assets, the level of operating cash flow generated by our real estate investments and other factors. In addition, deferrals and repayments may occur in the same period, and it is possible that there could be additional deferrals in the future.“Deferred Asset Management Fees.” As of September 30, 2017,2022, Deferred Asset Management Fees totaled $8.5 million. The Renewed Advisory Agreement also provides that we had $2.2 millionremain obligated to pay our advisor outstanding Deferred Asset Management Fees in any month to the extent that MFFO for such month exceeds the amount of asset management fees payable related to asset management fees incurreddistributions declared for the record dates of that month (such excess amount, a “RMFFO Surplus”); provided however, that any amount of September 2017, which were subsequently paidoutstanding Deferred Asset Management Fees in November 2017.excess of the RMFFO Surplus will continue to be deferred.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
However,Consistent with the prior advisory agreement, the Renewed Advisory Agreement provides that notwithstanding the foregoing, any and all deferred asset management feesDeferred Asset Management Fees that are unpaid will become immediately due and payable at such time as our stockholders have received, together as a collective group, aggregate distributions (including distributions that may constitute a return of capital for federal income tax purposes) sufficient to provide (i) an 8%8.0% per year cumulative, noncompounded return on such net invested capital (the “Stockholders’ 8% Return”) and (ii) a return of their net invested capital, or the amount calculated by multiplying the total number of shares purchased by stockholders by the issue price, reduced by any amounts to repurchase shares pursuant to our share redemption program. The Stockholders’ 8% Return is not based on the return provided to any individual stockholder. Accordingly, it is not necessary for each of our stockholders to have received any minimum return in order for our advisor to receive deferred asset management fees.Deferred Asset Management Fees.
On September 27, 2017,In addition, the Renewed Advisory Agreement provides that any and all Deferred Asset Management Fees that are unpaid will also be immediately due and payable upon the earlier of:
(i) a listing of our shares of common stock on a national securities exchange;
(ii) our liquidation and dissolution;
(iii) a transaction involving the acquisition, merger, conversion or consolidation, either directly or indirectly, of us in which (y) we are not the surviving entity and (z) our advisor renewedis no longer serving as an advisor or asset manager to the advisory agreement. surviving entity in such transaction; and
(iv) the sale or other disposition of all or substantially all of our assets.
The advisory agreement has a one-year term butRenewed Advisory Agreement may be renewedterminated (i) upon 60 days written notice without cause or penalty by either us (acting through the conflicts committee) or our advisor or (ii) immediately by us for an unlimited number of successive one-year periodscause or upon the mutual consentbankruptcy of our advisor. If the Renewed Advisory Agreement is terminated without cause, then our advisor will be entitled to receive from us any residual amount of the Bonus Retention Fund deemed to be additional Deferred Asset Management Fees, provided that upon such non-renewal or termination we do not retain an advisor in which our advisor or its affiliates have a majority interest. Upon termination of the Renewed Advisory Agreement, all unpaid Deferred Asset Management Fees will automatically be forfeited by our advisor, and if the Renewed Advisory Agreement is terminated for cause, any residual amount of the Bonus Retention Fund deemed to be additional Deferred Asset Management Fees will also automatically be forfeited by our conflicts committee.advisor.
As of September 30, 2023, we had accrued $15.4 million of asset management fees, of which $8.5 million were Deferred Asset Management Fees. Included in accrued asset management fees as of September 30, 2023 is $6.9 million of restricted cash deposited into the Bonus Retention Fund. We had not made any payments to our advisor from the Bonus Retention Fund as of September 30, 2023.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and ContingenciesAnalysis of Financial Condition and Results of Operations (continued)
Debt Obligations
The following is a summary of our contractualdebt obligations as of September 30, 20172023 (in thousands):
|
| | | | | | | | | | | | | | | | | | | | |
| | | | | Payments Due During the Years Ended December 31, |
| Contractual Obligations | | Total | | Remainder of 2017 | | 2018-2019 | | 2020-2021 | | Thereafter |
Outstanding debt obligations (1) | | $ | 1,898,897 |
| | $ | 874 |
| | $ | 1,323,985 |
| | $ | 393,448 |
| | $ | 180,590 |
|
Interest payments on outstanding debt obligations (2) | | 110,066 |
| | 16,772 |
| | 67,684 |
| | 23,407 |
| | 2,203 |
|
| Development obligations | | 51,935 |
| | (3) | | (3) | | — |
| | — |
|
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | Payments Due During the Years Ended December 31, |
| Debt Obligations | | Total | | Remainder of 2023 | | 2024-2025 | | 2026-2027 | | Thereafter |
Outstanding debt obligations (1) | | $ | 1,716,859 | | | $ | 1,011,004 | | | $ | 705,855 | | | $ | — | | | $ | — | |
Interest payments on outstanding debt obligations (2) (3) | | 37,313 | | | 19,093 | | | 18,220 | | | — | | | — | |
Interest payments on interest rate swaps (4) (5) | | — | | | — | | | — | | | — | | | — | |
_____________________
(1) Amounts include principal payments only.only based on maturity dates as of September 30, 2023. The maturity dates of certain loans may be extended beyond their current maturity dates; however, the extension options are subject to certain terms and conditions contained in the loan documents some of which are more stringent than our current loan compliance tests. As a result, in order to qualify for certain loan extensions, we will likely be required to reduce the loan commitment by a substantial amount and/or make paydowns on certain loans, which would reduce our liquidity. Additionally, continued increases in interest rates, reductions in real estate values and future tenant turnover in the portfolio will have a further impact on our ability to meet such tests and may further reduce our available liquidity under our loan agreements.
(2) Projected interest payments are based on the outstanding principal amounts, maturity dates and interest rates in effect as of September 30, 20172023 (consisting of the contractual interest rate and the effect ofusing interest rate swaps, ifindices as of September 30, 2023, where applicable).
(3) We incurred interest expense related to notes payable of $45.6$84.0 million, excluding amortization of deferred financing costs totaling $3.8 million and unrealized gain on derivatives of $2.6 million and including interest capitalized of $1.5$3.1 million during the nine months ended September 30, 2017.2023.
(3) We have entered into a consolidated joint venture to develop a two building multi-family apartment complex consisting(4) Projected interest payments on interest rate swaps are calculated based on the notional amount, effective term of 466 unitsthe swap contract, and expect to incur an additional $51.9 millionfixed rate net of the swapped floating rate in development obligations through 2018. Aseffect as of September 30, 2017, $8.7 million had been disbursed under2023. In the Hardware Village Loan Facility and $65.3 million remained available for future disbursements, subject to certain conditions containedcase where the swapped floating rate (one-month LIBOR or one-month Term SOFR) at September 30, 2023 is higher than the fixed rate in the Hardware Village Loan Facility documents.swap agreement, interest payments on interest rate swaps in the above debt obligations table would reflect zero as we would not be obligated to make any interest payments on those swaps and instead expect to receive payments from our swap counter-parties.
As(5) We incurred net realized gains related to interest rate swaps of $22.9 million, excluding unrealized gains on derivative instruments of $9.3 million, during the nine months ended September 30, 2017, we expect to acquire the developer’s 25% equity interest upon completion of Village Center Station II (defined below) in 2018 for approximately $25.0 million.2023.
For additional information regarding our debt obligations and loan maturities, see “—Market Outlook—Real Estate and Real Estate Finance Markets—Going Concern Considerations” and “—Liquidity and Capital Resources.”
Results of Operations
Overview
As of September 30, 2016,2023 and 2022, we owned 2816 office properties, one mixed-use office/retail property and had entered into a consolidated joint venture to developan investment in the equity securities of the SREIT. The following table provides summary information about our results of operations for the three and subsequently operate a multifamily apartment project (“Hardware Village”), which is currently under construction. Duringnine months ended September 30, 2023 and 2022 (dollar amounts in thousands):
Comparison of the three months ended September 30, 2016,2023 versus the Aberdeen First Mortgage Origination was paid off. As of September 30, 2017, we owned 28 office properties and one mixed-use office/retail property and had made an investment in an unconsolidated joint venture to develop and subsequently operate an office/retail property (“Village Center Station II”), which is currently under construction. In addition, we had entered into a consolidated joint venture to develop and subsequently operate Hardware Village, which is currently under construction. As a result, the results of operations presented for the ninethree months ended September 30, 20172022
The following table provides summary information about our results of operations for the three months ended September 30, 2023 and 2016 are not directly comparable due to our acquisition and development activity and the payoff of our investment2022 (dollar amounts in a real estate loan receivable.thousands):
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Three Months Ended
September 30, | | Increase
(Decrease) | | Percentage Change | | | | |
| | | 2023 | | 2022 | | | | |
| Rental income | | $ | 69,489 | | | $ | 67,897 | | | $ | 1,592 | | | 2 | % | | | | |
| Dividend income from real estate equity securities | | 5,310 | | | 7,598 | | | (2,288) | | | (30) | % | | | | |
| Other operating income | | 4,748 | | | 4,724 | | | 24 | | | 1 | % | | | | |
| Operating, maintenance and management | | 19,789 | | | 19,674 | | | 115 | | | 1 | % | | | | |
| Real estate taxes and insurance | | 12,542 | | | 13,069 | | | (527) | | | (4) | % | | | | |
| Asset management fees to affiliate | | 5,268 | | | 5,091 | | | 177 | | | 3 | % | | | | |
| General and administrative expenses | | 1,630 | | | 1,889 | | | (259) | | | (14) | % | | | | |
| Depreciation and amortization | | 29,154 | | | 29,905 | | | (751) | | | (3) | % | | | | |
| Interest expense | | 31,059 | | | 17,166 | | | 13,893 | | | 81 | % | | | | |
| Net gain on derivative instruments | | (12,180) | | | (20,205) | | | 8,025 | | | (40) | % | | | | |
| | | | | | | | | | | | |
| Unrealized loss on real estate equity securities | | (15,541) | | | (29,138) | | | 13,597 | | | (47) | % | | | | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
| Other interest income | | 140 | | | 12 | | | 128 | | | 1,067 | % | | | | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
Comparison of the three months ended September 30, 2017versus the three months ended September 30, 2016
The following table provides summary information aboutRental income from our results of operations for the three months ended September 30, 2017 and 2016 (dollar amounts in thousands):
|
| | | | | | | | | | | | | | | | | | | | | | | |
| | | Three Months Ended September 30, | | Increase (Decrease) | | Percentage Change | | $ Change Due to Acquisitions and Payoffs (1) | | $ Change Due to Properties Held Throughout Both Periods (2) |
| | | 2017 | | 2016 | | | | |
| Rental income | | $ | 77,798 |
| | $ | 76,998 |
| | $ | 800 |
| | 1 | % | | $ | — |
| | $ | 800 |
|
| Tenant reimbursements | | 19,063 |
| | 19,258 |
| | (195 | ) | | (1 | )% | | — |
| | (195 | ) |
| Other operating income | | 5,697 |
| | 5,549 |
| | 148 |
| | 3 | % | | — |
| | 148 |
|
| Operating, maintenance and management costs | | 25,293 |
| | 24,009 |
| | 1,284 |
| | 5 | % | | — |
| | 1,284 |
|
| Real estate taxes and insurance | | 16,460 |
| | 16,359 |
| | 101 |
| | 1 | % | | — |
| | 101 |
|
| Asset management fees to affiliate | | 6,587 |
| | 6,286 |
| | 301 |
| | 5 | % | | 164 |
| | 137 |
|
| General and administrative expenses | | 983 |
| | 1,289 |
| | (306 | ) | | (24 | )% | | n/a |
| | n/a |
|
| Depreciation and amortization | | 41,151 |
| | 39,978 |
| | 1,173 |
| | 3 | % | | — |
| | 1,173 |
|
| Interest expense | | 15,460 |
| | 10,042 |
| | 5,418 |
| | 54 | % | | n/a |
| | n/a |
|
_____________________
(1) Represents the dollar amount increase (decrease)real estate properties increased from $67.9 million for the three months ended September 30, 2017 compared2022 to $69.5 million for the three months ended September 30, 2016 related to real estate investments acquired or repaid on or after July 1, 2016.
