UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2016

FOR THE TRANSITION PERIOD FROM ____________ TO ____________

COMMISSION FILE NUMBER: 000-55146

Inland Real Estate Income Trust, Inc.

(Exact name of registrant as specified in its charter)

 

 

630-218-8000

(Registrant’s telephone number, including area code)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to the filing requirements for the past 90 days.    Yes  ☒    No  ☐

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ☒   No  ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes  ☐    No  ☒

As of November 4, 2016, there were 88,169,966 shares of the registrant’s common stock, $.001 par value, outstanding.

 

 

 

 

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INLAND REAL ESTATE INCOME TRUST, INC.

TABLE OF CONTENTS

 

 

 

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INLAND REAL ESTATE INCOME TRUST, INC.

CONSOLIDATED BALANCE SHEETS

(Unaudited, dollar amounts in thousands, except per share amounts) 

 

 

 

See accompanying notes to consolidated financial statements.

 

 

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INLAND REAL ESTATE INCOME TRUST, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)

(Unaudited, dollar amounts in thousands, except per share amounts) 

 

 

 

See accompanying notes to consolidated financial statements.

 

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INLAND REAL ESTATE INCOME TRUST, INC.

CONSOLIDATED STATEMENT OF EQUITY

(Unaudited, dollar amounts in thousands) 

 

See accompanying notes to consolidated financial statements.

 

 

5

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INLAND REAL ESTATE INCOME TRUST, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited, dollar amounts in thousands)

 

See accompanying notes to consolidated financial statements.

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INLAND REAL ESTATE INCOME TRUST, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)

(Unaudited, dollar amounts in thousands) 

 

 

See accompanying notes to consolidated financial statements.

 

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INLAND REAL ESTATE INCOME TRUST, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2016

(Unaudited, dollar amounts in thousands, except per share amounts) 

The accompanying consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”) for interim financial information and with instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. Readers of this Quarterly Report should refer to the audited consolidated financial statements of Inland Real Estate Income Trust, Inc. (which may be referred to herein as the “Company,” “we,” “us,” or “our”) for the year ended December 31, 2015, which are included in the Company’s 2015 Annual Report, as certain footnote disclosures contained in such audited consolidated financial statements have been omitted from this Quarterly Report.

 

 

NOTE 1 – ORGANIZATION

Inland Real Estate Income Trust, Inc. was formed on August 24, 2011 to acquire and manage a portfolio of commercial real estate located in the United States. To date, the Company has focused on acquiring retail properties. The Company entered into a Business Management Agreement with IREIT Business Manager & Advisor, Inc. (the “Business Manager”), an affiliate of Inland Real Estate Investment Corporation (the “Sponsor”), to be the Business Manager to the Company.

The Company has qualified and elected to be taxed as a real estate investment trust for U.S. federal income tax purposes (“REIT”) under Sections 856 through 860 of the Internal Revenue Code of 1986, as amended, commencing with the tax year ended December 31, 2013. As a result, the Company generally will not be subject to federal income tax on taxable income that is distributed to stockholders. A REIT is subject to a number of organizational and operational requirements, including a requirement that it currently distributes at least 90% of its REIT taxable income (subject to certain adjustments and excluding any net capital gain) to its stockholders. The Company will monitor the business and transactions that may potentially impact its REIT status. If the Company fails to qualify as a REIT in any taxable year, without the benefit of certain relief provisions, the Company will be subject to federal (including any applicable alternative minimum tax) and state income tax on its taxable income at regular corporate tax rates. Even if the Company qualifies for taxation as a REIT, the Company may be subject to certain state and local taxes on its income, property or net worth and federal income and excise taxes on its undistributed income.

At September 30, 2016, the Company owned 56 retail properties, located in 23 states, and containing 6,345,537 square feet.  At September 30, 2016, the portfolio had a weighted average physical occupancy of 94.7% and economic occupancy of 95.3%. Economic occupancy excludes square footage that the Company owns but which is not occupied by a tenant and which is subject to an earnout component on the original purchase price.

