KBS REAL ESTATE INVESTMENT TRUST III, INC. The following discussion and analysis should be read in conjunction with the accompanying financial statements ofKBS Real Estate Investment Trust III, Inc. and the notes thereto. As used herein, the terms "we," "our" and "us" refer toKBS Real Estate Investment Trust III, Inc. , aMaryland corporation, and, as required by context, KBS Limited Partnership III, aDelaware 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 ofKBS 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. 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 ongoing and numerous adverse impacts of the COVID-19 pandemic. 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 COVID-19 pandemic, together with the resulting measures imposed to help control the spread of the virus, has had a negative impact on the economy and business activity globally. The extent to which the COVID-19 pandemic impacts our operations and those of our tenants and our investment in Prime US REIT (the "SREIT") depends on future developments, which are highly uncertain and cannot be predicted with confidence, including the scope, severity and duration of the pandemic, the actions taken to contain the pandemic or mitigate its impact, and the direct and indirect economic effects of the pandemic and containment measures, among others. •We are dependent onKBS Capital Advisors LLC ("KBS Capital Advisors ") to conduct our operations. •All of our executive officers, our affiliated director and other key professionals are also officers, affiliated directors, managers, key professionals and/or holders of a direct or indirect controlling interest in our advisor and/or other KBS-affiliated entities. As a result, these individuals, our advisor and its affiliates face conflicts of interest, including conflicts created by our advisor's and its affiliates' compensation arrangements with us and other KBS programs and investors and conflicts in allocating time among us and these other programs and investors. 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 disposition of our investments. Acquisition 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. 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 our charter limitations. These payments increase the risk that our stockholders will not earn a profit on their investment in us and increase the risk of loss to our stockholders. Our conflicts committee and our board of directors continue to evaluate whether the proposed conversion to a perpetual-life net asset value "NAV" REIT remains in the best interest of our stockholders. If we convert to an NAV REIT, we would implement a revised advisory fee structure. •We cannot guarantee that we will pay distributions. We have and may in the future fund distributions from sources other than cash flow from operations, including, without limitation, the sale of assets, borrowings, return of capital or offering proceeds. We have no limits on the amounts we may 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. 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. 28 -------------------------------------------------------------------------------- Table of Contents 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. 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), rent deferrals or abatements, tenants becoming unable to pay their rent and/or lower rental rates, making it more difficult for us to meet our debt service obligations and limiting our ability to pay distributions to our stockholders. SinceMarch 2020 , we have granted rent relief to a number of tenants as a result of the pandemic, and these tenants or additional tenants may request rent relief in future periods or become unable to pay rent. We are unable to predict the impact that the pandemic will have on the financial condition, results of operations and cash flows of our tenants and us. •Our significant investment in the equity securities of the SREIT, a tradedSingapore 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. The COVID-19 pandemic has caused significant negative pressure in the financial markets. SinceMarch 2020 , the trading price of the common units of the SREIT has experienced substantial volatility; however, the units have recovered a substantial portion of their losses since the low inMarch 2020 . •Because investment opportunities that are suitable for us may also be suitable for other KBS programs or investors, our advisor and its affiliates face conflicts of interest relating to the purchase of investments. •We cannot predict with any certainty how much, if any, of our dividend reinvestment plan proceeds will be available for general corporate purposes. If such funds are not available, we may have to use a greater proportion of our cash flow from operations to meet cash requirements, which would reduce cash available for distributions and could 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. •As the global impact of the COVID-19 pandemic continues to evolve, severely impacting global economic activity and causing significant volatility and negative pressure in the financial markets, including theU.S. real estate office market and the industries of our tenants, our conflicts committee and our board of directors continue to evaluate whether the proposed NAV REIT conversion remains in the best interest of our stockholders. We can give no assurance that we will continue to pursue a conversion to an NAV REIT. Even if we convert to an NAV REIT, there is no assurance that we will successfully implement our strategy, and we can provide no assurance that our NAV REIT strategy will be able to provide additional liquidity to stockholders. Further, there is no assurance that an NAV REIT strategy will provide a return to stockholders that equals or exceeds our estimated value per share. •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. There are limits on the ownership and transferability of 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. •Though we remain focused on providing increased liquidity to stockholders, and we currently anticipate providing up to$350 million of additional liquidity to our stockholders in 2021, we can provide no assurance that we will be able to provide such additional liquidity to stockholders. •In connection with our pursuit of a NAV REIT strategy, inDecember 2019 , the board of directors determined to temporarily suspend Ordinary Redemptions (defined below) under the share redemption program, and Ordinary Redemptions have remained suspended as we navigate through the impact of the COVID-19 pandemic and evaluate our proposed conversion to an NAV REIT. Ordinary Redemptions are all redemptions other than Special Redemptions. Redemptions sought in connection with a stockholder's death, "Qualifying Disability" or "Determination of Incompetence" are "Special Redemptions." Moreover, our current share redemption program includes numerous restrictions that limit our stockholders' ability to sell their shares to us. As ofMay 1, 2021 , we had$41.7 million available for redemptions for the remainder of 2021, including the reserve for Special Redemptions. We cannot predict future redemption demand with any certainty. If future redemption requests exceed the amount of funding available under our share redemption program and/or any additional funding made available under one or more self-tender offers, the number of rejected redemption or repurchase requests will increase over time. 29 -------------------------------------------------------------------------------- Table of Contents PART I. FINANCIAL INFORMATION (CONTINUED) Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) 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 endedDecember 31, 2020 , as filed with theSecurities and Exchange Commission (the "SEC"), and the risks identified in Part II, Item 1A herein.
