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TSRE > SEC Filings for TSRE > Form 10-K on 26-Mar-2014All Recent SEC Filings

Show all filings for TRADE STREET RESIDENTIAL, INC.

Form 10-K for TRADE STREET RESIDENTIAL, INC.


26-Mar-2014

Annual Report


Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.

The following discussion analyzes the financial condition and results of operations of Trade Street Residential, Inc. ("TSRE") and Trade Street Operating Partnership, L.P. ("TSOP"). A wholly-owned subsidiary of TSRE (Trade Street OP GP, LLC) is the sole general partner of TSOP. As of December 31, 2013, TSRE owned an 86.25% limited partner interest in TSOP. TSRE conducts all of its business and owns all of its properties through TSOP and TSOP's various subsidiaries. Except as otherwise required by the context, the "Company," "Trade Street," "we," "us" and "our" refer to TSRE and TSOP together, as well as TSOP's subsidiaries, except where the context otherwise requires. You should read the following discussion of our financial condition and results of operations in conjunction with the Consolidated Financial Statements and accompanying notes in Item 8.

Overview of Our Company

We are a full service, vertically integrated, self-administered and self-managed real estate investment trust ("REIT"), focused on acquiring, owning, operating and managing conveniently located, garden-style and mid-rise apartment communities in mid-sized cities and suburban submarkets of larger cities primarily in the southeastern United States and Texas. As of December 31, 2013, we had approximately 110 full-time employees who provide property management, maintenance, landscaping, administrative and accounting services for the properties we own. We elected to be taxed as a REIT for U.S. federal income tax purposes commencing with our taxable year ended December 31, 2004.

We seek to own and operate apartment communities in cities that have:

a stable work force comprised of a large number of "echo boomers" augmented by positive net population migration;

well-paying jobs provided by a diverse mix of employers across the education, government, healthcare, insurance, manufacturing and tourist sectors;

a favorable cost of living;

reduced competition from larger multifamily REITs and large institutional real estate investors who tend to focus on

select coastal and gateway markets; and

a limited supply of new housing and new apartment construction.

We completed our IPO on May 16, 2013. As of December 31, 2013, we owned and operated 15 apartment communities containing 3,455 apartment units in Alabama, Florida, Georgia, Kentucky, North Carolina, South Carolina, Tennessee and Texas. We currently have 110 employees who provide property management, maintenance, landscaping, administrative and accounting services.

We recognize that economic conditions could deteriorate and that the current economic recovery may not be sustainable. However, with the growth in multi-family supply expected to be below historical averages for the next few years and with employment in our markets steady or increasing, we do not anticipate any significant slowdown in the multi-family sector.

In addition, we believe that attractive acquisition opportunities that meet our investment profile remain available in the market. We believe our expected access to capital and the accordion feature in our revolving credit facility along with our extensive industry relationships and management's expertise, will allow us to compete successfully for such acquisitions and enable us to continue to make accretive acquisitions.

Outlook

The outlook and assumptions presented below contain forward-looking statements and are based on our future view of the apartment market and general economic conditions, as well as other risks outlined above under the caption "Cautionary Note Regarding Forward-Looking Statements." There can be no assurance that our actual results will not differ materially from the outlook and assumptions set forth below. We assume no obligation to update this outlook in the future.

Our outlook is based on the expectation that economic and employment conditions will continue to improve though gradually. A limited supply of new apartment units over the past several years, coupled with improving multi-family housing demand, has generally supported improved operating fundamentals across our portfolio. Permits for new supply of new apartments and rental units in our markets increased in 2013 as compared to 2012 and 2011, which will lead to new supply in 2014. We believe that any new supply will be easily absorbed due to historically low supply in prior years and the strong employment growth in our markets. In addition, we believe that the relatively young age of our communities and best-in-class amenities keep us well positioned to maintain occupancy levels and to continue to increase effective rents.