 

 

NOTE 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Disclosures discussing all significant accounting policies are set forth in the Company’s Annual Report on Form 10-K for the year ended December 31, 2015, as filed with the Securities and Exchange Commission on March 15, 2016, under the heading Note 2 – “Summary of Significant Accounting Policies.” There have been no changes to the Company’s significant accounting policies during the nine months ended September 30, 2016, except as noted below.

 

Equity-Based Compensation

On June 16, 2016, the Company’s stockholders approved the Employee and Director Restricted Share Plan (the “RSP”). In accordance with the RSP, restricted shares and restricted share units are issued to non-employee directors as compensation. The Company recognizes expense related to the fair value of equity-based compensation awards as general and administrative expense in the consolidated statements of operations. The Company recognizes expense determined based on the fair value at the grant date on a straight-line basis over the vesting period representing the requisite service period. See Note 10 – "Equity-Based Compensation" for further information.

 

General

The accompanying consolidated financial statements have been prepared in accordance with U.S. GAAP and require management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting periods. In the opinion of management, all adjustments necessary for a fair statement, in all material respects, of the financial position and results of operations for the periods are presented. Actual results could differ from those estimates. The results of operations for the interim periods are not necessarily indicative of the results for the entire year.

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INLAND REAL ESTATE INCOME TRUST, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited, dollar amounts in thousands, except per share amounts)

 

In April 2015, the Financial Accounting Standards Board (the “FASB”) issued Accounting Standards Update (“ASU”) No. 2015-03, Simplifying the Presentation of Debt Issuance Costs, which requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. The Company adopted ASU No. 2015-03 for the nine months ended September 30, 2016. The unamortized debt issuance costs are now classified within mortgages and credit facility payable, net on the Company’s consolidated balance sheets. The Company applied ASU No. 2015-03 retrospectively to all prior periods presented.

Recent Accounting Pronouncements

 

In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230). The new guidance is intended to reduce diversity in practice in how certain transactions are classified in the statement of cash flows. The issues addressed in the new guidance include the cash flow classification of: debt prepayment and debt extinguishment costs, settlement of zero-coupon debt instruments, contingent consideration payments made after a business combination, proceeds from the settlement of insurance claims, proceeds from the settlement of corporate-owned life insurance policies, distributions received from equity method investments, beneficial interests in securitization transactions and separately identifiable cash flows and application of the predominance principle. The standard will be effective for fiscal years beginning after December 15, 2017, for public companies. The Company does not believe that ASU No. 2016-15 will have a material impact on its consolidated financial statements and related disclosures.

In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842). The new standard establishes a right-of-use (ROU) model that requires a lessee to record a ROU asset and a lease liability on the balance sheet for all leases with terms longer than 12 months. Leases will be classified as either finance or operating. This classification will determine whether lease expense is recognized based on an effective interest method or on a straight-line basis over the term of the lease. The new standard requires lessors to account for leases using an approach that is substantially equivalent to existing guidance for sales-type leases, direct financing leases and operating leases. ASU No. 2016-02 supersedes the previous leases standard, Leases (Topic 840). The new standard is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. A modified retrospective transition approach is required for lessees for capital and operating leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements, with certain practical expedients available. The Company is currently evaluating the impact of its pending adoption of the new standard on the Company’s consolidated financial statements.

In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers, which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. The ASU will replace most existing revenue recognition guidance in U.S. GAAP when it becomes effective, although it will not affect the accounting for rental related revenues. The new standard is effective for the Company on January 1, 2018. Early adoption is permitted but not prior to the original effective date of January 1, 2017. The standard permits the use of either the retrospective or cumulative effect transition method. The Company has begun to evaluate each of the revenue streams under the new model and the pattern of recognition is not expected to change significantly. The Company is evaluating the effect that ASU No. 2014-09 will have on its consolidated financial statements and related disclosures.