(2) Represents the dollar amount increase (decrease) for the three months ended September 30, 2017 compared to the three months ended September 30, 2016 with respect to real estate investments owned by us throughout both periods presented.
Rental income and tenant reimbursements from our real estate properties increased from $96.3 million for the three months ended September 30, 2016 to $96.9 million for the three months ended September 30, 2017. The increase in rental income and tenant reimbursements for properties held throughout both periods was2023, primarily due to an increase in lease termination fees and rental rates, partially offset by a decrease in property tax recoveries.commencements subsequent to September 30, 2022. We expect rental income and tenant reimbursements to vary in future periods based on occupancy rates and rental rates of our real estate investments and to the extent of continued uncertainty in the real estate and financial markets and to increase based ondue to tenant reimbursements related to operating expenses to the developmentextent physical occupancy increases as employees return to the office. See “Market Outlook – Real Estate and subsequent operation of Hardware VillageReal Estate Finance Markets and upon the acquisition of the developer's 25%Going Concern Considerations.”
Dividend income from our real estate equity interest and subsequent operation of Village Center Station II.
Other operating income increasedsecurities decreased from $5.5 million during the three months ended September 30, 2016 to $5.7$7.6 million for the three months ended September 30, 2017. The increase2022 to $5.3 million for the three months ended September 30, 2023 due to a decrease in otherthe dividend rate per unit declared by the SREIT. We expect dividend income for our real estate equity securities to vary in future periods based on the occupancy and rental rates of the SREIT’s portfolio, movements in interest rates and the underlying liquidity needs of the SREIT.
Other operating income remained consistent at $4.7 million for properties held throughout both periods was primarily due to an increase in parking revenues.the three months ended September 30, 2023 and 2022. We expect other operating income to vary in future periods based on occupancy rates and parking rates at our real estate properties and increase uponto the acquisitionextent of continued uncertainty in the developer's 25% equity interestreal estate and subsequent operation of Village Center Station II.financial markets.
Operating, maintenance and management costs increased from $24.0$19.7 million for the three months ended September 30, 20162022 to $25.3$19.8 million for the three months ended September 30, 2017.2023. The increase in operating, maintenance and management costs for properties held throughout both periods was primarily due to an overall increase in repairs and maintenance management feescosts and operating costs, including janitorial and security costs, as a result of general inflation and an increase in bad debt expense related to a tenant bankruptcy at a property.physical occupancy. We expect operating, maintenance and management costs to increase in future periods as a result of general inflation and to the development and subsequent operation of Hardware Village and uponextent physical occupancy increases as employees return to the acquisition of the developer's 25% equity interest and subsequent operation of Village Center Station II and general inflation.office.
Real estate taxes and insurance increased slightlydecreased from $16.4$13.1 million for the three months ended September 30, 20162022 to $16.5$12.5 million for the three months ended September 30, 2017.2023, primarily due to a reduction in the property tax estimate as a result of the lower assessed property value related to one of our real estate properties. We expect real estate taxes and insurance to increase in future periods as a result of the developmentgeneral inflation and subsequent operation of Hardware Village and upon the acquisition of the developer's 25% equity interest and subsequent operation of Village Center Station II and generalto vary based on increases or decreases due to future property tax reassessments.reassessments for properties that we continue to own.
Asset management fees with respect to our real estate investments increased from $6.3$5.1 million for the three months ended September 30, 20162022 to $6.6$5.3 million for the three months ended September 30, 2017.2023, primarily due to capital improvements at our real estate properties. We expect asset management fees to increase in future periods as a result of the continued development of Hardware Village and Village Center Station II and as a result of any improvements we make to our properties and to decrease to the extent we dispose of properties. As of September 30, 2017, $2.22023, there were $15.4 million of accrued asset management fees, of which $8.5 million were payable, which were subsequently paidDeferred Asset Management Fees and $6.9 million was restricted cash deposited into the Bonus Retention Fund. For a discussion of Deferred Asset Management Fees and the Bonus Retention Fund, see “– Liquidity and Capital Resources” herein.
General and administrative expenses decreased from $1.9 million for the three months ended September 30, 2022 to $1.6 million for the three months ended September 30, 2023, primarily due to appraisal fees related to the update of our estimated value per share in November 2017.September 2022 and professional fees incurred related to our conflicts committee’s and board of directors’ evaluation of various alternatives available to us during the three months ended September 30, 2022. General and administrative costs consisted primarily of portfolio legal fees, board of directors fees, third party transfer agent fees, financial advisor consulting fees and audit costs. We expect general and administrative expenses to vary in future periods.
Depreciation and amortization decreased from $29.9 million for the three months ended September 30, 2022 to $29.2 million for the three months ended September 30, 2023, primarily due to the reduced depreciable asset basis for 201 Spear Street as a result of non-cash impairment charges recorded subsequent to September 30, 2022. We expect depreciation and amortization to increase in future periods as a result of additional capital improvements, offset by a decrease in amortization related to fully amortized tenant origination and absorption costs.
Interest expense increased from $17.2 million for the three months ended September 30, 2022 to $31.1 million for the three months ended September 30, 2023. Included in interest expense was (i) $16.2 million and $30.1 million of interest expense payments for the three months ended September 30, 2022 and 2023, respectively, and (ii) the amortization of deferred financing costs of $1.0 million and $1.0 million for the three months ended September 30, 2022 and 2023, respectively. The increase in interest expense was due to higher one-month Bloomberg Short-Term Bank Yield Index (“BSBY”) and one-month Secured Overnight Financing Rate (“Term SOFR”) during the three months ended September 30, 2023 and the related impact on interest expense related to the portion of our variable rate debt and draws on our revolving debt. In general, we expect interest expense to vary based on fluctuations in interest rates (for our variable rate debt) and the amount of future borrowings.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
Depreciation and amortization increased from $40.0We recorded net gain on derivative instruments of $12.2 million for the three months ended September 30, 2016 to $41.22023. Included in net gain on derivative instruments was realized gain on interest rate swaps of $8.6 million for the three months ended September 30, 2017. We expect depreciation and amortization to vary in future periods as a resultunrealized gain on interest rate swaps of a decrease in amortization related to fully amortized tenant origination and absorption costs and increase as a result of the development and subsequent operation of Hardware Village and upon the acquisition of the developer's 25% equity interest and subsequent operation of Village Center Station II.
Interest expense increased from $10.0$3.6 million for the three months ended September 30, 2016 to $15.52023. We recorded net gain on derivative instruments of $20.2 million for the three months ended September 30, 2017.2022. Included in net gain on derivative instruments was unrealized gain on interest expense is the amortizationrate swaps of deferred financing costs of $1.3$18.7 million and $1.3realized gain on interest rate swaps of $1.7 million, offset by $0.2 million of realized loss on interest rate swaps for the three months ended September 30, 2016 and 2017, respectively. Additionally,2022. The decrease in net gain on derivative instruments was primarily due to changes in fair values with respect to our interest rate swaps that are not accounted for as cash flow hedges during the three months ended September 30, 2016 and 2017,2023. In general, we capitalized $0.1 million and $0.7 million of interest to construction-in-progress related to Hardware Village and Village Center Station II, respectively. As a result of $3.7 million of unrealizedexpect net gains or losses on derivative instruments for the three months ended September 30, 2016, interest expense decreased by $1.3 million. Interest expense incurred as a result of our derivative instruments for the three months ended September 30, 2017 was $0.4 million, which includes $1.0 million of unrealized gains on derivative instruments for the three months ended September 30, 2017. The overall increase in interest expense is due to the increased level of borrowings and increased interest rates on our variable rate debt, partially offset by an increase in unrealized gains on derivative instruments. We expect interest expense to increase in future periods as a result of additional borrowings for capital expenditures and development activity. In addition, our interest expense in future periods will vary based on fair value changes with respect to our interest rate swaps that are not accounted for as cash flow hedgeshedges.
During the three months ended September 30, 2023 and fluctuations2022, we recorded an unrealized loss on real estate equity securities of $15.5 million and $29.1 million as a result of the decrease in one-month LIBOR (for our variable rate debt). the closing price of the units of the SREIT on the SGX-ST.
Comparison of the nine months ended September 30, 20172023 versus the nine months ended September 30, 20162022
The following table provides summary information about our results of operations for the nine months ended September 30, 2017 and 2016 (dollar amounts in thousands): | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Nine Months Ended
September 30, | | Increase
(Decrease) | | Percentage Change | | | | |
| | | 2023 | | 2022 | | | | |
| Rental income | | $ | 200,859 | | | $ | 204,939 | | | $ | (4,080) | | | (2) | % | | | | |
| Dividend income from real estate equity securities | | 11,850 | | | 14,850 | | | (3,000) | | | (20) | % | | | | |
| Other operating income | | 13,857 | | | 13,468 | | | 389 | | | 3 | % | | | | |
| Operating, maintenance and management | | 55,728 | | | 54,506 | | | 1,222 | | | 2 | % | | | | |
| Real estate taxes and insurance | | 39,994 | | | 41,231 | | | (1,237) | | | (3) | % | | | | |
| Asset management fees to affiliate | | 15,542 | | | 14,952 | | | 590 | | | 4 | % | | | | |
| General and administrative expenses | | 4,766 | | | 5,689 | | | (923) | | | (16) | % | | | | |
| Depreciation and amortization | | 86,263 | | | 83,763 | | | 2,500 | | | 3 | % | | | | |
| Interest expense | | 87,137 | | | 36,992 | | | 50,145 | | | 136 | % | | | | |
| Net gain on derivative instruments | | (32,110) | | | (49,143) | | | 17,033 | | | (35) | % | | | | |
| Impairment charges on real estate | | 45,459 | | | — | | | 45,459 | | | 100 | % | | | | |
| Unrealized loss on real estate equity securities | | (57,630) | | | (63,673) | | | 6,043 | | | (9) | % | | | | |
| Write-off of prepaid offering costs | | — | | | (2,728) | | | 2,728 | | | (100) | % | | | | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
| | | | | | | | | | | | |
| Other interest income | | 250 | | | 35 | | | 215 | | | 614 | % | | | | |
| | | | | | | | | | | | |
|
| | | | | | | | | | | | | | | | | | | | | | | |
| | | Nine Months Ended September 30, | | Increase (Decrease) | | Percentage Change | | $ Change Due to Acquisitions and Payoffs (1) | | $ Change Due to Properties Held Throughout Both Periods (2) |
| | | 2017 | | 2016 | | | | |
| Rental income | | $ | 236,200 |
| | $ | 228,783 |
| | $ | 7,417 |
| | 3 | % | | $ | 558 |
| | $ | 6,859 |
|
| Tenant reimbursements | | 57,652 |
| | 54,849 |
| | 2,803 |
| | 5 | % | | (96 | ) | | 2,899 |
|
| Other operating income | | 17,124 |
| | 15,504 |
| | 1,620 |
| | 10 | % | | 186 |
| | 1,434 |
|
| Interest income from real estate loan receivable | | — |
| | 831 |
| | (831 | ) | | (100 | )% | | (831 | ) | | — |
|
| Operating, maintenance and management costs | | 70,765 |
| | 68,627 |
| | 2,138 |
| | 3 | % | | (36 | ) | | 2,174 |
|
| Real estate taxes and insurance | | 48,721 |
| | 47,675 |
| | 1,046 |
| | 2 | % | | 24 |
| | 1,022 |
|
| Asset management fees to affiliate | | 19,223 |
| | 18,646 |
| | 577 |
| | 3 | % | | 252 |
| | 325 |
|
| Real estate acquisition fees to affiliate | | — |
| | 1,473 |
| | (1,473 | ) | | (100 | )% | | (1,473 | ) | | n/a |
|
| Real estate acquisition fees and expenses | | — |
| | 306 |
| | (306 | ) | | (100 | )% | | (306 | ) | | n/a |
|
| General and administrative expenses | | 3,324 |
| | 4,115 |
| | (791 | ) | | (19 | )% | | n/a |
| | n/a |
|
| Depreciation and amortization | | 124,370 |
| | 120,088 |
| | 4,282 |
| | 4 | % | | 246 |
| | 4,036 |
|
| Interest expense | | 45,257 |
| | 53,948 |
| | (8,691 | ) | | (16 | )% | | n/a |
| | n/a |
|
| Other income | | 650 |
| | — |
| | 650 |
| | 100 | % | | — |
| | 650 |
|
_____________________
(1) Represents the dollar amount increase (decrease) for the nine months ended September 30, 2017 compared to the nine months ended September 30, 2016 related to real estate investments acquired or repaid on or after January 1, 2016.