Rental and other revenues from same store properties are expected to increase modestly for 2014, compared to 2013, driven primarily by new and renewed leases being completed at slightly higher market rental rates, as we expect to generally maintain occupancy levels relatively consistent with those in 2013. The rate of revenue growth is expected to moderate in 2014, compared to 2013, largely attributable to limited ability to increase rental rates significantly above current levels at this time. Operating expenses of same store properties are expected to generally remain constant for 2014. On a year-over-year basis, we expect property taxes, personnel and utilities to be the largest contributors to operating expenses, primarily due to the addition of two properties to the same store portfolio in 2014 and potential property tax reassessments of six new properties in 2014. As a result, management expects same store property net operating income to increase modestly for 2014. Further, management expects net operating income from newly stabilized properties to increase in 2014 as four communities reached stabilized occupancy late in 2013. Management also expects that net operating income from lease-up communities will increase significantly in 2014. Additional net operating income is also expected for the full year of 2014 from one apartment community acquired in August 2013 and expected for a part of the year of 2014 from six apartment communities acquired in 2014 as well as one apartment community pending acquisition as of March 2014. These lease-up properties are expected to stabilize in the second half of 2014.

We expect general and administrative expenses to decrease, excluding one-time charges resulting from changes in our senior management team and non-cash stock compensation, primarily due to decreased senior management compensation and related expenses, and decreased professional fees, partially offset by increased costs associated with information technology system upgrades and preparedness for compliance with Sections 302 and 404 of the Sarbanes-Oxley Act. Development and pursuit costs in 2014 will include interest, real estate taxes and other expenses of the land assets, the amount of which will depend on when the assets held for sale are sold.

We expect interest expense for 2014 to be significantly higher than in 2013 due primarily to acquisitions, partially offset by decreased leverage and replacement of variable rate indebtedness with fixed rate mortgages at favorable rates. See "Liquidity and Capital Resources" section for further discussion. Future equity issuances will depend upon a variety of factors, including, among others, the volume of investment activities, market conditions, the trading price of our common stock relative to other sources of capital and our liquidity position.

During 2014, we anticipate commencing development of our Millenia Phase II land investment with a highly-qualified regional and/or national third party developer and intend to sell the remaining land parcels. We will add scale in our current markets through acquisitions of new apartment communities. We may also opportunistically pursue acquisitions of apartment communities in other geographic regions and markets that possess economic, demographic and other characteristics similar to our existing markets and fit within our strategic plan. In addition, we may take advantage of current market conditions to dispose of older assets and reinvest those proceeds in newer and more attractive communities.

Summary Results of Operations

2013 Overview

The following discussion and analysis should be read in conjunction with the Consolidated Financial Statements and accompanying notes in Item 8.

Throughout this section, we have provided certain information on a "same store" property basis. We define "same store" properties as properties that were owned and stabilized since January 1, 2012 through December 31, 2013. For newly constructed or lease-up properties or properties undergoing significant redevelopment, we consider a property stabilized at the earlier of
(i) attainment of 90% physical occupancy or (ii) the one-year anniversary of completion of development or redevelopment. For comparison of the years ended December 31, 2013 and 2012, the same store properties included properties owned since January 1, 2012, excluding our land held for future development and properties included in discontinued operations (see below). No properties owned since January 1, 2012 were under construction or undergoing redevelopment and, as a result, no properties owned since January 1, 2012 were excluded from the same store portfolio.

For the year ended December 31, 2013, the Company reported net loss to common stockholders of $5.6 million, compared with a net loss to common stockholders of $7.2 million for the comparable prior year period.

The principal factors that impacted our results from continuing operations for the year ended December 31, 2013 included:

A 6.6% increase in same-store revenues.

The inclusion in operating income of the seven acquisitions completed between December 1, 2012 and December 31, 2013.

The $12.4 million impairment charge for our Land Held for Future Development assets

The refinancing of the Point at Canyon Ridge and Arbor River Oaks in 2013.

Increased general and administrative expenses associated with being a self-administered and self-managed public company.

Comparison of Years Ended December 31, 2013 to December 31, 2012

Below are the results of operations for the years ended December 31, 2013 and 2012. In the comparative tables presented below, increases in revenues/income or decreases in expenses (favorable variances) are shown without parentheses while decreases in revenues/income or increases in expenses (unfavorable variances) are shown with parentheses. For purposes of comparing our results of operations for the periods presented below, all of our properties in the "same store" reporting group were wholly owned from January 1, 2012 through December 31, 2013. Property Revenues include rental revenue and other property revenues. Property Expenses include property operations, real estate taxes and insurance and property management fees paid to third parties, as such fees were paid prior to the recapitalization on June 1, 2012 and will not be incurred in the future, as we are now self-administered and self-managed.