 

NOTE 3 – EQUITY

The Company was authorized to sell up to 150,000,000 shares of common stock at $10.00 each in an initial public “best efforts” offering (the “Offering”) which commenced on October 18, 2012 and concluded on October 16, 2015.  The Company issued 83,835,055 shares of common stock generating gross proceeds of $834,399 from the Offering.  As of September 30, 2016, there were 87,699,273 shares of common stock outstanding including 5,078,369 shares issued through the distribution reinvestment plan (“DRP”), and 1,214,151 shares repurchased through the share repurchase program (“SRP”).    

 

On April 7, 2016, the Company’s board of directors determined an estimated per share net asset value of the Company’s common stock of $9.02 as reported in the Company’s Form 8-K filed with the Securities and Exchange Commission on April 7, 2016.  

The Company provides the following programs to facilitate future investment in the Company’s shares and to provide limited liquidity for stockholders.

Distribution Reinvestment Plan

 

The Company provides existing stockholders with the option to purchase additional shares from the Company by automatically reinvesting distributions through the DRP, subject to certain share ownership restrictions. The Company does not pay any selling

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INLAND REAL ESTATE INCOME TRUST, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited, dollar amounts in thousands, except per share amounts)

 

commissions or a marketing contribution and due diligence expense allowance in connection with the DRP. Pursuant to the DRP, the price per share for shares of common stock purchased under the DRP is equal to the estimated value of a share, as determined by the Company’s board of directors and reported by the Company from time to time, until the shares become listed for trading, if a listing occurs, assuming that the DRP has not been terminated or suspended in connection with such listing. Shares were sold through the DRP at a price of $9.50 per share until April 7, 2016, when the Company reported an estimated per share net asset value of $9.02 per share. Accordingly, under the DRP, beginning with reinvestments made after April 7, 2016, and until the Company announces a new estimated per share net asset value, distributions may be reinvested for shares of the Company’s common stock at a price equal to $9.02 per share.

Distributions reinvested through the DRP were $20,920 and $14,116 for the nine months ended September 30, 2016 and 2015, respectively.

Share Repurchase Program

 

Under the SRP, the Company is authorized to purchase shares from stockholders who purchased their shares from the Company or received their shares through a non-cash transfer and who have held their shares for at least one year, if requested, if the Company chooses to repurchase them. Subject to funds being available, the Company will limit the number of shares repurchased during any calendar year to 5% of the number of shares outstanding on December 31^st of the previous calendar year. Funding for the SRP comes from proceeds the Company receives from the DRP. In the case of repurchases made upon the death of a stockholder or qualifying disability, as defined in the SRP, neither the one year holding period, the limit regarding funds available from the DRP nor the 5% limit applies. The SRP will immediately terminate if the Company’s shares become listed for trading on a national securities exchange. In addition, the Company’s board of directors, in its sole direction, may, at any time, amend, suspend or terminate the SRP.

Repurchases through the SRP were $7,057 and $2,510 for the nine months ended September 30, 2016 and 2015, respectively. At September 30, 2016 and December 31, 2015, the Company’s liability related to the SRP was $845 and $477, respectively, recorded in other liabilities on the consolidated balance sheets.

Employee and Director Restricted Share Plan

 

On March 21, 2016 the board of directors approved the RSP, which was subsequently approved by the Company’s stockholders at the annual stockholders’ meeting on June 16, 2016. The RSP gives the Company the ability to grant awards of restricted shares and restricted share units to directors, employees and officers of the Company and its affiliates as compensation.

 

Under the RSP, each non-employee director will receive an award of restricted shares effective on the date of each annual stockholders’ meeting in respect of a number of shares of common stock having a fair market value as of the date of grant equal to $10, or, in lieu thereof, restricted share units to the extent the non-employee director makes a timely deferral election in accordance with applicable law.  In accordance with the RSP, on June 16, 2016, 1,109 restricted shares or restricted share units, as applicable, were issued to each non-employee director. For further information, see Note 10 – “Equity-Based Compensation.”