(2) Represents the dollar amount increase (decrease) for the nine months ended September 30, 2017 compared to the nine months ended September 30, 2016 with respect to real estate investments owned by us throughout both periods presented.
Rental income and tenant reimbursements from our real estate properties increaseddecreased from $283.6$204.9 million for the nine months ended September 30, 20162022 to $293.9$200.9 million for the nine months ended September 30, 2017. The increase in rental income and tenant reimbursements for properties held throughout both periods was2023, primarily due to an increase inthe reserve for straight-line rent for a lease termination fees, rental rates, operating expense recoveries and property tax recoveries.at 201 Spear Street. We expect rental income and tenant reimbursements to vary in future periods based on occupancy rates and rental rates of our real estate investments and to the extent of continued uncertainty in the real estate and financial markets and to increase based ondue to tenant reimbursements related to operating expenses to the developmentextent physical occupancy increases as employees return to the office. See “Market Outlook – Real Estate and subsequent operation of Hardware VillageReal Estate Finance Markets and upon the acquisition of the developer's 25%Going Concern Considerations.”
Dividend income from our real estate equity interest and subsequent operation of Village Center Station II.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
Other operating income increasedsecurities decreased from $15.5 million during the nine months ended September 30, 2016 to $17.1$14.9 million for the nine months ended September 30, 2017.2022 to $11.9 million for the nine months ended September 30, 2023 due to a decrease in the dividend rate per unit declared by the SREIT. We expect dividend income for our real estate equity securities to vary in future periods based on the occupancy and rental rates of the SREIT’s portfolio, movements in interest rates and the underlying liquidity needs of the SREIT.
Other operating income increased from $13.5 million for the nine months ended September 30, 2022 to $13.9 million for the nine months ended September 30, 2023. The increase in other operating income for properties held throughout both periods was primarily due to an increase in parking revenues.revenues as employees return to the office. We expect other operating income to vary in future periods based on occupancy rates and parking rates at our real estate properties and increase uponto the acquisitionextent of continued uncertainty in the developer's 25% equity interest and subsequent operation of Village Center Station II.
Interest income from our real estate loan receivable, recognized using the interest method, decreasedand financial markets.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
Operating, maintenance and management costs increased from $0.8$54.5 million for the nine months ended September 30, 20162022 to $0 for the nine months ended September 30, 2017 as a result of the payoff of the real estate loan receivable on July 1, 2016.
Operating, maintenance and management costs increased from $68.6$55.7 million for the nine months ended September 30, 2016 to $70.8 million for the nine months ended September 30, 2017.2023. The increase in operating, maintenance and management costs for properties held throughout both periods was primarily due to an overall increase in repairs and maintenance costs and management fees.operating costs, including janitorial and security costs, as a result of general inflation and an increase in physical occupancy. We expect operating, maintenance and management costs to increase in future periods as a result of general inflation and to the development and subsequent operation of Hardware Village and uponextent physical occupancy increases as employees return to the acquisition of the developer's 25% equity interest and subsequent operation of Village Center Station II and general inflation.office.
Real estate taxes and insurance increaseddecreased from $47.7$41.2 million for the nine months ended September 30, 20162022 to $48.7$40.0 million for the nine months ended September 30, 2017. The increase in real estate taxes and insurance for properties held throughout both periods was2023, primarily due to highera reduction in the property taxestax estimate as a result of reassessments for 500 West Madison.the lower assessed property values related to our real estate properties. We expect real estate taxes and insurance to increase in future periods as a result of the developmentgeneral inflation and subsequent operation of Hardware Village and upon the acquisition of the developer's 25% equity interest and subsequent operation of Village Center Station II and generalto vary based on increases or decreases due to future property tax reassessments.reassessments for properties that we continue to own.
Asset management fees with respect to our real estate investments increased from $18.6$15.0 million for the nine months ended September 30, 20162022 to $19.2$15.5 million for the nine months ended September 30, 2017.2023, primarily due to capital improvements at our real estate properties. We expect asset management fees to increase in future periods as a result of the development and subsequent operation of Hardware Village, upon the acquisition of the developer's 25% equity interest and subsequent operation of Village Center Station II and as a result of any improvements we make to our properties which increase would be offsetand to decrease to the extent we dispose of any of our assets.properties. As of September 30, 2017, $2.22023, there were $15.4 million of accrued asset management fees, of which $8.5 million were payable, which were subsequently paid in November 2017.Deferred Asset Management Fees and $6.9 million was restricted cash deposited into the Bonus Retention Fund. For a discussion of Deferred Asset Management Fees and the Bonus Retention Fund, see “— Liquidity and Capital Resources” herein.
Real estate acquisition feesGeneral and administrative expenses to affiliate and non-affiliates decreased from $1.8$5.7 million for the nine months ended September 30, 20162022 to $0$4.8 million for the nine months ended September 30, 20172023, primarily due to a decrease in acquisition activity. Duringprofessional fees incurred related to our conflicts committee’s and board of directors’ evaluation of various alternatives available to us during the nine months ended September 30, 2017, we did not acquire any investments accounted for as2022 and a business combination, but we did make an investmentdecrease in an unconsolidated joint venture. During the nine months ended September 30, 2017, we capitalized an aggregateboard of $0.7 million in acquisitiondirector fees. General and administrative costs consisted primarily of portfolio legal fees, board of directors fees, third party transfer agent fees, financial advisor consulting fees and audit costs. We expect general and administrative expenses related to the development of Hardware Village and the investment in the unconsolidated joint venture investment, the Village Center Station II Joint Venture. During the nine months ended September 30, 2016, we acquired one real estate property accounted for as a business combination for $146.1 million. We do not expect to incur any significant real estate acquisition fees and expensesvary in future periods.
Depreciation and amortization increased from $120.1$83.8 million for the nine months ended September 30, 20162022 to $124.4$86.3 million for the nine months ended September 30, 2017,2023, primarily due to an increase in capital improvements as a result the acceleration of amortization of intangible assets related to a tenant relocation and lease terminationexpansion at a property held throughout both periods.and acceleration of depreciation and amortization for early lease terminations. We expect depreciation and amortization to varyincrease in future periods as a result of additional capital improvements, offset by a decrease in amortization related to fully amortized tenant origination and absorption costs and increase as a result of the development and subsequent operation of Hardware Village and upon the acquisition of the developer's 25% equity interest and subsequent operation of Village Center Station II.costs.
Interest expense decreasedincreased from $53.9$37.0 million for the nine months ended September 30, 20162022 to $45.3$87.1 million for the nine months ended September 30, 2017.2023. Included in interest expense iswas (i) $34.1 million and $84.0 million of interest expense payments for the nine months ended September 30, 2022 and 2023, respectively, and (ii) the amortization of deferred financing costs of $3.8$2.9 million and $3.8$3.1 million for the nine months ended September 30, 20162022 and 2017,2023, respectively. Additionally,The increase in interest expense was due to higher one-month LIBOR, one-month BSBY and one-month Term SOFR during the nine months ended September 30, 2017, we capitalized $0.1 million2023 and $1.5 million ofthe related impact on interest to construction-in-progressexpense related to Hardware Village and Village Center Station II, respectively. Interest expense incurred as a resultthe portion of our variable rate debt and draws on our revolving debt. In general, we expect interest expense to vary based on fluctuations in interest rates (for our variable rate debt) and the amount of future borrowings.
We recognized net gain on derivative instruments of $32.1 million for the nine months ended September 30, 2016 and 20172023. Included in net gain on derivative instruments was $20.5(i) realized gain on interest rate swaps of $22.9 million, (ii) unrealized gain on interest rate swaps of $9.3 million, and $3.1 million, respectively, which includes $14.8 million(iii) fair value loss on interest rate cap of unrealized losses and $2.6 million of unrealized gains on derivative instruments$25,000 for the nine months ended September 30, 2016 and 2017, respectively.2023. We recognized net gain on derivative instruments of $49.1 million for the nine months ended September 30, 2022. Included in net gain on derivative instruments was (i) unrealized gain on interest rate swaps of $54.6 million, (ii) realized gain on interest rate swaps of $1.7 million, offset by (iii) $7.2 million of realized loss on interest rate swaps for the nine months ended September 30, 2022. The decrease in interest expense isnet gain on derivative instruments was primarily due to changes in the value offair values with respect to our interest rate swaps that are not accounted for as otherwise interest expense would have increased duecash flow hedges during the nine months ended September 30, 2023. In general, we expect net gains or losses on derivative instruments to the increased level of borrowings. We expect interest expense to increase in future periods as a result of additional borrowings for capital expenditures and development activity. In addition, our interest expense in future periods will vary based on fair value changes with respect to our interest rate swaps that are not accounted for as cash flow hedges and fluctuations in one-month LIBOR (for our variable rate debt).
hedges.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
During the nine months ended September 30, 2023, we recorded non-cash impairment charges of $45.5 million to write down the carrying value of 201 Spear Street (located in San Francisco, California) to its estimated fair value as a result of continued market uncertainty due to rising interest rates, increased vacancy rates as a result of slow return to office in San Francisco, additional projected vacancy due to anticipated tenant turnover and further declining values of comparable sales in the market, all of which impacted ongoing cash flow estimates and leasing projections, which resulted in the future estimated undiscounted cash flows to be lower than the net carrying value of the property. As of September 30, 2023, 201 Spear Street was 64.5% occupied. We are projecting longer lease-up periods for the vacant space, and increased tenant turnover for currently occupied space, as demand for office space in San Francisco has significantly declined as a result of the continued work-from-home arrangements, which increased due to the COVID-19 pandemic, and due to the economic slowdown and the current rising interest rate environment. See also the discussion of the 201 Spear Street Mortgage Loan under “— Liquidity and Capital Resources.” We did not record any non-cash impairment charges during the nine months ended September 30, 2022.