Overview
We were formed onDecember 22, 2009 as aMaryland corporation that elected to be taxed as a real estate investment trust ("REIT") beginning with the taxable year endedDecember 31, 2011 and we intend to continue to operate in such a manner. We conduct our business primarily through ourOperating 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 20,857 shares of our common stock. We have no paid employees. We have invested in a diverse portfolio of real estate investments. As ofMarch 31, 2021 , we owned 17 office properties, one mixed-use office/retail property and an investment in the equity securities of the SREIT, which is accounted for as an investment in an unconsolidated entity under the equity method of accounting. OnFebruary 4, 2010 , we filed a registration statement on Form S-11 with theSEC 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 onMay 29, 2015 and terminated the primary offering onJuly 28, 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 ofMarch 31, 2021 , we had also sold 37,783,944 shares of common stock under our dividend reinvestment plan for gross offering proceeds of$390.6 million . Also as ofMarch 31, 2021 , we had redeemed or repurchased 29,721,187 shares sold in our initial public offering for$325.4 million . Additionally, onOctober 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. Our board of directors and management team regularly monitor the real estate and equity markets in order to find the best opportunities possible to continue to provide attractive and stable cash distributions to our stockholders and provide additional liquidity for our stockholders. One alternative for us to achieve these objectives may be for us to pursue conversion to a non-listed, perpetual-life NAV REIT that calculates the net asset value or "NAV" per share on a regular basis that is more frequent than annually (i.e., daily, monthly or quarterly) and seeks to provide increased liquidity to current and future stockholders through an expansion of our current share redemption program and/or periodic self-tender offers. In connection with our pursuit of conversion to an NAV REIT, onJanuary 10, 2020 , we filed a registration statement on Form S-11 with theSEC to register a public offering. Pursuant to the registration statement and in the event we convert to an NAV REIT, we propose to register up to$2,000,000,000 of shares of common stock, consisting of up to$1,700,000,000 in shares in a primary offering and up to$300,000,000 in shares pursuant to a dividend reinvestment plan. As the global impact of the COVID-19 pandemic continues to evolve, severely impacting global economic activity and causing significant volatility and negative pressure in the financial markets, including theU.S. real estate office market and the industries of our tenants, our conflicts committee and our board of directors continue to evaluate whether the proposed NAV REIT conversion remains in the best interest of our stockholders. While we believe our portfolio is well-positioned to continue to successfully respond to the pandemic, the impact of the COVID-19 pandemic on the capital and financial markets, including theU.S. real estate office market, has caused us to further consider the timing and likelihood of success of the proposed NAV REIT conversion. Regardless of the ultimate decision, we continue to be focused on providing increased liquidity to stockholders. Accordingly, we can give no assurance that we will continue to pursue a conversion to an NAV REIT or that if we do pursue conversion to an NAV REIT that we would commence or complete the proposed offering. Even if we convert to an NAV REIT, there is no assurance that we will successfully implement our strategy, and we can provide no assurance that our NAV REIT strategy will be able to provide additional liquidity to stockholders. 30 -------------------------------------------------------------------------------- Table of Contents PART I. FINANCIAL INFORMATION (CONTINUED) Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) Section 5.11 of our charter requires that we seek stockholder approval of our liquidation if our shares of common stock are not listed on a national securities exchange bySeptember 30, 2020 , unless a majority of the conflicts committee of our board of directors, composed solely of all of our independent directors, determines that liquidation is not then in the best interest of our stockholders. Pursuant to our charter requirement, the conflicts committee assessed our portfolio of investments, and with consideration of the then current market conditions, including the uncertainty as a result of the COVID-19 pandemic and lack of liquidity in the marketplace, as well as our pursuit of conversion to a perpetual-life NAV REIT, onAugust 11, 2020 , our conflicts committee unanimously determined to postpone approval of our liquidation. Section 5.11 of our charter requires that the conflicts committee revisit the issue of liquidation at least annually. At our annual meeting of stockholders held onMay 7, 2020 , our stockholders approved the removal of Section 5.11 of our charter. As set forth in the proxy statement for our annual meeting of stockholders, implementation of this amendment to our charter and our conversion to an NAV REIT remain subject to further approval of our conflicts committee. Market Outlook - Real Estate and Real Estate Finance Markets Volatility in global financial markets and changing political environments can cause fluctuations in the performance of theU.S. commercial real estate 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 tenantswho are up for renewal or to attract new tenants, may result in decreases in cash flows from investment 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 tenant leases and non-renewal of existing tenant leases), rent deferrals or abatements, tenants being unable to pay their rent and/or lower rental rates. To the extent there are increases in the cost of financing due to higher interest rates, this may cause difficulty in refinancing debt obligations at terms as favorable as the terms of existing indebtedness. Further, increases in interest rates would increase the amount of our debt payments on our variable rate debt to the extent the interest rates on such debt are not fixed through interest rate swap agreements or limited by interest rate caps. Market conditions can change quickly, potentially negatively impacting the value of real estate investments. Management continuously reviews our investment and debt financing strategies to optimize our portfolio and the cost of our debt exposure. Most recently, the COVID-19 pandemic has had a negative impact on the real estate market as discussed below. COVID-19 Pandemic and Portfolio Outlook Since initially being reported inDecember 2019 , COVID-19 has spread around the world, including to every state inthe United States . OnMarch 11, 2020 , theWorld Health Organization declared COVID-19 a pandemic, and onMarch 13, 2020 ,the United States declared a national emergency with respect to COVID-19. The COVID-19 pandemic has severely impacted global economic activity and caused significant volatility and negative pressure in financial markets. The global impact of the pandemic continues to evolve and many countries, states and localities, including states and localities inthe United States , have reacted by imposing measures to help control the spread of the virus, including instituting quarantines, "shelter-in-place" and "stay-at-home" orders, travel restrictions, restrictions on businesses and school closures. As a result, the COVID-19 pandemic is negatively impacting almost every industry, including theU.S. office real estate industry and the industries of our tenants, directly or indirectly. The fluidity of the COVID-19 pandemic continues to preclude any prediction as to the ultimate adverse impact the pandemic may have on our business, financial condition, results of operations and cash flows. During the year endedDecember 31, 2020 and the three months endedMarch 31, 2021 , we did not