 

NOTE 4 – ACQUISITIONS

2016 Acquisitions

 

 

During the nine months ended September 30, 2016, the Company acquired, through its wholly owned subsidiaries, the two properties listed above and financed a portion of these acquisitions by borrowing $43,680 in mortgage debt.

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INLAND REAL ESTATE INCOME TRUST, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited, dollar amounts in thousands, except per share amounts)

 

The Company recorded a decrease of $413 and incurred $1,071 during the three months ended September 30, 2016 and 2015, respectively, and incurred $421 and $5,941 during the nine months ended September 30, 2016 and 2015, respectively, of acquisition, dead deal and transaction related costs, including changes to initial assumptions related to deferred investment property acquisition obligations (See Note 9 – “Commitments and Contingencies”) that were recorded in acquisition related costs in the consolidated statements of operations and comprehensive income (loss) related to both closed and potential transactions. These costs include third party due diligence costs such as appraisals, environmental studies, and legal fees as well as acquisition fees and time and travel expense reimbursements to the Sponsor and its affiliates.

For properties acquired during the nine months ended September 30, 2016 the Company recorded revenue of $2,722 and property net income of $272, which excludes expensed acquisition related costs.

The following table presents certain additional information regarding the Company’s acquisitions during the nine months ended September 30, 2016. The amounts recognized for major assets acquired and liabilities assumed as of the acquisition date are as follows:

Pro Forma Disclosures

The following condensed pro forma consolidated financial statements for the three and nine months ended September 30, 2016 and 2015 include pro forma adjustments related to the acquisitions and financings during 2016 and 2015. The 2016 and 2015 acquisitions are presented assuming the acquisitions occurred on January 1, 2015 and January 1, 2014, respectively. Acquisition expenses for the three and nine months ended September 30, 2016 of $0 and $1,712, respectively, and for the three and nine months ended September 30, 2015 of $330 and $4,915, respectively, related to each acquisition have been excluded from these pro forma results as they are not expected to have a continuing impact.

 

The 2015 acquisitions consist of Shoppes at Lake Park, Plaza at Prairie Ridge, Green Tree Shopping Center, Eastside Junction, Fairgrounds Crossing, Prattville Town Center, Regal Court, Shops at Hawk Ridge, Walgreens Plaza, Whispering Ridge, Frisco Marketplace, White City, Treasure Valley, Yorkville Marketplace, Shoppes at Market Pointe, 2727 Iowa Street, Settlers Ridge, Milford Marketplace, Marketplace at El Paseo, Blossom Valley Plaza, Village at Burlington Creek, Oquirrh Mountain Marketplace and Marketplace at Tech Center. The 2016 acquisitions consist of Coastal North Town Center and Oquirrh Mountain Marketplace Phase II. Oquirrh Mountain Marketplace Phase II was newly constructed in 2016, and as such, property operations are not included in the table above.

The pro forma financial information above is neither necessarily indicative of what the actual results of operations of the Company would have been assuming acquisitions had been consummated at the beginning of the period, nor does it purport to represent the results of operations for future periods.

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INLAND REAL ESTATE INCOME TRUST, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited, dollar amounts in thousands, except per share amounts)

 

NOTE 5 – ACQUIRED INTANGIBLE ASSETS AND LIABILITIES

The following table summarizes the Company’s identified intangible assets and liabilities as of September 30, 2016 and December 31, 2015: 

 

 

As of September 30, 2016, the weighted average amortization periods for acquired in place lease, above market lease intangibles, below market lease intangibles and above market ground leases are 10, 13, 19 and 55 years, respectively.

The portion of the purchase price allocated to acquired above market lease value and acquired below market lease value is amortized on a straight-line basis over the term of the related lease as an adjustment to rental income. For below market lease values, the amortization period includes any renewal periods with fixed rate renewals. The acquired above market ground lease is amortized on a straight-line basis as an adjustment to property operating expense over the term of the lease and includes renewal periods. The portion of the purchase price allocated to acquired in place lease value is amortized on a straight-line basis over the acquired leases’ weighted average remaining term.