During the nine months ended September 30, 2017,2023 and 2022, we received $0.7recorded unrealized losses on real estate equity securities of $57.6 million in proceeds fromand $63.7 million, respectively, as a one-time easement agreement, which is included in other incomeresult of the decrease in the accompanying consolidated statementsclosing price of operations.the units of the SREIT on the SGX-ST.
During the nine months ended September 30, 2022, we recorded $2.7 million related to the write-off of prepaid offering costs. In order to avoid additional legal, accounting and other offering costs, we withdrew our registration statement on Form S-11 to register a public offering as an NAV REIT, which had been filed with the SEC, as at this time it is not likely we will pursue a conversion to an “NAV REIT.”
Funds from Operations and Modified Funds from Operations
We believe that funds from operations (“FFO”) is a beneficial indicator of the performance of an equity REIT. We compute FFO in accordance with the current National Association of Real Estate Investment Trusts (“NAREIT”) definition. FFO represents net income, excluding gains and losses from sales of operating real estate assets (which can vary among owners of identical assets in similar conditions based on historical cost accounting and useful-life estimates), gains and losses from change in control, impairment losses on real estate assets, depreciation and amortization of real estate assets, and adjustments for unconsolidated partnerships and joint ventures. In addition, we elected the option to exclude mark-to-market changes in value recognized on real estate equity securities in the calculation of FFO. We believe FFO facilitates comparisons of operating performance between periods and among other REITs. However, our computation of FFO may not be comparable to other REITs that do not define FFO in accordance with the NAREIT definition or that interpret the current NAREIT definition differently than we do. Our management believes that historical cost accounting for real estate assets in accordance with U.S. generally accepted accounting principles (“GAAP”) implicitly assumes that the value of real estate assets diminishes predictably over time. Since real estate values have historically risen or fallen with market conditions, many industry investors and analysts have considered the presentation of operating results for real estate companies that use historical cost accounting to be insufficient by themselves. As a result, we believe that the use of FFO, together with the required GAAP presentations, provides a more complete understanding of our performance relative to our competitors and provides a more informed and appropriate basis on which to make decisions involving operating, financing, and investing activities.
Changes in accounting rules have resulted in a substantial increase in the number of non-operating and non-cash items included in the calculation of FFO. As a result, our management also uses MFFO as an indicator of our ongoing performance as well as our dividend sustainability. MFFO excludes from FFO: acquisition fees and expenses (to the extent that such fees and expenses have been recorded as operating expenses); adjustments related to contingent purchase price obligations; amounts relating to straight-line rents and amortization of above and below market intangible lease assets and liabilities; accretion of discounts and amortization of premiums on debt investments; amortization of closing costs relating to debt investments; impairments of real estate-related investments; mark-to-market adjustments included in net income; and gains or losses included in net income for the extinguishment or sale of debt or hedges. We compute MFFO in accordance with the definition of MFFO included in the practice guideline issued by the IPA in November 2010 as interpreted by management. Our computation of MFFO may not be comparable to other REITs that do not compute MFFO in accordance with the current IPA definition or that interpret the current IPA definition differently than we do.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
We believe that MFFO is helpful as a measure of ongoing operating performance because it excludes costs that management considers more reflective of investing activities and other non-operating items included in FFO. Management believes that excluding acquisition fees and expenses (to the extent that such fees and expenses have been recorded as operating expenses) from MFFO provides investors with supplemental performance information that is consistent with management’s analysis of the operating performance of the portfolio over time, including periods after our acquisition stage.time. MFFO also excludes non-cash items such as straight-line rental revenue. Additionally, we believe that MFFO provides investors with supplemental performance information that is consistent with the performance indicators and analysis used by management, in addition to net income and cash flows from operating activities as defined by GAAP, to evaluate the sustainability of our operating performance. MFFO provides comparability in evaluating the operating performance of our portfolio with other non-traded REITs which typically have limited lives with short and defined acquisition periods and targeted exit strategies.REITs. MFFO, or an equivalent measure, is routinely reported by non-traded REITs, and we believe often used by analysts and investors for comparison purposes.
FFO and MFFO are non-GAAP financial measures and do not represent net income as defined by GAAP. Net income as defined by GAAP is the most relevant measure in determining our operating performance because FFO and MFFO include adjustments that investors may deem subjective, such as adding back expenses such as depreciation and amortization and the other items described above. Accordingly, FFO and MFFO should not be considered as alternatives to net income as an indicator of our current and historical operating performance. In addition, FFO and MFFO do not represent cash flows from operating activities determined in accordance with GAAP and should not be considered an indication of our liquidity. We believe FFO and MFFO, in addition to net income and cash flows from operating activities as defined by GAAP, are meaningful supplemental performance measures.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion See also “—Market Outlook—Real Estate and Analysis of Financial ConditionReal Estate Finance Markets—Going Concern Considerations” and Results of Operations (continued)
“—Liquidity and Capital Resources.”
Although MFFO includes other adjustments, the exclusion of adjustments for straight-line rent, the amortization of above- and below-market leases, and unrealized losses (gains) losses on derivative instruments and acquisition fees and expenses (as applicable) are the most significant adjustments for the periods presented. We have excluded these items based on the following economic considerations:
•Adjustments for straight-line rent. These are adjustments to rental revenue as required by GAAP to recognize contractual lease payments on a straight-line basis over the life of the respective lease. We have excluded these adjustments in our calculation of MFFO to more appropriately reflect the current economic impact of our in-place leases, while also providing investors with a useful supplemental metric that addresses core operating performance by removing rent we expect to receive in a future period or rent that was received in a prior period;
•Amortization of above- and below-market leases.Similar to depreciation and amortization of real estate assets and lease related costs that are excluded from FFO, GAAP implicitly assumes that the value of intangible lease assets and liabilities diminishes predictably over time and requires that these charges be recognized currently in revenue. Since market lease rates in the aggregate have historically risen or fallen with local market conditions, management believes that by excluding these charges, MFFO provides useful supplemental information on the realized economics of the real estate;
and•Unrealized (gains) lossesloss (gain) on derivative instruments.These adjustments include unrealized losses (gains) losses from mark-to-market adjustments on interest rate swaps.swaps and the interest rate cap. The change in fair value of interest rate swaps and the interest rate cap not designated as a hedge are non-cash adjustments recognized directly in earnings and are included in interest expense. We have excluded these adjustments in our calculation of MFFO to more appropriately reflect the economic impact of our interest rate swap agreements;agreements and interest rate cap.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
Acquisition fees and expenses. Prior to our early adoption of ASU No. 2017-01 on January 1, 2017, acquisition fees and expenses related to the acquisition of real estate were generally expensed. Although these amounts reduce net income, we exclude them from MFFO to more appropriately present the ongoing operating performance of our real estate investments on a comparative basis. Additionally, acquisition fees and expenses have been funded from the proceeds from our now-terminated initial public offering and debt financings and not from our operations. We believe this exclusion is useful to investors as it allows investors to more accurately evaluate the sustainability of our operating performance.
Our calculation of FFO, which we believe is consistent with the calculation of FFO as defined by NAREIT, is presented in the following table, along with our calculation of MFFO, for the three and nine months ended September 30, 20172023 and 2016,2022, respectively (in thousands). No conclusions or comparisons should be made from the presentation of these periods.
|
| | | | | | | | | | | | | | | | |
| | | For the Three Months Ended September 30, | | For the Nine Months Ended September 30, |
| | | 2017 | | 2016 | | 2017 | | 2016 |
| Net (loss) income attributable to common stockholders | | $ | (3,151 | ) | | $ | 3,859 |
| | $ | 267 |
| | $ | (14,872 | ) |
| Depreciation of real estate assets | | 21,729 |
| | 19,652 |
| | 63,793 |
| | 57,291 |
|
| Amortization of lease-related costs | | 19,422 |
| | 20,326 |
| | 60,577 |
| | 62,797 |
|
FFO attributable to common stockholders (1) | | 38,000 |
| | 43,837 |
| | 124,637 |
| | 105,216 |
|
| Straight-line rent and amortization of above- and below-market leases, net | | (4,140 | ) | | (5,655 | ) | | (13,176 | ) | | (20,812 | ) |
| Amortization of discounts and closing costs | | — |
| | — |
| | — |
| | 15 |
|
| Unrealized (gains) losses on derivative instruments | | (1,004 | ) | | (3,745 | ) | | (2,579 | ) | | 14,813 |
|
| Real estate acquisition fees to affiliate | | — |
| | — |
| | — |
| | 1,473 |
|
| Real estate acquisition fees and expenses | | — |
| | 5 |
| | — |
| | 306 |
|
MFFO attributable to common stockholders (1) | | $ | 32,856 |
| | $ | 34,442 |
| | $ | 108,882 |
| | $ | 101,011 |
|
_____________________ | | | | | | | | | | | | | | | | | | | | | | | |
| For the Three Months Ended
September 30, | | For the Nine Months Ended
September 30, |
| 2023 | | 2022 | | 2023 | | 2022 |
| Net loss | $ | (23,116) | | | $ | (15,496) | | | $ | (133,593) | | | $ | (21,099) | |
| Depreciation of real estate assets | 24,706 | | | 24,947 | | | 72,749 | | | 67,897 | |
| Amortization of lease-related costs | 4,448 | | | 4,958 | | | 13,514 | | | 15,866 | |
| Impairment charges on real estate | — | | | — | | | 45,459 | | | — | |
| Unrealized loss on real estate equity securities | 15,541 | | | 29,138 | | | 57,630 | | | 63,673 | |
| | | | | | | |
| | | | | | | |
| FFO | 21,579 | | | 43,547 | | | 55,759 | | | 126,337 | |
| Straight-line rent and amortization of above- and below-market leases, net | (3,750) | | | (2,945) | | | (6,435) | | | (8,280) | |
| | | | | | | |
| | | | | | | |
| Unrealized gain on derivative instruments | (3,629) | | | (18,708) | | | (9,248) | | | (54,578) | |
| | | | | | | |
| | | | | | | |
| MFFO | $ | 14,200 | | | $ | 21,894 | | | $ | 40,076 | | | $ | 63,479 | |
| | | | | | | |
| | | | | | | |
(1) FFO and MFFO includes $1.0 million and $7.0 million of lease termination income for the three and nine months ended September 30, 2017, respectively. FFO and MFFO includes $0.3 million and $0.7 million of lease termination income for the three and nine months ended September 30, 2016, respectively.