experience significant disruptions in our operations from the COVID-19 pandemic. Many of our tenants have suffered reductions in revenue sinceMarch 2020 . In general, our retail and restaurant tenants, which comprise approximately 4% of our annualized base rent as ofMarch 31, 2021 , have been more severely impacted by the COVID-19 pandemic than our office tenants. Depending upon the duration of the various measures imposed to help control the spread of the virus and the corresponding economic slowdown, these tenants or additional tenants may seek rent deferrals or abatements in future periods or become unable to pay their rent. Rent collections for the quarter endedMarch 31, 2021 were approximately 98%. We have granted a number of lease concessions related to the effects of the COVID-19 pandemic but these lease concessions did not have a material impact to our consolidated balance sheet as ofMarch 31, 2021 or consolidated statement of operations for the three months endedMarch 31, 2021 . As ofMarch 31, 2021 , we had entered into lease amendments related to the effects of the COVID-19 pandemic, granting$4.0 million of rent deferrals for the period fromMarch 2020 throughAugust 2021 and granting$2.0 million in rental abatements. 31 -------------------------------------------------------------------------------- Table of Contents PART I. FINANCIAL INFORMATION (CONTINUED) Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) As ofMarch 31, 2021 , 76 tenants were granted rental deferrals, rental abatements and/or rent restructures, of which 36 of these tenants have begun to pay rent in accordance with their lease agreements subsequent to the deferral and/or abatement period, three of these tenants early terminated their leases and five of these tenant leases were modified at lower rental rates and/or based on a percentage of the tenant's gross receipts. As ofMarch 31, 2021 , 13 of the 76 tenants continue to be in the rental deferral and/or rental abatement periods as granted in accordance with their agreements. As ofMarch 31, 2021 , we had$2.8 million of receivables for lease payments that had been deferred as lease concessions related to the effects of the COVID-19 pandemic, of which$1.8 million was reserved for payments not probable of collection, which were included in rent and other receivables, net on the accompanying consolidated balance sheet. For the three months endedMarch 31, 2021 , we recorded$0.4 million of rental abatements granted to tenants as a result of the COVID-19 pandemic. Subsequent toMarch 31, 2021 , we have not seen a material impact on our rent collections. We will continue to evaluate any additional short-term rent relief requests from tenants on an individual basis. Not all tenant requests will ultimately result in modified agreements, nor are we forgoing our contractual rights under our lease agreements. In most cases, it is in our best interest to help our tenants remain in business and reopen when restrictions are lifted. If tenants default on their rent and vacate, the ability to re-lease this space is likely to be more difficult if the economic slowdown continues and any long term impact of this situation, even after an economic rebound, remains unclear. Current collections and rent relief requests to date may not be indicative of collections or requests in any future period. The impact of the COVID-19 pandemic on our rental revenue for the second quarter of 2021 and thereafter cannot, however, be determined at present. In addition to the direct impact on our rental income, we may also need to recognize additional impairment charges at our properties to the extent rental projections decline at our properties. During the three months endedMarch 31, 2020 , we recognized an impairment charge of$19.9 million for an office/retail property due to the continued deterioration of retail demand at the property which was further impacted by the COVID-19 pandemic. We have also made a significant investment in the common units of the SREIT. In addition to the risks similar to above with respect to the SREIT's investments in US office properties, our investment in the units of the SREIT is subject to the risks inherent in investing in traded securities. Since earlyMarch 2020 , the trading price of the common units of the SREIT has experienced substantial volatility; however, the units have recovered a substantial portion of their losses since the low inMarch 2020 . For purposes of theMay 13, 2021 estimated value per share, we valued our investment in units of the SREIT at$223.7 million , based on the trading price of the units of the SREIT as of closing onApril 29, 2021 less a 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 SREIT units. As ofMay 14, 2021 , the aggregate value of our investment in the units of the SREIT was$244.7 million , which was based solely on the closing price of the units on theSingapore Exchange Securities Traded Limited (the "SGX-ST") of$0.85 per unit as ofMay 14, 2021 and did not take into account any potential discount for the holding period risk due to the quantity of units we hold. We continue to evaluate the impact and uncertainty of the COVID-19 pandemic on our real estate portfolio's ongoing cash flows and monthly stockholder distributions. We can give no certainty to the amount of future monthly stockholder distributions which will depend in large part on the amount of tenant rent collections each month and the impact on our operating cash flows. As ofMarch 31, 2021 , we had$406.1 million of revolving debt available for future disbursement under various loans, subject to certain conditions set forth in the loan agreements. As ofMarch 31, 2021 , we had$472.9 million of notes payable related to the Modified Portfolio Loan Facility maturing during the 12 months endingMarch 31, 2022 , which could be extended beyond the next 12 months, subject to certain conditions set forth in the loan agreements. Significant reductions in rental revenue in the future related to the impact of the COVID-19 pandemic may limit our ability to draw on our revolving credit facilities or exercise our extension options due to covenants described in our loan agreements. However, we believe that our cash flow from operations, cash on hand, proceeds from our dividend reinvestment plan, proceeds from asset sales and current and anticipated financing activities are sufficient to meet our liquidity needs for the foreseeable future. 32 -------------------------------------------------------------------------------- Table of Contents PART I. FINANCIAL INFORMATION (CONTINUED) Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) The COVID-19 pandemic or a future pandemic, epidemic or outbreak of infectious disease affecting states or regions in which we or our tenants operate could have material and adverse effects on our business, financial condition, results of operations and cash flows due to, among other factors: health or other government authorities requiring the closure of offices or other businesses or instituting quarantines of personnel as the result of, or in order to avoid, exposure to a contagious disease; disruption in supply and delivery chains; a general decline in business activity and demand for real estate, especially office properties; reduced economic activity, general economic decline or recession, which may impact our tenants' businesses, financial condition and liquidity and may cause tenants to be unable to make rent payments to us timely, or at all, or to otherwise seek modifications of lease obligations; difficulty accessing debt and equity capital on attractive terms, or at all, and a severe disruption and instability in the global financial markets or deteriorations in credit and financing conditions, which may affect our access to capital necessary to fund business operations or address maturing liabilities on a timely basis; and the potential negative impact on the health of personnel of our advisor, particularly if a significant number of our advisor's employees are impacted, which would result in a deterioration in our ability