As of September 30, 2016, no amount has been allocated to customer relationship value.

Amortization pertaining to acquired in place lease value, above market ground lease, above market lease value and below market lease value is summarized below:

 

 

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INLAND REAL ESTATE INCOME TRUST, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited, dollar amounts in thousands, except per share amounts)

 

Estimated amortization of the respective intangible lease assets and liabilities as of September 30, 2016 for each of the five succeeding years and thereafter is as follows:  

 

 

 

NOTE 6 – DEBT AND DERIVATIVE INSTRUMENTS

 

As of September 30, 2016 and December 31, 2015, the Company had the following mortgages and credit facility payable:

 

 

The Company’s indebtedness bore interest at a weighted average interest rate of 3.54% per annum at September 30, 2016, which includes the effects of interest rate swaps. The Company estimates the fair value of its total debt by discounting the future cash flows of each instrument at rates currently offered for similar debt instruments of comparable maturities by the Company’s lenders using Level 3 inputs.  The carrying value of the Company’s debt excluding mortgage premium and unamortized debt issuance costs was $609,482 and $584,995 as of September 30, 2016 and December 31, 2015, respectively, and its estimated fair value was $612,280 and $587,437 as of September 30, 2016 and December 31, 2015, respectively.

As of September 30, 2016, scheduled principal payments and maturities on the Company’s debt were as follows:

 

 

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INLAND REAL ESTATE INCOME TRUST, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited, dollar amounts in thousands, except per share amounts)

 

Credit Facility Payable

On September 30, 2015, the Company entered into a credit agreement (“Credit Facility”) with KeyBanc Capital Markets Inc. for a $100,000 revolving Credit Facility. On January 21, 2016, the Company amended its Credit Facility to, among other matters, increase the aggregate commitment under the Credit Facility by $10,000 to $110,000. At September 30, 2016, available borrowings under the Credit Facility were $75,000. The Company has an accordion feature to increase available borrowings up to $400,000, subject to certain conditions.  The Credit Facility matures on September 30, 2019.  The Company has a one year extension option which it may exercise as long as there is no existing default, it is in compliance with all covenants and it pays an extension fee equal to 0.15% of the commitment amount being extended, as defined. The Company is in compliance with all financial covenants related to the Credit Facility.

 

Mortgages Payable

The mortgage loans require compliance with certain covenants, such as debt service ratios. As of September 30, 2016, the Company was current on all of the payments and other loan covenants. All of the Company’s mortgage loans are secured by first mortgages on the respective real estate assets. As of September 30, 2016, the weighted average years to maturity for the Company’s mortgages payable was approximately 5.5 years.  

Interest Rate Swap Agreements

The Company entered into interest rate swaps to fix certain of its floating LIBOR based debt under variable rate loans to a fixed rate to manage its risk exposure to interest rate fluctuations. The Company will generally match the maturity of the underlying variable rate debt with the maturity date on the interest swap.

The following table summarizes the Company’s interest rate swap contracts outstanding as of September 30, 2016.

 

 

(a)   Receive floating rate index based upon 1 month LIBOR. At September 30, 2016, the 1 month LIBOR was 0.53%.

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INLAND REAL ESTATE INCOME TRUST, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited, dollar amounts in thousands, except per share amounts)

 

The table below presents the fair value of the Company’s cash flow hedges as well as their classification on the consolidated balance sheets as of September 30, 2016 and December 31, 2015, respectively.

 

 

For derivative instruments that are designated and qualify as a cash flow hedge, the effective portion of the unrealized gain or loss on the derivative is reported as a component of comprehensive income (loss).  The ineffective portion of the change in fair value, if any, is recognized directly in earnings. The table below presents the effect of the Company’s derivative financial instruments on the consolidated statements of operations and comprehensive income (loss) for the three and nine months ended September 30, 2016 and 2015.

 

 

 

The amount that is expected to be reclassified from accumulated other comprehensive loss into income in the next twelve months is approximately $3,548.