FFO and MFFO may also be used to fund all or a portion of certain capitalizable items that are excluded from FFO and MFFO, such as tenant improvements, building improvements and deferred leasing costs.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
Distributions
From time to time during our operational stage, we may not pay distributions solely from our cash flow from operating activities or FFO, in which case distributions may be paid in whole or in part from debt financing. Distributions declared, distributions paid and cash flow from operating activities were as follows for the first, second and third quarters of 20172023 (in thousands, except per share amounts):
|
| | | | | | | | | | | | | | | | | | | | | | | | |
| | | Distributions Declared (1) | | Distributions Declared Per Share (1) (2) | | Distributions Paid (3) | | Cash Flow from Operating Activities |
| Period | | | | Cash | | Reinvested | | Total | |
| First Quarter 2017 | | $ | 29,080 |
| | $ | 0.160 |
| | $ | 14,067 |
| | $ | 14,987 |
| | $ | 29,054 |
| | $ | 19,097 |
|
| Second Quarter 2017 | | 29,421 |
| | 0.162 |
| | 14,640 |
| | 15,110 |
| | 29,750 |
| | 39,521 |
|
| Third Quarter 2017 | | 29,650 |
| | 0.164 |
| | 14,689 |
| | 15,001 |
| | 29,690 |
| | 31,947 |
|
| | | $ | 88,151 |
| | $ | 0.486 |
| | $ | 43,396 |
| | $ | 45,098 |
| | $ | 88,494 |
| | $ | 90,565 |
|
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Period | | Distributions Declared | | Distributions Declared Per Share (1) | | Distributions Paid (2) | | Cash Flow from Operating Activities |
| | | Cash | | Reinvested | | Total | |
| First Quarter 2023 | | $ | 17,073 | | | $ | 0.115 | | | $ | 11,303 | | | $ | 7,448 | | | $ | 18,751 | | | $ | 5,192 | |
| Second Quarter 2023 | | 17,121 | | | 0.115 | | | 10,488 | | | 6,617 | | | 17,105 | | | 6,510 | |
| Third Quarter 2023 | | — | | | — | | | 3,529 | | | 2,183 | | | 5,712 | | | 25,490 | |
| | $ | 34,194 | | | $ | 0.230 | | | $ | 25,320 | | | $ | 16,248 | | | $ | 41,568 | | | $ | 37,192 | |
_____________________
| |
(1) Assumes share was issued and outstanding on each monthly record date for distributions during the period presented. For each monthly record date for distributions during the period from January 1, 2023 through June 30, 2023, distributions were calculated at a rate of $0.03833333 per share. (2) Distributions are generally paid on a monthly basis. Distributions for the monthly record date of a given month are generally paid on or about the first business day of the following month. (1)
| Distributions for the period from January 1, 2017 through September 30, 2017 were based on daily record dates and were calculated at a rate of $0.00178082 per share per day. |
| |
(2)
| Assumes share was issued and outstanding each day during the period presented. |
| |
(3)
| Distributions are paid on a monthly basis. Distributions for all record dates of a given month are paid on or about the first business day of the following month. |
For the nine months ended September 30, 2017,2023, we paid aggregate distributions of $88.5$41.6 million, including $43.4$25.3 million of distributions paid in cash and $45.1$16.3 million of distributions reinvested through our dividend reinvestment plan. Our net income attributable to common stockholdersloss for the nine months ended September 30, 20172023 was $0.3$133.6 million. FFO for the nine months ended September 30, 20172023 was $124.6$55.8 million and cash flow from operating activities was $90.6$37.2 million. See the reconciliation of FFO to net (loss) income attributable to common stockholders above. We funded our total distributions paid, which includes net cash distributions and dividends reinvested by stockholders, with $78.5$17.4 million of cash flow from current operating activities, and $10.0$8.3 million of cash flow from operating activities in excess of distributions paid during 2016.prior periods and $15.9 million of proceeds from debt financing. For purposes of determining the source of our distributions paid, we assume first that we use cash flow from operating activities from the relevant or prior periods to fund distribution payments.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
In January 2023, we reduced the long-term,distribution rate from that of prior periods due to the continued impact of the economic slowdown on our cash flows. Commencing in July 2023, due to the illiquidity in the debt and capital markets and upcoming loan maturities, we expect thatfurther adjusted the timing and amount of stockholder distributions in order to be able to retain funds for future leasing needs in the portfolio. We have moved to quarterly assessments of distributions, and by the last month of each calendar quarter we will make a greater percentage of ourdecision on the distribution amount (if any) to be paid. We did not declare any distributions for the three months ended September 30, 2023. For the reasons discussed herein, we are unable to predict when we will be paid from current cash flow from operating activities (except with respectin a position to distributions related to salesresume the payment of our assets andregular distributions related to the repayment of principal under any real estate-related investments we make). From time to time during our operational stage, we may not pay distributions solely from our cash flow from operating activities. To the extent that we pay distributions from sources other than our cash flow from operating activities, the overall return to our stockholders may be reduced. Further, our operating performance cannot be accurately predicted and may deteriorate. Continued disruptions in the future duefinancial markets and economic uncertainty could adversely affect our ability to numerous factors, including those discussed under “Forward-Looking Statements”implement our business strategy and “Marketcontinue as a going concern. See “– Market Outlook -– Real Estate and Real Estate Finance Markets”Markets and Going Concern Considerations”, “– Liquidity and Capital Resources” and Part II, Item 1A, “Risk Factors” herein and the risks discussed in Part I, Item 1A, “Risk Factors” and Part II, Item 5, “Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities – Distribution Information” in our Annual Report on Form 10-K for the year ended December 31, 2016,2022 as filed with the SEC. Those factors include: the future operating performance of our real estate investments in the existing real estate and financial environment; the success and economic viability of our tenants; our ability to refinance existing indebtedness at comparable terms; changes in interest rates on any variable rate debt obligations we incur; and the level of participation in our dividend reinvestment plan. In the event our FFO and/or cash flow from operating activities decrease in the future, the level of our distributions may also decrease. In addition, future distributions declared and paid may exceed FFO and/or cash flow from operating activities.
Critical Accounting Policies and Estimates
Our consolidated interim financial statements have been prepared in accordance with GAAP and in conjunction with the rules and regulations of the SEC. The preparation of our financial statements requires significant management judgments, assumptions and estimates about matters that are inherently uncertain. These judgments affect the reported amounts of assets and liabilities and our disclosure of contingent assets and liabilities as of the dates of the financial statements and the reported amounts of revenue and expenses during the reporting periods. With different estimates or assumptions, materially different amounts could be reported in our financial statements. Additionally, other companies may utilize different estimates that may impact the comparability of our results of operations to those of companies in similar businesses. A discussion of the accounting policies that management considers critical in that they involve significant management judgments, assumptions and estimates is included in our Annual Report on Form 10-K for the year ended December 31, 20162022 filed with the SEC. There have been no significant changes to our policies during 2017 except2023.
Subsequent Events
We evaluate subsequent events up until the date the consolidated financial statements are issued.
Accenture Tower Revolving Loan
On November 2, 2020, we, through an indirect wholly owned subsidiary (the “Accenture Tower Borrower”), entered into a three-year loan facility with U.S. Bank, National Association, as administrative agent, joint lead arranger and co-book runner; Bank of America, N.A., as syndication agent, joint lead arranger and co-book runner; and Deutsche Pfandbriefbank AG (together, with the National Bank of Kuwait S.A.K.P. Grand Caymans Branch (which was subsequently added as a lender), the “Accenture Tower Lenders”), for a committed amount of up to $375.0 million (as amended and modified, the addition“Accenture Tower Revolving Loan”), of which $281.3 million was term debt and $93.7 million was revolving debt. The Accenture Tower Revolving Loan is secured by Accenture Tower.
The Accenture Tower Revolving Loan had a maturity date of November 2, 2023, with two 12-month extension options, subject to certain terms and conditions contained in the loan documents. On November 2, 2023, we, through the Accenture Tower Borrower, entered into a second modification agreement with the Accenture Tower Lenders to extend the initial maturity date of the Accenture Tower Revolving Loan to December 4, 2023. The two 12-month extension options pursuant to the loan agreement remain available from the original maturity date of November 2, 2023, in each case subject to certain terms and conditions contained in the loan documents. As of November 2, 2023, the outstanding principal balance of the Accenture Tower Revolving Loan consisted of $281.3 million of term debt and the $93.7 million of revolving debt was undrawn. Pursuant to the second modification agreement, the Accenture Tower Borrower shall have no right to request and the Accenture Tower Lenders shall have no obligation to disburse, any advances of the revolving debt until the Accenture Tower Borrower successfully extends the term of the Accenture Tower Revolving Loan by satisfying the terms and conditions of the first extension option. We continue to have discussions with the Accenture Tower Lenders regarding potential modifications to the Accenture Tower Revolving Loan, which would include, among other modifications, an accounting policy with respect to investments in unconsolidated joint ventures underextension of the equity method.
maturity date, but we can give no assurance that such modification will be completed.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
Investments in Unconsolidated Joint Ventures
We account for investments in unconsolidated joint ventures over which we may exercise significant influence, but do not control, using the equity method of accounting. Under the equity method, the investment is initially recorded at costAmended and subsequently adjusted to reflect additional contributions or distributions and our proportionate share of equity in the joint venture’s income (loss). We recognize our proportionate share of the ongoing income or loss of the unconsolidated joint venture as equity in income (loss) of unconsolidated joint venture on the consolidated statements of operations. On a quarterly basis, we evaluate our investment in an unconsolidated joint venture for other-than-temporary impairments.
Subsequent Events
We evaluate subsequent events up until the date the consolidated financial statements are issued.
Distributions Paid
On October 2, 2017, we paid distributions of $9.7 million, which related to distributions declared for daily record dates for each day in the period from September 1, 2017 through September 30, 2017. On November 1, 2017, we paid distributions of $10.0 million, which related to distributions declared for daily record dates for each day in the period from October 1, 2017 through October 31, 2017.
Distributions Declared
On October 9, 2017, our board of directors authorized distributions based on daily record dates for the period from November 1, 2017 through November 30, 2017, which we expect to pay in December 2017. On November 14, 2017, our board of directors authorized distributions based on daily record dates for the period from December 1, 2017 through December 31, 2017, which we expect to pay in January 2018, and distributions based on daily record dates for the period from January 1, 2018 through January 31, 2018, which we expect to pay in February 2018. Investors may choose to receive cash distributions or purchase additional shares through our dividend reinvestment plan.
Distributions for these periods will be calculated based on stockholders of record each day during these periods at a rate of $0.00178082 per share per day and equal a daily amount that, if paid each day for a 365-day period, would equal a 6.11% annualized rate based on our December 9, 2016 estimated value per share of $10.63.
Financing Subsequent to September 30, 2017
Restated Portfolio Loan Facility
On November 3, 2017,2021, we, through indirect wholly owned subsidiaries (each a “Borrower” and together, the “Borrowers”), entered into a three-yeartwo-year loan facilityagreement with Bank of America, N.A., as administrative agent; Merril Lynch Pierce Fenner & Smith Incorporated,BofA Securities, Inc., Wells Fargo Securities, LLC and U.S. Bank, N.A.,Capital One, National Association as joint lead arrangers and joint book runners; Wells Fargo Bank, NA,N.A., as syndication agent, and each of the financial institutions a signatory thereto, (the “Lenders”), for an amount of up to $1.01 billion (the “Portfolio Loan Facility”),$613.2 million, of which $757.5$459.9 million iswas term debt and $252.5$153.3 million was revolving debt (the “Amended and Restated Portfolio Loan Facility”). The current lenders under the Amended and Restated Portfolio Loan Facility are Bank of America, N.A.; Wells Fargo Bank, National Association; U.S. Bank, National Association; Capital One, National Association; PNC Bank, National Association; Regions Bank; and Zions Bankcorporation, N.A., DBA California Bank & Trust (together, the “Amended and Restated Portfolio Loan Facility Lenders”).
The Amended and Restated Portfolio Loan Facility is revolving debt. Proceeds from the term debt were used to pay off and address the upcoming 2018 loan maturities for the existing Town Center Mortgage Loan, RBCsecured by 60 South Sixth, Preston Commons, Sterling Plaza, Mortgage Loan, National Office Portfolio Mortgage Loan, 500 West Madison Mortgage Loan, Ten Almaden Mortgage Loan and Towers at Emeryville, Mortgage Loan. At closing, $787.5 million was funded, of which $776.0 million was used to pay off the existing mortgage loans (listed above)Ten Almaden and the remaining amount was used to pay origination feesTown Center.