to ensure business continuity during a disruption. The extent to which the COVID-19 pandemic or any other pandemic, epidemic or disease impacts our operations and those of our tenants and our investment in the SREIT depends on future developments, which are highly uncertain and cannot be predicted with confidence, including the scope, severity and duration of the pandemic, the actions taken to contain the pandemic or mitigate its impact, and the direct and indirect economic effects of the pandemic and containment measures, among others. Nevertheless, the COVID-19 pandemic (or a future pandemic, epidemic or disease) presents material uncertainty and risk with respect to our business, financial condition, results of operations and cash flows. Our business, like all businesses, is being impacted by the uncertainty regarding the COVID-19 pandemic, the effectiveness of policies introduced to neutralize the disease, and the impact of those policies on economic activity. While there are weakening macroeconomic conditions and some negative impact to our tenants, we believe with our diverse portfolio of core real estate properties with tenants across various industries, and with creditworthy tenants and limited retail exposure in our real estate portfolio, we are positioned to navigate this unprecedented period. Liquidity and Capital Resources Our principal demands for funds during the short and long-term are and will be for operating expenses, capital expenditures and general and administrative expenses; payments under debt obligations; 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 amounts currently available under existing loan facilities); •Proceeds from the sale of our real estate properties and real estate-related investments; and •Proceeds from common stock issued under our dividend reinvestment plan. 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, all of which may be adversely affected by the impact of the COVID-19 pandemic as discussed above. Our investment in the SREIT units generates cash flow in the form of dividend income. As ofMarch 31, 2021 , our investment in the SREIT units had a carrying value of$227.0 million . 33 -------------------------------------------------------------------------------- Table of Contents PART I. FINANCIAL INFORMATION (CONTINUED) Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) As ofMarch 31, 2021 , we had mortgage debt obligations in the aggregate principal amount of$1.4 billion , with a weighted-average remaining term of 1.9 years. The maturity dates of certain loans may be extended beyond their current maturity date, subject to certain terms and conditions contained in the loan documents. As ofMarch 31, 2021 , we had$472.9 million of notes payable related to the Modified Portfolio Loan Facility maturing during the 12 months endingMarch 31, 2022 , which could be extended beyond the next 12 months, subject to certain conditions set forth in the loan agreements. We plan to exercise our extension options available under our loan agreements or pay down or refinance the related notes payable prior to their maturity dates. As ofMarch 31, 2021 , our debt obligations consisted of$123.0 million of fixed rate notes payable and$1.3 billion of variable rate notes payable. As ofMarch 31, 2021 , the interest rates on$1.1 billion of our variable rate notes payable were effectively fixed through interest rate swap agreements. As ofMarch 31, 2021 , we had$406.1 million of revolving debt available for future disbursement under various loans, subject to certain conditions set forth in the loan agreements. We paid cash distributions to our stockholders during the three months endedMarch 31, 2021 using cash flow from operations from current and prior periods and proceeds from the sale of real estate. We believe that our cash flow from operations, cash on hand, proceeds from our dividend reinvestment plan, proceeds from asset sales and current and anticipated financing activities are sufficient to meet our liquidity needs for the foreseeable future. Although we can offer no assurances, we remain focused on providing increased liquidity to stockholders, and we currently anticipate providing up to$350 million of additional liquidity to our stockholders in 2021. We expect to fund this additional liquidity to stockholders with up to approximately$100 million of available cash on hand and by drawing up to$250 million under our existing credit facilities. 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 endedMarch 31, 2021 did not exceed the charter-imposed limitation. Cash Flows from Operating Activities During the three months endedMarch 31, 2021 , net cash provided by operating activities was$16.3 million , compared to net cash provided by operating activities of$17.4 million during the three months endedMarch 31, 2020 . Net cash provided by operating activities was lower in 2021 primarily as a result of lower dividends received from our investment in the SREIT in 2021, the timing of payments of operating expenses and the sale of Anchor Centre onJanuary 19, 2021 . Cash flows provided by operating activities may decrease in future periods to the extent our tenants are impacted by COVID-19 and defer rent payments or are unable to pay rent. Cash Flows from Investing Activities Net cash provided by investing activities was$78.8 million for the three months endedMarch 31, 2021 and consisted of the following: •$98.0 million of net proceeds from the sale of Anchor Centre, offset by •$19.2 million used for improvements to real estate. Cash Flows from Financing Activities During the three months endedMarch 31, 2021 , net cash used in financing activities was$20.9 million and primarily consisted of the following: •$16.3 million of net cash distributions, after giving effect to distributions reinvested by stockholders of$11.3 million ; •$3.1 million of cash used for redemptions of common stock; •Payment of other organization and offering costs of$0.8 million related to our pursuit of conversion to an NAV REIT; and •$0.7 million used for interest rate swap settlements for off-market swap instruments. 34 -------------------------------------------------------------------------------- Table of Contents 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 45% and 65% of the cost of our tangible assets (before deducting depreciation and other non-cash reserves). 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 45% of the cost of our tangible assets due to the lack of availability of debt financing. As ofMarch 31, 2021 , our borrowings and other liabilities were approximately 54% of both the cost (before deducting depreciation and other noncash reserves) and book value (before deducting depreciation) of our tangible assets. We also expect to use our capital resources to make certain payments to our advisor. 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 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. Pursuant to the advisory agreement, with respect to asset management fees accruing fromMarch 1, 2014 , our advisor agreed to 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 theInstitute for Portfolio Alternatives ("IPA") inNovember 2010 and interpreted by us, excluding asset management fees, does not exceed the amount of distributions declared by us for record dates of that month. We remain obligated to pay our advisor an asset management fee in any month in which our MFFO, excluding asset management fees, for such month exceeds 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 be deferred under the advisory agreement. If the MFFO Surplus for any month exceeds the amount of the asset management fee payable for such month, any remaining MFFO Surplus will be applied to pay any asset management fee amounts previously deferred in accordance with the advisory agreement. However, notwithstanding the foregoing, any and all deferred 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% per year cumulative, noncompounded return on 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. 