 

 

NOTE 7 – DISTRIBUTIONS

The Company currently pays distributions based on daily record dates, payable in arrears the following month, equal to a daily amount of $0.0016439344 per share, which equates to $0.60 per share per year, based upon a 366-day year.  The table below presents the distributions paid and declared for the three and nine months ended September 30, 2016 and 2015.

 

 

 

NOTE 8 – EARNINGS (LOSS) PER SHARE

Basic earnings (loss) per share (“EPS”) are computed by dividing net income (loss) by the weighted average number of common shares outstanding for the period (the “common shares”). Diluted EPS is computed by dividing net income (loss) by the common shares plus potential common shares issuable upon exercising options or other contracts. The Company excludes antidilutive restricted shares and units from the calculation of weighted-average shares for diluted EPS.  As a result of a net loss in the three and nine months ended September 30, 2016, 2,669 shares were excluded from the computation of diluted EPS, because they would have been antidilutive.

 

 

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INLAND REAL ESTATE INCOME TRUST, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited, dollar amounts in thousands, except per share amounts)

 

NOTE 9 – COMMITMENTS AND CONTINGENCIES

The acquisition of certain of the Company’s properties included an earnout component to the purchase price that was recorded as a deferred investment property acquisition obligation (“Earnout liability”). The maximum potential earnout payment was $13,133 at September 30, 2016.

The table below presents the change in the Company’s Earnout liability for the nine months ended September 30, 2016 and 2015.

 

 

The Company may be subject, from time to time, to various legal proceedings and claims that arise in the ordinary course of business. The resolution of these matters cannot be predicted with certainty, but management believes, based on currently available information, that the final outcome of such matters will not have a material adverse effect on the consolidated financial statements of the Company.

 

NOTE 10 – EQUITY-BASED COMPENSATION

In accordance with the RSP, restricted shares and restricted share units were issued to non-employee directors as compensation. Each restricted share and restricted share unit entitle the holder to receive one common share when it vests.

Under the RSP, restricted shares and restricted share units generally vest over a one to three year vesting period from the date of the grant, subject to the specific terms of the grant. Restricted shares and restricted share units are included in common stock outstanding on the date of vesting. The grant-date value of the restricted shares and restricted share units are amortized over the vesting period representing the requisite service period. Compensation expense associated with the restricted shares and restricted share units issued to the non-employee directors was $6 and $8, in the aggregate, for the three and nine months ended September 30, 2016, respectively. As of September 30, 2016, the Company had $32 of unrecognized compensation cost related to the unvested restricted shares and restricted share units, in the aggregate. The weighted average remaining period that compensation expense related to non-vested restricted shares and restricted share units will be recognized is 1.76 years.

Summary tables of the status of the restricted shares are presented below:

 

 

 

 

NOTE 11 – SEGMENT REPORTING

The Company has one reportable segment as defined by U.S. GAAP, retail real estate, for the nine months ended September 30, 2016 and 2015.

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INLAND REAL ESTATE INCOME TRUST, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited, dollar amounts in thousands, except per share amounts)

 

 

 

 

NOTE 12 – TRANSACTIONS WITH RELATED PARTIES

The Company is a member of a limited liability company formed as an insurance association captive (“Captive”), which is owned by the Company, IRC Retail Centers LLC (“IRC”), InvenTrust Properties Corp. (“InvenTrust”) and Retail Properties of America, Inc. (“RPAI”). The Company recorded its investment in investment in unconsolidated entity in the accompanying consolidated balance sheets. The Company’s share of net income from its investment is based on the ratio of each member’s premium contribution to the venture. The Company was allocated a loss of $100 and income of $193 for the three months and nine months ended September 30, 2016, respectively, and a loss of $13 and $118 for the three months and nine months ended September 30, 2015, respectively.