The Amended and accrued interest. The $787.5 million funded consisted of $757.5 million of term debt and $30.0 million of revolving debt. TheRestated Portfolio Loan Facility may be used for the repaymenthad a maturity date of debt, for tenant improvements, leasing commissions and capital improvements, for working capital or liquidity management of the company and for other purposes described in the loan agreement. During the term of the Portfolio Loan Facility, we have an option to increase the aggregate loan amount by up to an additional $400.0 million in increments of $25.0 million, to a maximum of $1.41 billion, 25% of which would be revolving debt and 75% of which would be term debt, subject to certain conditions contained in the loan agreement.
The Portfolio Loan Facility matures on November 3, 2020,2023, with twoone 12-month extension options,option, subject to certain terms and conditions containedas described in the loan documents. TheAs of November 3, 2023, we did not meet the conditions necessary to exercise the one-year extension option. On November 8, 2023, we, through the Borrowers, entered into a loan modification and extension agreement with the Amended and Restated Portfolio Loan Facility bears interest at a floating rateLenders, effective as of 180 basis points over one-month LIBOR duringNovember 3, 2023 (the “Extension Agreement”). Pursuant to the initial termExtension Agreement, the maturity date of the loanAmended and monthly payments are interest only with the entire balance and all outstanding interest and fees due at maturity, assuming no prior prepayment. We will have the right to prepay all of theRestated Portfolio Loan Facility subjectwas extended to certain expenses potentially incurred byNovember 17, 2023 with no additional options to extend the Lenders as a resultmaturity date. As of November 3, 2023, the aggregate outstanding principal balance of the prepaymentAmended and subject to certain conditions contained in the loan documents. In addition, theRestated Portfolio Loan Facility contains customary representationswas approximately $606.3 million. The unadvanced portion of the commitment of approximately $6.9 million was permanently cancelled. We continue to have discussions with the Amended and warranties, financialRestated Portfolio Loan Facility Lenders regarding a potential modification of the Amended and Restated Portfolio Loan Facility which would include, among other affirmative and negative covenants (including maintenancemodifications, an extension of an ongoing debt service coverage ratio), events of default and remedies typical for this type of facility.the maturity date, but we can give no assurance that such modification will be completed.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (continued)
On November 3, 2017, KBS REIT Properties III, LLC (“REIT Properties III”), an indirect wholly owned subsidiary of us, entered into three interest rate swap agreements with a current aggregate notional amount of $451.5 million. As of November 3, 2017, we had three existing interest rate swaps related to the paid off loans with a current notional amount in the aggregate of $306.0 million. As the existing interest rate swaps expire at various times from January 1, 2018 through January 1, 2020, the notional amount of the new interest rate swaps in the aggregate will increase to maintain a notional amount of $757.5 million. The new and existing interest rate swaps, in the aggregate, effectively fix the interest rate on the term portion of the Portfolio Loan Facility at a blended rate of 3.861%, effective from November 3, 2017 through November 1, 2022.
The Portfolio Loan Facility is secured by RBC Plaza, Preston Commons, Sterling Plaza, One Washingtonian Center, Towers at Emeryville, Ten Almaden, Town Center and 500 West Madison. We have the right to substitute properties securing the Portfolio Loan Facility at any time, subject to approval of the Lenders and compliance with the terms and conditions described in the loan agreement.
Under the guaranty agreement related to the Portfolio Loan Facility (the “Guaranty”), REIT Properties III (i) provides a guaranty of, among other sums described in the Guaranty, all principal and interest outstanding under the Portfolio Loan Facility in the event of certain bankruptcy or insolvency proceedings involving REIT Properties III, any Borrower or any of their affiliates and (ii) guarantees payment of, and agrees to protect, defend, indemnify and hold harmless each Lender for, from and against, any deficiency, loss or damage suffered by any Lender because of (a) certain intentional acts committed by any Borrower or (b) certain bankruptcy or insolvency proceedings involving REIT Properties III, any Borrower or any of their affiliates, as such acts are described in the Guaranty.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 3. Quantitative and Qualitative Disclosures about Market Risk
We are exposed to the effects of interest rate changes as a result of borrowings used to maintain liquidity and to fund the acquisition, expansion and refinancing of our real estate investment portfolio and operations. We may also be exposed to the effects of changes in interest rates as a result of the acquisition and origination of mortgage and other loans. Our profitability and the value of our real estate investment portfolio may be adversely affected during any period as a result of interest rate changes. Our interest rate risk management objectives are to limit the impact of interest rate changes on earnings, prepayment penalties and cash flows and to lower overall borrowing costs. We may manage interest rate risk by maintaining a ratio of fixed rate, long-term debt such that variable rate exposure is kept at an acceptable level or we may utilizeutilizing a variety of financial instruments, including interest rate caps, floors, and swap agreements, in order to limit the effects of changes in interest rates on our operations. When we use these types of derivatives to hedge the risk of interest-earning assets or interest-bearing liabilities, we may be subject to certain risks, including the risk that losses on a hedge position will reduce the funds available for the payment of distributions to our stockholdersother capital needs and that the losses may exceed the amount we invested in the instruments.
We borrow funds and make investments at a combination of fixed and variable rates. Interest rate fluctuations will generally not affect our future earnings or cash flows on our fixed rate debt, or fixed rate real estate loans receivable, if any, unless such instruments mature or are otherwise terminated. However, interest rate changes will affect the fair value of our fixed rate instruments. As of September 30, 2017,2023, the fair value of our fixed rate debt was $193.5$122.1 million and the outstanding principal balance of our fixed rate debt was $192.9$123.0 million. The fair value estimate of our fixed rate debt is calculated using a discounted cash flow analysis utilizing rates we would expect to pay for debt of a similar type and remaining maturity if the loan was originated as of September 30, 2017.2023. As we expect to hold our fixed rate instruments to maturity (unless the property securing the debt is sold and the loan is repaid) and the amounts due under such instruments would be limited to the outstanding principal balance and any accrued and unpaid interest, we do not expect that fluctuations in interest rates, and the resulting change in fair value of our fixed rate instruments, would have a significant impact on our operations. As of September 30, 2017, we did not own any fixed rate loans receivable.
Conversely, movements in interest rates on our variable rate debt would change our future earnings and cash flows, but not significantly affect the fair value of those instruments. However, changes in required risk premiums would result in changes in the fair value of variable rate instruments. As of September 30, 2017,2023, we were exposed to market risks related to fluctuations in interest rates on $630.9$547.6 million of variable rate debt outstanding after giving consideration to the impact of interest rate swap agreements on approximately $1.1$1.0 billion of our variable rate debt. This amount does not take into account the impact of $91.5 million of forwardWe also had an interest rate swap agreements that were not yet effective ascap for a notional amount of September 30, 2017.$125.0 million. Based on interest rates as of September 30, 2017,2023, if interest rates were 100 basis points higher or lower during the 12 months ending September 30, 2018,2024, interest expense on our variable rate debt would increase or decrease by $6.3$5.5 million. As of September 30, 2017, we did not own any variable
The interest rate loans receivable.
Theand weighted-average effective interest ratesrate of our fixed rate debt and variable rate debt as of September 30, 20172023 were 4.1%3.7% and 3.2%5.0%, respectively. The weighted-average effective interest rates representrate represents the actual interest rate in effect as of September 30, 20172023 (consisting of the contractual interest rate and the effect of interest rate swaps and the interest rate cap, if applicable), using interest rate indices as of September 30, 20172023 where applicable.
We have $1.7 billion of loan maturities in the next 12 months. We continue to have discussions with our lenders regarding potential modifications to certain debt obligations, including the Amended and Restated Portfolio Loan Facility and Accenture Tower Revolving Loan. See Part I, Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Subsequent Events – Accenture Tower Revolving Loan” and “– Subsequent Events – Amended and Restated Portfolio Loan Facility.” Given the challenges affecting the U.S. commercial real estate industry and the rising interest rate environment, in order to refinance or extend these loans, we expect lenders to demand higher interest rate spreads compared to the existing terms in our current loan agreements. We utilize interest rate swaps to manage interest rate risk, and in particular fluctuations in the variable rate, namely SOFR, but these interest rate swaps will not mitigate any risk related to higher interest rate spreads. As a result, we expect interest expense and our weighted-average effective interest rate to increase in the future as we continue to refinance our maturing debt. For a discussion of the interest rate risks related to the current capital and credit markets, see Part I, Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations -– Market Outlook -– Real Estate and Real Estate Finance Markets”Markets and Going Concern Considerations” and Part II, Item 1A, “Risk Factors” herein and the risks discussed in Part I, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2016,2022, as filed with the SEC.
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 3. Quantitative and Qualitative Disclosures about Market Risk (continued)
We are exposed to financial market risk with respect to our investment in the SREIT (SGX-ST Ticker: OXMU). Financial market risk is the risk that we will incur economic losses due to adverse changes in our investment’s security price. Our exposure to changes in security prices is a result of our investment in these types of securities. Market prices are subject to fluctuation and, therefore, the amount realized in the subsequent sale of an investment may significantly differ from our carrying value. Fluctuation in the market prices of a security may result from any number of factors, including perceived changes in the underlying fundamental characteristics of the issuer, the relative price of alternative investments, interest rates, default rates and general market conditions. The SREIT’s units were first listed for trading on the SGX-ST on July 19, 2019. If an active trading market for the units does not develop or is not sustained, it may be difficult to sell our units. The market for Singapore REITs may trade a small number of securities and may be unable to respond effectively to increases in trading volume, potentially making prompt liquidation of our investment in the SREIT difficult. Even if an active trading market develops or we are able to negotiate block trades, if we or other significant investors sell or are perceived as intending to sell a substantial amount of units in a short period of time, the market price of our remaining units could be adversely affected. In addition, as a foreign equity investment, the trading price of units of the SREIT may be affected by political, economic, financial and social factors in the Singapore and Asian markets, including changes in government, economic and fiscal policies. Furthermore, we may be limited in our ability to sell our investment in the SREIT if our advisor and/or its affiliates are deemed to have material, non-public information regarding the SREIT. Charles J. Schreiber, Jr., our Chief Executive Officer, our President and our affiliated director, is a former director of the external manager of the SREIT, and Mr. Schreiber currently holds an indirect ownership interest in the external manager of the SREIT. An affiliate of our advisor serves as the U.S. asset manager to the SREIT. We do not currently engage in derivative or other hedging transactions to manage our investment’s security price risk.
As of September 30, 2023, we held 215,841,899 units of the SREIT which represented 18.2% of the outstanding units of the SREIT as of that date. As of September 30, 2023, the aggregate value of our investment in the units of the SREIT was $29.8 million, which was based solely on the closing price of the SREIT units on the SGX-ST of $0.138 per unit as of September 30, 2023, and did not take into account any potential discount for the holding period risk due to the quantity of units held by us relative to the normal level of trading volume in the units. This is a decrease of $0.742 per unit from our initial acquisition of the SREIT units at $0.880 per unit on July 19, 2019. Due to the disruptions in the financial markets, since early March 2020, the trading price of the common units of the SREIT has experienced substantial volatility. The trading price of the common units of the SREIT has been significantly impacted by the market sentiment for stock with significant investment in U.S. commercial office buildings. The SREIT also has a significant amount of debt maturing in 2024, which adds additional uncertainty around the value of the units. Based solely on the closing price per unit of the SREIT units as of September 30, 2023, if prices were to increase or decrease by 10%, our net income would increase or decrease by approximately $3.0 million.