35 -------------------------------------------------------------------------------- Table of Contents PART I. FINANCIAL INFORMATION (CONTINUED) Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) As ofMarch 31, 2021 , we had accrued and deferred payment of$8.0 million of asset management fees under the advisory agreement. The amount of asset management fees deferred, if any, will vary on a month-to-month basis and the total amount of asset management fees deferred as well as the timing of the deferrals and repayments 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. OnSeptember 27, 2020 , we and our advisor renewed the advisory agreement. The advisory agreement has a one-year term but may be renewed for an unlimited number of successive one-year periods upon the mutual consent of our advisor and our conflicts committee. Participation Fee Liability and Potential Change in Fee Structure Pursuant to our advisory agreement currently in effect with our advisor, our advisor is due a subordinated participation in our net cash flows (the "Subordinated Participation in Net Cash Flows") upon meeting certain performance goals. After 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) 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, and (ii) an 8.0% per year cumulative, noncompounded return on such net invested capital, our advisor is entitled to receive 15.0% of our net cash flows, whether from continuing operations, net sale proceeds or otherwise. Net sales proceeds means the net cash proceeds realized by us after deduction of all expenses incurred in connection with a sale, including disposition fees paid to our advisor. The 8.0% per year cumulative, noncompounded return on net invested capital is calculated on a daily basis. In making this calculation, the net invested capital is reduced to the extent distributions in excess of a cumulative, noncompounded, annual return of 8.0% are paid (from whatever source), except to the extent such distributions would be required to supplement prior distributions paid in order to achieve a cumulative, noncompounded, annual return of 8.0% (invested capital is only reduced as described in this sentence; it is not reduced simply because a distribution constitutes a return of capital for federal income tax purposes). The 8.0% per year cumulative, noncompounded 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 participate in our net cash flows. In fact, if our advisor is entitled to participate in our net cash flows, the returns of our stockholders will differ, and some may be less than an 8.0% per year cumulative, noncompounded return. This fee is payable only if we are not listed on an exchange. OnJanuary 9, 2020 , we filed a definitive proxy statement with theSEC in connection with the annual meeting of stockholders to vote on, among other proposals, two proposals related to our pursuit of conversion to an NAV REIT. OnMay 7, 2020 at our annual meeting of stockholders, our stockholders approved the proposal to accelerate the payment of incentive compensation to our advisor, upon our conversion to an NAV REIT. However, the proposed acceleration of the payment of incentive compensation to our advisor remains subject to further approval of the conflicts committee, after the proposed amount of the accelerated payment of the incentive fee has been determined. In connection with the determination of theMay 13, 2021 estimated value per share of our common stock, our advisor determined that there would be no liability related to the Subordinated Participation in Net Cash Flows at that time, based on a hypothetical liquidation of the assets and liabilities at their estimated fair values, after considering the impact of any potential closing costs and fees related to the disposition of real estate properties; however, changes to the fair values of assets and liabilities could have a material impact to the incentive fee calculation. 36 -------------------------------------------------------------------------------- Table of Contents PART I. FINANCIAL INFORMATION (CONTINUED) Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) As discussed herein, our board of directors and management team regularly monitor the real estate and equity markets in order to find the best opportunities possible to continue to provide attractive and stable cash distributions to our stockholders and provide additional liquidity for our stockholders. One alternative for us to achieve these objectives may be for us to pursue conversion to a non-listed, perpetual-life NAV REIT. If we convert to an NAV REIT, we would implement a revised advisory fee structure. As the global impact of the COVID-19 pandemic continues to evolve, severely impacting global economic activity and causing significant volatility and negative pressure in the financial markets, including theU.S. real estate office market and the industries of our tenants, our conflicts committee and our board of directors continue to evaluate whether the proposed NAV REIT conversion remains in the best interest of our stockholders. While we believe our portfolio is well-positioned to continue to successfully respond to the pandemic, the impact of the COVID-19 pandemic on the capital and financial markets, including theU.S. real estate office market, has caused us to further consider the timing and likelihood of success of the proposed NAV REIT conversion. Regardless of the ultimate decision, we continue to be focused on providing increased liquidity to stockholders. Accordingly, we can give no assurance that we will continue to pursue a conversion to an NAV REIT or that if we do pursue conversion to an NAV REIT that we would commence or complete the proposed offering. Even if we convert to an NAV REIT, there is no assurance that we will successfully implement our strategy, and we can provide no assurance that our NAV REIT strategy will be able to provide additional liquidity to stockholders. Contractual Obligations The following is a summary of our contractual obligations as ofMarch 31, 2021 (in thousands):
Payments Due During the Years Ended
Total Remainder of 2021 2022-2023 2024-2025 Thereafter
Outstanding debt obligations (1) $ 1,396,745 $
472,950
56,158 19,898 34,925 1,335 -
Interest payments on interest rate
swaps (3) (4) 32,612 13,348 19,264 - -
_____________________
(1) Amounts include principal payments only based on maturity dates as of
March 31, 2021 ; subject to certain conditions, the maturity dates of certain
loans may be extended beyond what is shown above.
(2) Projected interest payments are based on the outstanding principal amounts,
maturity dates and interest rates in effect as of March 31, 2021 , consisting of
the contractual interest rate and using interest rate indices as of March 31,
2021 , where applicable.
(3) Projected interest payments on interest rate swaps are calculated based on
the notional amount, effective term of the swap contract, and fixed rate net of
the swapped floating rate in effect as of March 31, 2021 .
(4) We incurred interest expense of $11.7 million , excluding amortization of
deferred financing costs totaling $1.0 million and unrealized gains on
derivative instruments of $5.9 million during the three months ended March 31,
2021 .
Results of Operations
Overview
As of March 31, 2020 , we owned 18 office properties, one mixed-use office/retail
property and a multifamily apartment complex held through a consolidated joint
venture ("Hardware Village "). In addition, we owned an investment in the equity
securities of the SREIT, which is accounted for as an investment in an
unconsolidated entity under the equity method of accounting. Subsequent to
March 31, 2020 , we sold one office property, Hardware Village and originated one
real estate loan receivable secured by a deed of trust in May 2020 , which was
paid off in December 2020 . As a result, as of March 31, 2021 , we owned 17 office
properties, one mixed-use office/retail property and an investment in the equity
securities of the SREIT. Therefore, the results of operations presented for the
three months ended March 31, 2021 and 2020 are not directly comparable.