On February 29, 2016, the Captive was notified by IRC of its intent to dissociate and on March 30, 2016 terminated its participation. Previously, InvenTrust and RPAI terminated their future participation effective December 1, 2015 and December 1, 2014, respectively. Based upon this notice and regulatory requirements, the Captive terminated its operations in accordance with the applicable rules and regulations for an insurance association captive. As a result, the Company obtained separate property and general liability insurance once the Captive was unable to provide the Company coverage. The Captive submitted a formal plan to the state insurance regulator to wind up its business affairs.  As part of the approved plan, the Company’s exposure for potential claims would be commuted, as of a certain date, to the respective insurance carriers, a majority of which has been executed and approved by the insurance regulator. This would result in the elimination of a majority of any future financial exposure related to losses for the periods covered by the Captive. As of September 30, 2016, the insurance regulator approved the Captive commutation plan of certain policies back to the respective insurance carriers.  The Captive continues to work with its members with the goal of concluding its affairs as soon as possible. However, there can be no assurance the remaining commutation plan will be approved by the insurance regulator and subsequently all existing and potential future claims will be commuted to the respective insurance carriers. As of the date of this report, the Company is unable to determine if it will be liable for any proportional cost associated with the termination of the Captive.

 

The Company owns 1,000 shares of common stock in The Inland Real Estate Group of Companies, Inc. with a recorded value of $1 at September 30, 2016 and December 31, 2015. This amount is included in other assets in the accompanying consolidated balance sheets.

 

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INLAND REAL ESTATE INCOME TRUST, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited, dollar amounts in thousands, except per share amounts)

 

The following table summarizes the Company’s related party transactions for the three and nine months ended September 30, 2016 and 2015. Certain compensation and fees payable to the Business Manager for services provided to the Company are limited to maximum amounts.

 

 

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INLAND REAL ESTATE INCOME TRUST, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited, dollar amounts in thousands, except per share amounts)

 

 

 

NOTE 13 – OPERATING LEASES

Minimum lease payments to be received under operating leases, including ground leases, as of September 30, 2016 for the years indicated are as follows:

 

 

The remaining lease terms range from less than 1 year to 21 years. Most of the revenue from the Company’s properties consists of rents received under long-term operating leases. Most leases require the tenant to pay fixed base rent paid monthly in advance, and to

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INLAND REAL ESTATE INCOME TRUST, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(Unaudited, dollar amounts in thousands, except per share amounts)

 

reimburse the Company for the tenant’s pro rata share of certain operating expenses including real estate taxes, special assessments, insurance, utilities, common area maintenance, management fees, and certain building repairs paid by the Company and recoverable under the terms of the lease. Under these leases, the Company pays all expenses and is reimbursed by the tenant for the tenant’s pro rata share of recoverable expenses paid.

Certain other tenants are subject to net leases which provide that the tenant is responsible for fixed base rent as well as all costs and expenses associated with occupancy. Under net leases where all costs and expenses are paid directly by the tenant rather than the landlord, the costs and expenses are not included in the consolidated statements of operations and comprehensive income (loss). Under leases where all costs and expenses are paid by the Company, subject to reimbursement by the tenant, the costs and expenses are included within property operating expenses and reimbursements are included in tenant recovery income on the consolidated statements of operations and comprehensive income (loss).

 

 

NOTE 14 – SUBSEQUENT EVENTS

The Company’s board of directors declared monthly distributions payable to stockholders of record each day beginning on the close of business on October 1, 2016 through the close of business on December 31, 2016. Through December 31, 2016 distributions were declared in a daily amount equal to $0.001639344 per share, which equates to $0.60 per share per year, based upon a 366-day year. Distributions were paid monthly in arrears as follows:

 

 

Effective November 9, 2016, the Company adopted the Inland Real Estate Income Trust, Inc. Director Deferred Compensation Plan (the “Director Deferred Compensation Plan”) approved by the board of directors that provides a deferred compensation arrangement to the Company’s independent directors and their beneficiaries. Pursuant to the Director Deferred Compensation Plan, the Company’s independent directors will have the opportunity in 2016 to make deferral elections with respect to their compensation for 2017 and future years.