                                   Years Ended December 31,                 Change
(dollars in thousands)              2013               2012            $             %

Property Revenues
Same Store (7 properties)       $     14,939       $     14,014     $    925            6.6 %
Non Same Store (7 properties)         14,018                446       13,572         3043.0 %
Total property revenues         $     28,957       $     14,460     $ 14,497          100.3 %

Property Expenses
Same Store (7 properties)       $      7,234       $      7,279     $     45            0.6 %
Non Same Store (7 properties)          5,951                174       (5,777 )     (3,320.1 )%
Total property expenses         $     13,185       $      7,453     $ (5,732 )        (76.9 )%

Same Store Properties-Property Revenues and Property Expenses

Same store property revenues increased approximately $0.9 million, or 6.6%, for the year ended December 31, 2013 as compared to the same period in 2012 primarily due to an increase of $0.4 million as a result of a 2.9% increase in average rental rates, an increase of $0.4 million as the result of a 240 basis point increase in average occupancy and an increase of $0.1 million in other property revenues.

Same store property expenses decreased approximately $0.1 million, or 0.6%, for the year ended December 31, 2013 as compared to the same period in 2012 primarily due to a decrease of $0.3 million in third party management fees, which were not incurred in 2013 as we were entirely self-managed, partially offset by an increase of $0.2 million in real estate taxes.

Non-Same Store Properties-Property Revenues and Property Expenses

Property Revenues and Property Expenses for our non-same store properties increased significantly due to the acquisitions made late in the fourth quarter of 2012 and during the year ended December 31, 2013. The results of operations for these properties have been included in our consolidated statements of operations from the date of acquisition.

Other Expenses



                                             Years Ended December 31,                  Change
(dollars in thousands)                        2013               2012             $              %

General and administrative                $       8,683       $     3,748     $   (4,935 )       (131.7 )%
Interest expense                          $       8,947       $     3,751     $   (5,196 )       (138.5 )%
Depreciation and amortization             $      11,918       $     4,844     $   (7,074 )       (146.0 )%
Development and pursuit costs             $         180       $        19     $     (161 )       (847.4 )%
Acquisition and recapitalization costs    $         919       $     2,331     $    1,412           60.6 %
Asset impairment losses                   $      12,419       $         -     $  (12,419 )            *
Amortization of deferred financing cost   $       1,443       $       636     $     (807 )       (126.9 )%
Loss on early extinguishment of debt      $       1,146       $       538     $     (608 )       (113.0 )%

* Not a meaningful percentage.

General and administrative expense increased approximately $4.9 million, or 131.7%, for the year ended December 31, 2013 as compared to the same period in 2012. The increase was primarily due to (i) growth in the number of corporate personnel needed to manage a public company and to acquire, manage and maintain the increased number of properties that we acquired late in the fourth quarter 2012 and during 2013, (ii) separation costs relating to the resignation of an executive officer during 2013, (iii) increased stock-based compensation expense primarily attributable to the value of certain employee shares granted that fully vested during 2013, (iv) increased professional fees primarily attributable to legal fees and the audit of our annual financial statements and review of our quarterly financial statements, (v) directors fees and director and officers insurance which were not incurred prior to the recapitalization and
(vi) increased overhead from being a self-administered and self-managed company after the recapitalization in June 2012 and after the IPO in May 2013.

Interest expense increased approximately $5.2 million, or 138.5% for the year ended December 31, 2013, which was primarily due to the debt increase as a result of the aforementioned seven acquisitions completed between December 2012 and during the year ended December 2013, the additional interest associated with the noncontrolling interests in four properties contributed in the recapitalization, and the BMO Credit Facility that we entered in early 2013.

Depreciation and amortization expense for the year ended December 31, 2013 as compared to the same period in 2012 increased approximately $7.1 million, or 146.0%. This increase was primarily due to the seven acquisitions completed between December 2012 and December 2013.

Development and pursuit costs increased approximately $0.2 million, or 847.4% for the year ended December 31, 2013 as compared to the same period in 2012. This increase was primarily due to interest and real estate taxes incurred for two of our four parcels of land held for future development. Since the beginning of the third quarter of 2013, we are no longer capitalizing interest and costs for our Land Held for Future Development properties.

Approximately $12.4 million of impairment was recorded in the year ended December 31, 2013 to write down the carrying value of our Land Held for Future Development properties. In February, management determined that the Company should sell these properties rather than hold these properties for future development. As a result, the carrying value of these properties as of December 31, 2013 has been reduced. The impairment charges were based on recent independent broker opinions of value of the land, which was determined to be the best indication of fair market value. No impairment was recorded in the year ended December 31, 2012.