37
--------------------------------------------------------------------------------
Table of Contents
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 March 31, 2021 versus the three months
ended March 31, 2020
The following table provides summary information about our results of operations
for the three months ended March 31, 2021 and 2020 (dollar amounts in
thousands):
$ Change Due to
Three Months Ended March 31, Properties Held
Increase $ Changes Due to Throughout Both
2021 2020 (Decrease) Percentage Change Dispositions (1) Periods (2)
Rental income $ 71,084 $ 71,618 $ (534) (1) % $ (3,455) $ 2,921
Other operating income 3,651 6,084 (2,433) (40) % (370) (2,063)
Operating, maintenance and management 15,863 18,257 (2,394) (13) % (1,375) (1,019)
Real estate taxes and insurance 14,379 14,103 276 2 % (466) 742
Asset management fees to affiliate 4,895 5,174 (279) (5) % (374) 95
General and administrative expenses 1,722 1,677 45 3 % n/a n/a
Depreciation and amortization 27,399 27,392 7 - % (1,183) 1,190
Interest expense 6,815 48,789 (41,974) (86) % (410) (41,564)
Impairment charges on real estate - 19,896 (19,896) (100) % - (19,896)
Other interest income 15 33 (18) (55) % n/a n/a
Equity in income (loss) of an
unconsolidated entity 3,287 (1,161) 4,448 (383) % - 4,448
Loss from extinguishment of debt - (188) 188 (100) % - 188
Gain on sale of real estate, net 20,459 - 20,459 100 % 20,459 -
_____________________
(1) Represents the dollar amount increase (decrease) for the three months ended
March 31, 2021 compared to the three months ended March 31, 2020 related to real
estate dispositions on or after January 1, 2020 .
(2) Represents the dollar amount increase (decrease) for the three months ended
March 31, 2021 compared to the three months ended March 31, 2020 related to real
estate investments owned by us throughout both periods presented.
Rental income from our real estate properties decreased slightly from $71.6
million for the three months ended March 31, 2020 to $71.1 million for the three
months ended March 31, 2021 . The decrease in rental income was primarily due to
the dispositions of Hardware Village in May 2020 and Anchor Centre in January
2021 , partially offset by an increase in rental income related to the
commencement of a lease at Domain Gateway in January 2021 and lease termination
income received during the three months ended March 31, 2021 . We expect rental
income to vary based on occupancy rates and rental rates of our real estate
investments and uncertainty and business disruptions or recoveries as a result
of the COVID-19 pandemic. See "Market Outlook - Real Estate and Real Estate
Finance Markets - COVID-19 Pandemic and Portfolio Outlook" for a discussion on
the impact of the COVID-19 pandemic on our business.
Other operating income decreased from $6.1 million during the three months ended
March 31, 2020 to $3.7 million for the three months ended March 31, 2021 . The
decrease in other operating income was primarily due to a decrease in parking
revenues and operating expense recoveries for properties held throughout both
periods due to a decrease in physical occupancy as a result of the COVID-19
pandemic and the disposition of Anchor Centre in January 2021 . We expect other
operating income to vary in future periods based on occupancy rates and parking
rates at our real estate properties, and business disruptions or recoveries as a
result of the COVID-19 pandemic.
Operating, maintenance and management costs decreased from $18.3 million for the
three months ended March 31, 2020 to $15.9 million for the three months ended
March 31, 2021 . The decrease in operating, maintenance and management costs was
primarily due to the dispositions of Hardware Village in May 2020 and Anchor
Centre in January 2021 and an overall decrease in operating costs at properties
held throughout both periods due to a decrease in physical occupancy as a result
of the COVID-19 pandemic. We expect operating, maintenance and management costs
to fluctuate in future periods as a result of general inflation for properties
that we continue to own, and business disruptions or recoveries as a result of
the COVID-19 pandemic, offset by a decrease due to the disposition of Anchor
Centre.
38
--------------------------------------------------------------------------------
Table of Contents
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations (continued)
Real estate taxes and insurance increased from $14.1 million for the three
months ended March 31, 2020 to $14.4 million for the three months ended
March 31, 2021 . The increase in real estate taxes and insurance was primarily
due to an increase in real estate taxes due to higher property tax assessments
for real estate properties, partially offset by a decrease due to the
dispositions of Hardware Village in May 2020 and Anchor Centre in January 2021 .
We expect real estate taxes and insurance to increase in future periods as a
result of general inflation and general increases due to future property tax
reassessments for properties that we continue to own offset by a decrease due to
the disposition of Anchor Centre.
Asset management fees with respect to our real estate investments decreased from
$5.2 million for the three months ended March 31, 2020 to $4.9 million for the
three months ended March 31, 2021 primarily due to the dispositions of Hardware
Village in May 2020 and Anchor Centre in January 2021 , partially offset by an
increase in capital improvements at real estate properties held throughout both
periods. We expect asset management fees to increase in future periods as a
result of any improvements we make to our properties offset by a decrease due to
the disposition of Anchor Centre. As of March 31, 2021 , there were $8.0 million
of accrued and deferred asset management fees. For a discussion of accrued and
deferred asset management fees, see "-Liquidity and Capital Resources" herein.
General and administrative expenses remained consistent at $1.7 million for the
three months ended March 31, 2020 and 2021. General and administrative costs
consisted primarily of portfolio legal fees, board of directors fees, audit
costs and third party transfer agent fees. We expect general and administrative
expenses to vary in future periods.
Depreciation and amortization remained consistent at $27.4 million for the three
months ended March 31, 2020 and 2021, primarily due to a decrease as a result of
the sale of Anchor Centre in January 2021 , offset by an increase in depreciation
and amortization due to an increase in capital improvements at properties held
throughout both periods. 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 decreased from $48.8 million for the three months ended
March 31, 2020 to $6.8 million for the three months ended March 31, 2021 .
Included in interest expense was (i) $13.0 million and $7.3 million of interest
expense payments for the three months ended March 31, 2020 and 2021,
respectively, (ii) the amortization of deferred financing costs of $1.1 million
and $1.0 million for the three months ended March 31, 2020 and 2021,
respectively, and (iii) interest expense (including gains and losses) incurred
as a result of our derivative instruments, which increased interest expense by
$34.7 million and decreased interest expense by $1.5 million for the three
months ended March 31, 2020 and 2021, respectively. The decrease in interest
expense was primarily due to a lower 30-day LIBOR during the three months ended
March 31, 2021 and its impact on interest expense related to our variable rate
debt and a decrease in interest expense due to changes in fair values with
respect to our interest rate swaps that are not accounted for as cash flow
hedges as well as the pay offs and/or refinancing of loans during the year ended
December 31, 2020 . In general, we expect interest expense to vary based on fair
value changes with respect to our interest rate swaps that are not accounted for
as cash flow hedges, fluctuations in one-month LIBOR (for our variable rate
debt) and our level of future borrowings.