Item 4. Controls and Procedures
Disclosure Controls and Procedures
As of the end of the period covered by this report, management, including our principal executive officer and principal financial officer, evaluated the effectiveness of the design and operation of our disclosure controls and procedures. Based upon, and as of the date of, the evaluation, our principal executive officer and principal financial officer concluded that the disclosure controls and procedures were effective as of the end of the period covered by this report to ensure that information required to be disclosed in the reports we file and submit under the Exchange Act is recorded, processed, summarized and reported as and when required. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by us in the reports we file and submit under the Exchange Act is accumulated and communicated to our management, including our principal executive officer and our principal financial officer, as appropriate to allow timely decisions regarding required disclosure.
Internal Control Over Financial Reporting
There have been no changes in our internal control over financial reporting that occurred during the quarter ended September 30, 20172023 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
44
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
None.
Item 1A. Risk Factors
In addition to the riskrisks discussed below, please see the risks discussed in Part I, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2016,2022 and in Part II, Item 1A of our Quarterly Report on Form 10-Q for the period ended March 31, 2023, each as filed with the SEC.
BecauseWe have substantial indebtedness maturing over the 12-month period ending September 30, 2024. Considering the current commercial real estate lending environment, this raises substantial doubt as to our ability to continue as a going concern for at least a year from the date of certain limitationsthe issuance of these financial statements. If we are unable to repay, refinance or extend maturing loans, the lenders may declare events of default and seek to foreclose on the dollarunderlying collateral. There is no assurance that we will be able to satisfy, extend or refinance the maturing loans, and even if we do, we may still be adversely affected if substantial principal paydowns are required.
As of September 30, 2023, we had mortgage debt obligations in the aggregate principal amount of $1.7 billion, with a weighted-average remaining term of 0.3 years. As of September 30, 2023, we had $1.7 billion of notes payable maturing during the 12 months ending September 30, 2024. Considering the current commercial real estate lending environment, this raises substantial doubt as to our ability to continue as a going concern for at least a year from the date of the issuance of these financial statements. Certain of our loans have extension options beyond the next 12 months. However, the extension options are subject to certain terms and conditions contained in the loan documents some of which are more stringent than our current loan compliance tests, including the leverage ratio required, debt service coverage and other requirements. The most stringent compliance test for our loan extensions will likely be the leverage ratio required, which will generally be based on updated lender commissioned appraisals. Given the uncertainty in the current real estate market and variability in appraisers’ views on fair values of office properties in the current market, these updated appraisals could have a significant impact on our availability under our loans. As a result, in order to qualify for certain loan extensions, we will likely be required to reduce the loan commitment by a substantial amount and/or make paydowns on certain loans. Due to this potential reduction in loan commitment and ongoing capital expenditure needs in our real estate portfolio, we will likely seek to refinance or restructure certain debt instruments, may need to evaluate selling equity securities and/or may be required to sell certain assets into a challenged real estate market in an effort to manage our liquidity needs. Selling real estate assets in the current market would likely impact the ultimate sale price. While we anticipate to have available funds on certain loans to make these loan paydowns where required, depending on the size of the required paydown (beyond just a loss of commitment), we may need to rely on asset sale proceeds or the completion of refinance discussions with certain lenders in order to be able meet any loan paydown requirements. We also may defer noncontractual expenditures or further suspend or cease distributions and redemptions. Additionally, we anticipate we may relinquish ownership of one or more secured properties to the mortgage lender. There can be no assurances as to the certainty or timing of management’s plans, as certain elements of management’s plans are outside our control, including our ability to sell assets or successfully refinance or restructure certain of our debt instruments. As a result of our upcoming loan maturities, the challenging commercial real estate lending environment, the current interest rate environment, leasing challenges in certain markets where we own properties and the lack of transaction volume in the U.S. office market as well as general market instability, management’s plans cannot be considered probable and thus do not alleviate substantial doubt about our ability to continue as a going concern. Moreover, funding substantial principal repayments would significantly impact our capital resources, which could have a material adverse effect on our ability to meet our future liquidity needs. Continued increases in interest rates, reductions in real estate values and future tenant turnover in the portfolio will have a further impact on our ability to meet loan compliance tests and may further reduce our available liquidity under our loan agreements. If we are unable to meet loan compliance tests and/or repay, refinance or extend maturing mortgage loans, the lenders may declare events of default and will have the right to sell or dispose of the collateral and/or enforce and collect the collateral securing the loans, which would negatively affect our results of operations, financial condition, cash flows, asset valuations and ability to continue as a going concern.
PART II. OTHER INFORMATION (CONTINUED)
Item 1A. Risk Factors (continued)
Additionally, as of September 30, 2023, we determined we did not meet the debt service coverage ratio required under the Amended and Restated Portfolio Loan Facility with an outstanding principal balance of $606.3 million as of that date. Pursuant to the terms of the Amended and Restated Portfolio Loan Facility, we are required to notify the lenders by November 29, 2023. At such time, we would have 30 days from receipt of notice from the lenders to make a principal paydown of up to $29.7 million. The Amended and Restated Portfolio Loan Facility had a maturity date of November 3, 2023, with one 12-month extension option, subject to certain terms and conditions as described in the loan documents. As of November 3, 2023, we did not meet the conditions necessary to exercise the one-year extension option. Subsequent to September 30, 2023, we entered into a loan modification and extension agreement with the lenders under the Amended and Restated Portfolio Loan Facility and extended the maturity date to November 17, 2023, among other modifications. See Part I, Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Subsequent Events – Amended and Restated Portfolio Loan Facility.”
In addition, during the nine months ended September 30, 2023, we recorded non-cash impairment charges of $45.5 million to write down the carrying value of shares that may be redeemed under our share redemption program,201 Spear Street (located in San Francisco, California) to its estimated fair value as a result of November 1, 2017, we will only ablecontinued market uncertainty due to process anrising interest rates, increased vacancy rates as a result of slow return to office in San Francisco, additional $0.3 millionprojected vacancy due to anticipated tenant turnover and further declining values of redemptions forcomparable sales in the remaindermarket, all of 2017.
During any calendar year, we may redeem only the number of shares that we could purchase with the amount of net proceeds from the sale of shares under our dividend reinvestment plan during the prior calendar year. In 2016, our net proceeds from the dividend reinvestment plan were $61.9 million.which impacted ongoing cash flow estimates and leasing projections. As of October 31, 2017, we had redeemed $61.6 million of shares of common stock. Thus, because of this limitation, we are only able to process an additional $0.3 million of redemptions for the remainder of 2017 and we anticipate exhausting this amount on the November 30, 2017 redemption date. If we cannot redeem all shares presented for redemption in any month because of the limitations on redemptions set forth in our share redemption program, then we will honor redemption requests on a pro rata basis, except that if a pro rata redemption would result, in a stockholder owning201 Spear Street is currently valued at less than the minimum purchase requirement describedoutstanding mortgage debt of $125.0 million, which debt has an initial loan maturity of January 5, 2024. We are currently engaged in discussions with our currently effective, orlender and due to the most recently effective, registration statement, as such registration statement has been amended or supplemented, thensubstantial difference between the mortgage debt and the fair value of the asset and the very uncertain path and timing of a recovery in the San Francisco market, we would redeem all of such stockholder’s shares.
The annual limitationdo not believe it is in the Company’s best interest to make significant paydowns on the dollarloan and invest additional funds into this asset in an effort to refinance and extend the loan. As a result of the borrower’s failure to pay in full the entire November 2023 monthly interest payment under the 201 Spear Street Mortgage Loan on the due date, on November 9, 2023, the 201 Spear Street Mortgage Loan lender notified the borrower that if such amount of shares that may be redeemed under our share redemption programis not paid by November 14, 2023, then the borrower will be resetin default under the loan. The borrower does not expect to make the full interest payment by this date, and as a result, will likely default on January 1, 2018. For more informationthe loan. If the borrower defaults, interest on our share redemption program, see Part 2, Item 2, “Unregistered Salesthe loan will accrue at the default rate and additional daily or late charges will apply. As a result, we anticipate that there is a high likelihood that we may ultimately relinquish ownership of Equity Securities and Usethe property to the lender in a foreclosure transaction or other alternative to foreclosure in satisfaction of Proceeds.”the mortgage.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
| |
a) | During the period covered by this Form 10-Q, we did not sell any equity securities that were not registered under the Securities Act of 1933. |
| |
c) | We have a share redemption program that may enable stockholders to sell their shares to us in limited circumstances. The restrictions of our share redemption program will severely limit our stockholders’ ability to sell their shares should they require liquidity and will limit our stockholders’ ability to recover the value they invested in our common stock or recover an amount equal to or greater than our estimated value per share. |
a).During the period covered by this Form 10-Q, we did not sell any equity securities that were not registered under the Securities Act of 1933.
b).Not applicable.
c).We have a share redemption program that may enable stockholders to sell their shares to us in limited circumstances. The restrictions of our share redemption program will limit our stockholders’ ability to sell their shares should they require liquidity and will limit our stockholders’ ability to recover an amount equal to our estimated value per share. Further, on January 17, 2023, our board of directors determined to suspend Ordinary Redemptions (defined below) under our share redemption program to preserve capital in the current market environment. We will continue to evaluate the markets and our overall liquidity profile as we determine when to potentially remove the suspension on Ordinary Redemptions, though we can give no assurance in this regard. During the suspension of Ordinary Redemptions, all Ordinary Redemption requests that have been received were canceled, and no Ordinary Redemption requests will be accepted or collected. However, any redemptions sought in connection with and meeting the requirements for Special Redemptions (defined below) will still be eligible for redemption and will continue to be processed in accordance with the current share redemption program.
PART II. OTHER INFORMATION (CONTINUED)
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds (continued)
There are several limitations on our ability to redeem shares under our share redemption program:
•Unless the shares are being redeemed in connection with a stockholder’s death, “qualifying disability”“Qualifying Disability” or “determination“Determination of incompetence”Incompetence” (each as defined in the share redemption program, document and together with redemptions sought in connection with a stockholder'sstockholder’s death, “Special Redemptions;” all redemptions that do not meet the requirements for a Special Redemption are “Ordinary Redemptions”), we may not redeem shares unless the stockholder has held the shares for one year.
•During any calendar year, we may redeem only the number of shares that we could purchase with the amount of net proceeds from the sale of shares under our dividend reinvestment plan during the prior calendar year.year, provided that once we have received requests for redemptions, whether in connection with Special Redemptions or otherwise, that if honored, and when combined with all prior redemptions made during the calendar year, would result in the amount of remaining funds available for the redemption of additional shares in such calendar year being $10.0 million or less, the last $10.0 million of available funds shall be reserved exclusively for Special Redemptions. Notwithstanding anything contained in our share redemption program to the contrary, we may increase or decrease the funding available for the redemption of shares pursuant to the program upon ten business days’ notice to our stockholders. We may provide notice by including such information (a) in a Current Report on Form 8-K or in our annual or quarterly reports, all publicly filed with the Securities and Exchange Commission or (b) in a separate mailing to our stockholders.
•During any calendar year, we may redeem no more than 5% of the weighted-average number of shares outstanding during the prior calendar year.
•We have no obligation to redeem shares if the redemption would violate the restrictions on distributions under Maryland General Corporation Law, as amended from time to time, which prohibits distributions that would cause a corporation to fail to meet statutory tests of solvency.