Amortization of deferred financing costs increased approximately $0.8 million for the year ended December 31, 2013 as compared to the same period in 2012. The increase was primarily due to the debt incurred in connection with the aforementioned seven acquisitions between December 2012 and during the year ended December 2013 as well as amortization of new loan costs for Pointe at Canyon Ridge and the line of credit.

Loss on extinguishment of debt for the year ended December 31, 2013 includes prepayment penalties related to the refinancing of a bridge loan for Pointe at Canyon Ridge as well as the refinancing of debt on Arbor River Oaks. Loss on extinguishment of debt for the year ended December 31, 2012 includes a prepayment penalty and the write-off of the remaining deferred loan costs for Pointe at Canyon Ridge.

Acquisition expenses are charged to current expense in the period incurred. Our acquisition expenses include direct costs to acquire apartment communities, including broker fees, certain transfer taxes, legal, accounting, valuation, and other professional and consulting fees. For the year ended December 31, 2013, acquisition expenses were approximately $0.9 million, primarily due to costs incurred in the acquisition of Talison Row, Fountains Southend, Creekstone at RTP, St. James at Goose Creek and Vintage at Madison Crossing. For the year ended December 31, 2012, acquisition expenses were approximately $0.5 million, primarily due to costs incurred in the acquisition of Westmont and Estates of Millenia. Approximately $1.8 million in recapitalization costs were incurred in connection with the recapitalization transaction on June 1, 2012 and are included in the results for the year ended December 31, 2012.

Other Income and Expenses



                                         Years Ended December 31,                  Change
(dollars in thousands)                   2013               2012              $              %

Other income                          $        88       $         267     $     (179 )         67.0 %
Gain on bargain purchase              $     6,900       $           -     $    6,900              *
Loss from discontinued operations     $      (413 )     $      (2,187 )   $    1,774           81.1 %
Gain on sale of discontinued
operations                            $     6,685       $       2,183     $    4,502          206.2 %
Loss allocated to noncontrolling
interest holders                      $     2,462       $       1,709     $     (753 )        (44.1 )%

* Not a meaningful percentage.

Gain on bargain purchase for the year ended December 31, 2013 represents a gain recorded on the acquisition of Fountains Southend. The Company placed the property under contract for a purchase price of $34.0 million in December 2012 while the property was early in the construction period. As a result of the strong leasing market in the Charlotte, North Carolina area and the compression in multi-family capitalization rates during construction and lease-up, the property appraised for $40.9 million at closing on September 24, 2013, resulting in the bargain purchase gain. There was no comparable gain recorded in the year ended December 31, 2012.

Loss from discontinued operations for the year ended December 31, 2013 was approximately $0.4 million, a decrease of $1.8 million for the year ended December 31, 2012. The decrease was driven by the fact the properties included in discontinued operations were sold during 2013; therefore, had smaller operating losses in 2013.

Gain on sale of discontinued operations for the year ended December 31, 2013 includes the sale of Fontaine Woods on March 1, 2013 (approximately $1.6 million), the sale of Oak Reserve on June 12, 2013 (approximately $0.5 million), the sale of Terrace of River Oaks on December 16, 2013 (approximately $3.2 million) and the sale of Beckanna on December 24, 2013 (approximately $1.5 million). The gain was partially offset by $0.1 million for payments from escrow during the second quarter of 2013 related to the sale of the Mill Creek property in the fourth quarter of 2012.

Loss allocated to noncontrolling interests for the above periods primarily represents primarily the noncontrolling interest in our Operating Partnership since the June 1, 2012 recapitalization. The loss allocated to noncontrolling interest as a percentage of net loss decreased significantly in the third quarter of 2013 due to dilution as a result of the initial public offering in May 2013.

Funds from Operations and Core FFO

Funds from operations ("FFO") is defined by the National Association of Real Estate Investment Trusts ("NAREIT"), as net income (computed in accordance with GAAP), excluding gains (losses) from sales of property (and impairment adjustments), plus depreciation and amortization, and after adjustments for unconsolidated partnerships and joint ventures. Our calculation of FFO is in accordance with the NAREIT definition.