During the three months ended March 31, 2020 , we recorded non-cash impairment
charges of $19.9 million to write down the carrying value of an office/retail
property to its estimated fair value as a result of changes in cash flow
estimates, including a change to the anticipated hold period of the property,
which triggered the future estimated undiscounted cash flows to be lower than
the net carrying value of the property. The decrease in cash flow projections
was primarily due to the continued lack of demand for the property's retail
component resulting in longer than estimated lease-up periods and lower
projected rental rates, mostly due to the impact of the COVID-19 pandemic. We
did not record any impairment charges on our real estate properties during the
three months ended March 31, 2021 .
Equity in income (loss) of an unconsolidated entity relates to our investment in
the SREIT. We recorded equity in loss of an unconsolidated entity of
$1.2 million and equity in income of an unconsolidated entity of $3.3 million
related to our investment in the SREIT during the three months ended March 31,
2020 and 2021, respectively. Equity in loss of an unconsolidated entity during
the three months ended March 31, 2020 included $3.3 million related to our share
of the net losses from the SREIT offset by a gain of $2.1 million to reflect the
net effect to our investment as a result of the net proceeds raised by the SREIT
in a private offering in February 2020 . Based on our 27.3% ownership interest in
the SREIT as of March 31, 2021 , we exercise significant influence over the
operations, financial policies and decision making with respect to this
investment. Accordingly, we accounted for the investment in the SREIT under the
equity method of accounting as of March 31, 2021 . We expect our equity in income
(loss) of an unconsolidated entity related to our investment in the SREIT to
vary based on occupancy rates and rental rates of the SREIT's real estate
investments and uncertainty and business disruptions as a result of the COVID-19
pandemic.
39
--------------------------------------------------------------------------------
Table of Contents
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations (continued)
We recognized a gain on sale of real estate of $20.5 million related to the
disposition of Anchor Centre during the three months ended March 31, 2021 . We
did not recognize any gain on sale of real estate during the three months ended
March 31, 2020 .
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. 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.
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. 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. 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; however, neither FFO nor MFFO reflects adjustments for the
operations of properties sold or under contract to sale during the periods
presented. During periods of significant disposition activity, FFO and MFFO are
much more limited measures of future performance and dividend sustainability. In
connection with our presentation of FFO, MFFO and Adjusted MFFO, we are
providing information related to the proportion of Adjusted MFFO related to
properties sold in 2020 and during the three months ended March 31, 2021 .
40
--------------------------------------------------------------------------------
Table of Contents
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations (continued)
Further, during the current period of uncertainty and business disruptions as a
result of the COVID-19 pandemic, FFO and MFFO are much more limited measures of
future performance and dividend sustainability. See "Market Outlook - Real
Estate and Real Estate Finance Markets - COVID-19 Pandemic and Portfolio
Outlook" for a discussion of the impact of the COVID-19 pandemic on our
business.
Although MFFO includes other adjustments, the exclusion of adjustments for
straight-line rent, the amortization of above- and below-market leases,
unrealized losses (gains) on derivative instruments and loss from extinguishment
of debt 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;
•Unrealized losses (gains) on derivative instruments. These adjustments include
unrealized losses (gains) from mark-to-market adjustments on interest rate
swaps. The change in fair value of interest rate swaps 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; and
•Loss from extinguishment of debt. A loss from extinguishment of debt, which
includes prepayment fees related to the extinguishment of debt, represents the
difference between the carrying value of any consideration transferred to the
lender in return for the extinguishment of a debt and the net carrying value of
the debt at the time of settlement. We have excluded the loss from
extinguishment of debt in our calculation of MFFO because these losses do not
impact the current operating performance of our investments and do not provide
an indication of future operating performance.
41
--------------------------------------------------------------------------------
Table of Contents
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations (continued)
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 and Adjusted MFFO, for the three months ended March 31, 2021
and 2020, respectively (in thousands). No conclusions or comparisons should be
made from the presentation of these periods.
For the Three Months
Ended March 31,
2021 2020
Net income (loss) attributable to common stockholders $ 27,423 $ (58,903)
Depreciation of real estate assets 21,162 20,218
Amortization of lease-related costs 6,237 7,174
Impairment charges on real estate - 19,896
Gain on sale of real estate, net (20,459) -
Adjustment for investment in an unconsolidated entity (1) 4,516 2,354
FFO attributable to common stockholders (2) 38,879 (9,261)
Straight-line rent and amortization of above- and
below-market leases, net (2,811) (2,351)
Loss from extinguishment of debt - 188
Unrealized (gains) losses on derivative instruments (5,897) 33,991
Adjustment for investment in an unconsolidated entity (1) (3,006) 3,801
MFFO attributable to common stockholders (2) 27,165 26,368
Adjustment for a contractual rent payment received but deferred (3)
- 381
Adjusted MFFO attributable to common stockholders (2) _____________________
(1) Reflects our noncontrolling interest share of adjustments to convert our net income (loss) attributable to common stockholders to FFO and MFFO for our equity investment in an unconsolidated entity. (2) FFO, MFFO and Adjusted MFFO include$0.8 million of lease termination income for the three months endedMarch 31, 2021 . (3) Adjustment for rent contractually due and collected per the terms of a lease agreement, but deferred and not recognized into rental income for purposes of GAAP as the tenant improvements are under construction. We began recognizing this deferred revenue over the term of the lease beginningJanuary 1, 2021 . Our calculation of Adjusted MFFO above includes amounts related to the operations of an office property sold onJanuary 19, 2021 and the multifamily apartment complex held by theHardware Village joint venture that was sold onMay 7, 2020 . Please refer to the table below with respect to the proportion of Adjusted MFFO related to the real estate properties sold (in thousands). For the Three Months Ended March
31,
2021 2020
Adjusted MFFO by component:
Assets held for investment $ 27,157 $ 25,711
Real estate properties sold 8 1,038
Adjusted MFFO $ 27,165 $ 26,749
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.