PART II. OTHER INFORMATION (CONTINUED)
Item 2. Unregistered Salesdetermining the time period a redeeming stockholder has held each share, the time period begins as of Equity Securities and Usethe date the stockholder acquired the share; provided, that shares purchased by the redeeming stockholder pursuant to our dividend reinvestment plan or received as a stock dividend will be deemed to have been acquired on the same date as the initial share to which the dividend reinvestment plan shares or stock dividend shares relate. The date of Proceeds (continued)
the share’s original issuance by us is not determinative.
For a stockholder’s shares to be eligible for redemption in a given month, the administrator must receive a written redemption request from the stockholder or from an authorized representative of the stockholder setting forth the number of shares requested to be redeemed at least five business days before the redemption date. We redeem shares on the last business day of each month, except that the first redemption date following our establishment of an estimated value per share shall be no less than ten business days after our announcement of such estimated value per share in a filing with the SEC and the redemption date shall be set forth in such filing. If we cannot redeem all shares presented for redemption in any month because of the limitations on redemptions set forth in our share redemption program, then we will honor redemption requests on a pro rata basis, except that if a pro rata redemption would result in a stockholder owning less than the minimum purchase requirement described in our currently effective, or the most recently effective, registration statement, as such registration statement has been amended or supplemented, then we would redeem all of such stockholder’s shares.
IfExcept during the current suspension of Ordinary Redemption under the share redemption program, if we do not completely satisfy a redemption request on a redemption date because the program administrator did not receive the request in time, because of the limitations on redemptions set forth in our share redemption program or because of a suspension of our share redemption program, then we will treat the unsatisfied portion of the redemption request as a request for redemption at the next redemption date funds are available for redemption, unless the redemption request is withdrawn. Any stockholder can withdraw a redemption request by sending written notice to the program administrator, provided such notice is received at least five business days before the redemption date.
Upon a transfer of shares, any pending redemption requests with respect to such transferred shares will be canceled as of the date we accept the transfer. Stockholders wishing us to continue to consider a redemption request related to any transferred shares must resubmit their redemption request.
Pursuant to our share redemption program, redemptions made in connection with Special Redemptions are made at a price per share equal to the most recent estimated value per share of our common stock as of the applicable redemption date. The
PART II. OTHER INFORMATION (CONTINUED)
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds (continued)
Ordinary Redemptions are made at a price at which we will redeem all other shares eligible for redemption is as follows:
For those shares held by the redeeming stockholder for at least one year, 92.5% of our most recent estimated value per share as of the applicable redemption date;
For those shares held by the redeeming stockholder for at least two years, 95.0% of our most recent estimated value per share as of the applicable redemption date;
For those shares held by the redeeming stockholder for at least three years, 97.5% of our most recent estimated value per share as of the applicable redemption date; and
For those shares held by the redeeming stockholder for at least four years, 100%equal to 96% of our most recent estimated value per share as of the applicable redemption date.
On December 9, 2016,September 28, 2022, our board of directors approved an estimated value per share of our common stock of $10.63$9.00 (unaudited) based on (i) appraisals of our 17 real estate properties as of July 31, 2022, the estimated value of our assets lessinvestment in units of the SREIT (SGX-ST Ticker: OXMU) as of September 20, 2022 and the estimated value of our other assets as of June 30, 2022 less (ii) the estimated value of our liabilities as of June 30, 2022, all divided by the number of shares outstanding all as of SeptemberJune 30, 2016. This2022. Effective for the October 2022 redemption date, which was October 31, 2022, and until the estimated value per share became effectiveis updated, the redemption price for the December 2016all shares eligible for redemption date, which was December 30, 2016.
For purposes of determining the time period a redeeming stockholder has held each share, the time period begins as of the date the stockholder acquired the share; provided, that shares purchased by the redeeming stockholder pursuant to our dividend reinvestment plan will be deemed to have been acquiredcalculated based on the same date as the initial share to which the dividend reinvestment plan shares relate. The date of the share’s original issuance by us is not determinative. In addition, as described above, the shares owned by a stockholder may be redeemed at different prices depending on how long the stockholder has held each share submitted for redemption.September 28, 2022 estimated value per share.
We currently expect to utilize an independent valuation firm to update our estimated value per share inno later than December 2017.2023. We will report the estimated value per share of our common stock in a Current Report on Form 8-K or in our annual or quarterly reports, all publicly filed with the SEC. We will also provide information about our estimated value per share on our website, www.kbsreitiii.com (such information may be provided by means of a link to our public filings on the SEC’s website, http://www.sec.gov).
Our board of directors may amend, suspend or terminate our share redemption program upon 30ten business days’ notice to stockholders, provided thatand consistent with SEC guidance and interpretations, we may increase or decrease the funding available for the redemption of shares pursuant to our share redemption program upon 10ten business days’ notice.
We may provide notice by including such information (a) in a Current Report on Form 8-K or in our annual or quarterly reports, all publicly filed with the SEC or (b) in a separate mailing to our stockholders. The complete share redemption program document is filed as an exhibit to our AnnualCurrent Report on Form 10-K for8-K filed with the year ended December 31, 2013SEC on April 14, 2022 and is available at the SEC’s website, at http://www.sec.gov.
PART II. OTHER INFORMATION (CONTINUED)
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds (continued)
During the nine months ended September 30, 2017,2023, we fulfilled all redemption requests eligible for redemption under our share redemption program and received in good order. We funded redemptions under our share redemption program with the net proceeds from our dividend reinvestment plan and wefrom debt financing. We redeemed shares pursuant to our share redemption program as follows:
|
| | | | | | | | | |
| Month | | Total Number of Shares Redeemed (1) | | Average Price Paid Per Share (2) | | Approximate Dollar Value of Shares Available That May Yet Be Redeemed Under the Program |
| January 2017 | | 536,160 |
| | $ | 10.46 |
| | (3) |
| February 2017 | | 206,012 |
| | $ | 10.51 |
| | (3) |
| March 2017 | | 458,763 |
| | $ | 10.37 |
| | (3) |
| April 2017 | | 579,233 |
| | $ | 10.40 |
| | (3) |
| May 2017 | | 563,933 |
| | $ | 10.46 |
| | (3) |
| June 2017 | | 675,243 |
| | $ | 10.39 |
| | (3) |
| July 2017 | | 899,951 |
| | $ | 10.36 |
| | (3) |
| August 2017 | | 632,696 |
| | $ | 10.43 |
| | (3) |
| September 2017 | | 701,088 |
| | $ | 10.38 |
| | (3) |
| Total | | 5,253,079 |
| | | | |
_____________________ | | | | | | | | | | | | | | | | | | | | |
| Month | | Total Number of Shares Redeemed (1) | | Average Price Paid Per Share (2) | | Approximate Dollar Value of Shares
Available That May Yet Be Redeemed
Under the Program |
| January 2023 | | 118,125 | | | $ | 9.00 | | | (3) |
| February 2023 | | 122,546 | | | $ | 9.00 | | | (3) |
| March 2023 | | 83,897 | | | $ | 9.00 | | | (3) |
| April 2023 | | 146,969 | | | $ | 9.00 | | | (3) |
| May 2023 | | 137,868 | | | $ | 9.00 | | | (3) |
| June 2023 | | 135,112 | | | $ | 9.00 | | | (3) |
| July 2023 | | 77,940 | | | $ | 9.00 | | | (3) |
| August 2023 | | 153,579 | | | $ | 9.00 | | | (3) |
| September 2023 | | 135,948 | | | $ | 9.00 | | | (3) |
| Total | | 1,111,984 | | | | | |
_____________________
(1) We announced the adoption and commencement of the program on October 14, 2010. We announced amendments to the program on March 8, 2013 (which amendment became effective on April 7, 2013) and, on March 7, 2014 (which amendment became effective on April 6, 2014), on May 9, 2018 (which amendment became effective on June 8, 2018), on July 16, 2021 (which amendment became effective on July 30, 2021), on March 18, 2022 (which amendment became effective on March 31, 2022) and on April 14, 2022 (which amendment became effective on April 27, 2022).
(2) The prices at which we redeem shares under the program are as set forth above.
(3) We limit the dollar value As discussed above, in January 2023, our board of shares that may be redeemeddirectors determined to suspend Ordinary Redemptions under the program as described above. One of these limitations is that during each calendar year, our share redemption program limitsto preserve capital in the number of shares we may redeemcurrent market environment. However, any redemptions sought in connection with and meeting the requirements for Special Redemptions are still eligible for redemption and will continue to those that we could purchasebe processed in accordance with the share redemption program, subject to the amount of the net proceeds raised from the sale of shares under our dividend reinvestment plan during 2022, or $33.4 million, including the prior calendar year. However,reserve for Special Redemptions. As of November 1, 2023, we may increase or decrease the fundinghad $22.4 million available for redemptions for the remainder of 2023 under the share redemption program, including the reserve for Special Redemptions.
PART II. OTHER INFORMATION (CONTINUED)
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds (continued)
For the months of January 2023 through September 2023, we fulfilled all Special Redemption requests eligible for redemption under our share redemption program and received in good order. See note (3) above.
In addition to our stockholders. In 2016, our net proceeds from the dividend reinvestment plan were $61.9 million. Duringredemptions under the share redemption program described above, during the nine months ended September 30, 2017,2023, we redeemed $54.7 million ofrepurchased an additional 417 shares of our common stock and $7.2 million was availableat an average price of $9.00 per share for redemptionsan aggregate price of shares eligible for redemption for the remainder of 2017.$3,753.
Item 3. Defaults uponUpon Senior Securities
None.
Item 4. Mine Safety Disclosures
None.
Item 5. Other Information
None.
PART II. OTHER INFORMATION (CONTINUED)
Item 6. Exhibits
| | | | | | | | |
| Ex. | | Description |
| | |
Ex.3.1 | | Description |
| | |
3.1 | | |
| | |
| 3.2 | | |
| | |
| 4.1 | | |
| | |
| 4.2 | | |
| | |
| 10.1 | | |
| | |
| 31.1 | | |
| | |
| 31.2 | | |
| | |
| 32.1 | | |
| | |
| 32.2 | | |
| | |
| 99.1 | | |
| | |
| 101.INS | | Inline XBRL Instance Document |
| | |
| 101.SCH | | Inline XBRL Taxonomy Extension Schema |
| | |
| 101.CAL | | Inline XBRL Taxonomy Extension Calculation Linkbase |
| | |
| 101.DEF | | Inline XBRL Taxonomy Extension Definition Linkbase |
| | |
| 101.LAB | | Inline XBRL Taxonomy Extension Label Linkbase |
| | |
| 101.PRE | | Inline XBRL Taxonomy Extension Presentation Linkbase |
| | |
| 104 | | Cover Page Interactive Data File (formatted as inline XBRL and contained in Exhibit 101) |
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| | | | | | | | | | | |
| | | |
| | | |
| | KBS REAL ESTATE INVESTMENT TRUST III, INC. |
| | | |
| Date: | November 14, 20172023 | By: | /S/ CHARLES J. SCHREIBER, JR. |
| | | Charles J. Schreiber, Jr. |
| | | Chairman of the Board,
Chief Executive Officer, President and Director |
| | | (principal executive officer) |
| | | |
| Date: | November 14, 20172023 | By: | /S/ JEFFREY K. WALDVOGEL |
| | | Jeffrey K. Waldvogel |
| | | Chief Financial Officer, Treasurer and Secretary |
| | | (principal financial officer) |