Management considers FFO to be useful in evaluating potential property acquisitions and measuring operating performance. FFO does not represent net income or cash flows from operations as defined by GAAP. You should not consider FFO to be an alternative to net income as a reliable measure of our operating performance; nor should you consider FFO to be an alternative to cash flows from operating, investing or financing activities (as defined by GAAP) as measures of liquidity. Further, FFO as disclosed by other REITs might not be comparable to our calculation of FFO.

Management believes that the computation of FFO in accordance with NAREIT's definition includes certain items, such as prepayment penalties on early payment of debt, acquisition costs and costs relating to our recapitalization and certain non-cash items that are not indicative of the results provided by our operating portfolio and affect the comparability of our period-over-period performance with other multifamily REITs. Acquisition costs, prepayment penalties on early repayment of debt and severance costs are one-time, non-comparable charges. Straight-line adjustment for ground leases, gains/losses on extinguishment of debt, transaction costs related to acquisitions and reorganization, non-cash expense arising from the granting of restricted stock do not impact the operating performance of the Company's assets. Accordingly, management believes that it is helpful to investors to add back non-comparable and non-cash items to arrive at our Core FFO.

The following table sets forth a reconciliation of FFO and Core FFO for the periods presented to net income (loss) attributable to common stockholders, as computed in accordance with GAAP:

                                                         Years Ended December 31,
(in thousands)                                      2013           2012           2011

Net loss attributable to common stockholders     $   (5,611 )   $   (7,218 )   $   (3,421 )

Adjustments related to earnings per share
computation1                                         (9,475 )            -              -
Asset impairment loss                                10,572              -            373
Real estate depreciation and amortization -
continuing operations                                10,221          3,876          2,797
Real estate depreciation and amortization -
discontinued operations                                 405          2,968          1,765
Real estate depreciation and amortization -
unconsolidated joint venture                            337            313            428
Gain on bargain purchase                             (5,874 )            -              -
Gain on sale of discontinued operations              (5,691 )       (1,747 )            -

Funds from operations attributable to common
stockholders (4)                                     (5,116 )       (1,808 )        1,942

Acquisition and recapitalization costs                  782          1,869          1,677
Loss on early extinguishment of debt                  1,326            430              -
Provision for loan losses                                 -              -            536
Non-cash straight-line adjustment for ground
lease expenses                                          341            311             85
Non-cash portion of stock awards                      1,252              -              -
Non-cash accretion of preferred stock and
units                                                   651            376              -
Core funds from operations attributable to
common stockholders(4)                           $     (764 )   $    1,178     $    4,240

Per share data:
Funds from operations                            $    (0.57 )   $    (0.79 )   $    20.23
Core funds from operations                       $    (0.09 )   $     0.52     $    44.17

Weighted average common shares outstanding
(2)(3)                                                8,935          2,278             96

(1) See Notes B and G to Consolidated Financial Statements.

(2) Includes non-vested portion of restricted stock awards.

(3) Does not reflect the potential dilution of conversion of Class B contingent units into common units under certain circumstances. The outstanding Class B contingent units, which total approximately $21 million, can be converted into common units of our Operating Partnership only upon the sale or development and stabilization of four specified land assets. Accordingly, as the dates and per share values of these conversions cannot be determined, the effects of these conversions have not been reflected in the per share amounts. If the contingencies for all four land sites had been satisfied as of January 1, 2013, the Class B contingent units would have converted at a floor of $9.00 per share, which would have resulted in a total weighted average diluted shares and units outstanding of 11,278,811 for the year ended December 31, 2013.

(4) Individual line items included in the computations are net of noncontrolling interests and include results from discontinued operations where applicable.

Net Operating Income

We believe that net operating income ("NOI") is a useful measure of our operating performance. We define NOI as total property revenues less total property operating expenses, excluding depreciation and amortization as well as property management fees paid to third parties, as such fees were paid prior to the recapitalization on June 1, 2012 and will not be incurred in the future, as we are now self-administered and self-managed. Other REITs may use different methodologies for calculating NOI, and accordingly, our NOI may not be comparable to other REITs.

We believe that this measure provides an operating perspective not immediately apparent from GAAP operating income or net income. We use NOI to evaluate our performance on a same store and non-same store basis because NOI allows us to evaluate the operating performance of our properties as it measures the core operations of property performance by excluding corporate level expenses and other items not related to property operating performance and captures trends in . . .

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