42
--------------------------------------------------------------------------------
Table of Contents
PART I. FINANCIAL INFORMATION (CONTINUED)
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations (continued)
Distributions
Distributions declared, distributions paid and cash flow from operating
activities were as follows for the first quarter of 2021 (in thousands, except
per share amounts):
Distributions Distributions Paid (2) Cash Flow from
Distributions Declared Operating
Period Declared Per Share (1) Cash Reinvested Total Activities
First Quarter 2021 $ 27,640 $ 0.149 $ 16,274 $ 11,326 $ 27,600 $ 16,295 _____________________
(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 fromJanuary 1, 2021 throughMarch 31, 2021 , distributions were calculated at a rate of$0.04983333 per share. (2) Distributions are paid on a monthly basis. Distributions for the monthly record date of a given month are paid on or about the first business day of the following month. For the three months endedMarch 31, 2021 , we paid aggregate distributions of$27.6 million , including$16.3 million of distributions paid in cash and$11.3 million of distributions reinvested through our dividend reinvestment plan. Our net income attributable to common stockholders for the three months endedMarch 31, 2021 was$27.4 million . FFO for the three months endedMarch 31, 2021 was$38.9 million and cash flow from operating activities was$16.3 million . See the reconciliation of FFO to net income attributable to common stockholders above. We funded our total distributions paid, which includes net cash distributions and dividends reinvested by stockholders, with$16.3 million of cash flow from current operating activities,$4.2 million of cash flow from operating activities in excess of distributions paid during prior periods and$7.1 million of proceeds from the sale of real estate. 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. We continue to evaluate the impact and uncertainty of the COVID-19 pandemic on our real estate portfolio's ongoing cash flows and monthly stockholder distributions. We can give no certainty to the amount of future monthly stockholder distributions which will depend in large part on the amount of tenant rent collections each month and the impact on our operating cash flows. Over the long-term, we generally expect our distributions will be paid from cash flow from operating activities from current periods or prior periods (except with respect to distributions related to sales of our assets and distributions related to the sales or repayment of real estate-related investments). From time to time during our operational stage, we may not pay distributions solely from our cash flow from operating activities, in which case distributions may be paid in whole or in part from debt financing. 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 in the future due to numerous factors, including those discussed under "Forward-Looking Statements", "-Market Outlook - Real Estate and Real Estate Finance Markets," "-Liquidity and Capital Resources," and "-Results of Operations" herein, and the risks discussed in Part I, Item 1A of our Annual Report on Form 10-K for the year endedDecember 31, 2020 , as filed with theSEC , and those discussed in Part II, Item 1A herein. 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; the level of participation in our dividend reinvestment plan; and the extent to which the COVID-19 pandemic impacts our operations and those of our tenants and our investment in the SREIT. 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 Our consolidated interim financial statements have been prepared in accordance with GAAP and in conjunction with the rules and regulations of theSEC . 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 endedDecember 31, 2020 filed with theSEC . There have been no significant changes to our policies during 2021. 43 -------------------------------------------------------------------------------- Table of Contents PART I. FINANCIAL INFORMATION (CONTINUED) Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) Subsequent Events We evaluate subsequent events up until the date the consolidated financial statements are issued. Distributions Paid OnApril 1, 2021 , we paid distributions of$9.2 million , which related to distributions in the amount of$0.04983333 per share of common stock to stockholders of record as of the close of business onMarch 19, 2021 . OnMay 3, 2021 , we paid distributions of$9.2 million , which related to distributions in the amount of$0.04983333 per share of common stock to stockholders of record as of the close of business onApril 20, 2021 . Distributions Authorized OnMay 13, 2021 , our board of directors authorized aMay 2021 distribution in the amount of$0.04983333 per share of common stock to stockholders of record as of the close of business onMay 20, 2021 , which we expect to pay inJune 2021 . Investors may choose to receive cash distributions or purchase additional shares through our dividend reinvestment plan. Updated Estimated Value Per Share OnMay 13, 2021 , our board of directors approved an estimated value per share of our common stock of$10.77 based on the estimated value of our assets less the estimated value of our liabilities divided by the number of shares outstanding, all as ofMarch 31, 2021 , with the exception of adjustments to our net asset value to give effect to the change in the estimated value of our investment in units of the SREIT (SGX-ST Ticker: OXMU) as ofApril 29, 2021 . For a full description of the limitations, methodologies and assumptions used to value our assets and liabilities in connection with the calculation of our estimated value per share, see our Current Report on Form 8-K, filed with theSEC onMay 14, 2021 . Updated Dividend Reinvestment Plan Pricing Pursuant to our dividend reinvestment plan, participants in the dividend reinvestment plan will acquire shares of our common stock under the plan at a price equal to 95% of the estimated value per share of our common stock. As such, commencing on the next dividend reinvestment plan purchase date, which isJune 1, 2021 , participants will acquire shares of our common stock under the plan at a price equal to 95% of$10.77 , or$10.23 per share. If a participant wishes to terminate participation in the dividend reinvestment plan effective for theJune 1, 2021 purchase date, participants must notify us in writing of such decision, and we must receive the notice by the close of business onMay 24, 2021 . Updated Share Redemption Program Pricing In accordance with our share redemption program, the redemption price for shares eligible for redemption is calculated based upon the updated estimated value per share. 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. Ordinary Redemptions are made at a price per share equal to 95% of the most recent estimated value per share of our common stock as of the applicable redemption date. EffectiveMay 13, 2021 , the redemption price for all stockholders will be calculated based on theMay 13, 2021 estimated value per share. For a stockholder's shares to be eligible for redemption in a given month or to withdraw a redemption request, we must receive a written notice from the stockholder or from an authorized representative of the stockholder in good order and on a form approved by us at least five business days before the redemption date. The share redemption program includes numerous restrictions that limit stockholders' ability to sell their shares and Ordinary Redemptions are currently suspended under the share redemption program. 44
--------------------------------------------------------------------------------
Table of Contents PART I. FINANCIAL INFORMATION (CONTINUED)
© Edgar Online, source