 

 

 

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Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations

Certain statements in this Quarterly Report on Form 10-Q constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Words such as “may,” “could,” “should,” “expect,” “intend,” “plan,” “goal,” “seek,” “anticipate,” “believe,” “estimate,” “predict,” “variables,” “potential,” “continue,” “expand,” “maintain,” “create,” “strategies,” “likely,” “will,” “would” and variations of these terms and similar expressions, or the negative of these terms or similar expressions, are intended to identify forward-looking statements.

These forward-looking statements are not historical facts but reflect the intent, belief or current expectations of the management of Inland Real Estate Income Trust, Inc. (which we refer to herein as the “Company,” “we,” “our” or “us”) based on their knowledge and understanding of the business and industry, the economy and other future conditions. These statements are not guarantees of future performance, and we caution stockholders not to place undue reliance on forward-looking statements. Actual results may differ materially from those expressed or forecasted in the forward-looking statements due to a variety of risks, uncertainties and other factors, including but not limited to the factors listed and described under “Risk Factors” in this Quarterly Report on Form 10-Q and in our Annual Report on Form 10-K for the year ended December 31, 2015, as filed with the Securities and Exchange Commission on March 15, 2016, and factors described below:

Forward-looking statements in this Quarterly Report on Form 10-Q reflect our management’s view only as of the date of this Quarterly Report, and may ultimately prove to be incorrect or false. 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. We intend for these forward-looking statements to be covered by the applicable safe harbor provisions created by Section 27A of the Securities Act and Section 21E of the Exchange Act.

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The following discussion and analysis relates to the three and nine months ended September 30, 2016 and 2015 and as of September 30, 2016 and December 31, 2015. You should read the following discussion and analysis along with our consolidated financial statements and the related notes included in this report.

Overview

We are principally engaged in owning retail properties throughout the United States. At September 30, 2016, we had total assets of approximately $1.4 billion and owned 56 properties located in 23 states containing approximately 6.3 million square feet.  A majority of our properties are multi-tenant, necessity-based retail shopping centers primarily located in major regional markets and growing secondary markets throughout the United States. The portfolio properties generally have occupancy rates above 90% with staggered lease maturity dates and anchor tenants with strong credit ratings.

We were formed as a Maryland corporation on August 24, 2011 and elected to be taxed as a real estate investment trust for U.S. federal income tax purposes (“REIT”) under Sections 856 through 860 of the Internal Revenue Code of 1986, as amended, commencing with the year ended December 31, 2013.  We are managed by our business manager, IREIT Business Manager & Advisor, Inc., referred to herein as our “Business Manager.”

We concluded our Offering in October 2015. Using available resources, including the DRP and additional financing proceeds, our team is committed to identifying acquisition opportunities that meet our investment strategy and that offer growth potential for our stockholders, namely quality, necessity-based retail centers in markets with projected rent growth. Based upon the growth of our portfolio over the past several years, we anticipate overall property operating performance to continue to increase in 2016 due to the increased number of retail properties owned and future acquisitions.

Outlook

We continue to seek real estate investment properties. However, so far in 2016, acquisition activity for grocery-anchored necessity-based retail has slowed considerably compared to the supply available in 2015, while competition for these property types has intensified. We believe that the current competitive market for acquisition opportunities presents a challenge in 2016 compared to 2015. Our Business Manager and Inland Real Estate Acquisitions, Inc. (“IREA”) are working diligently to find the types of properties that meet our investment strategy, and that offer the best growth potential.

The amount paid for real estate assets is generally influenced by, among other things, market interest rates. However, the movements are not simultaneous and pricing generally lags behind interest rate adjustments for a period of time. Because part of our business strategy is to utilize debt to finance a portion of our real estate assets, we may be challenged in finding appropriately priced real estate assets in the event of a rising interest rate environment.

SELECT PROPERTY INFORMATION (All dollar amounts in thousands, except per square foot amounts)

Investment Properties

 

 

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The table below presents information for each of our investment properties as of September 30, 2016.

 

 

 

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Tenancy Highlights

The following table presents information regarding the top ten tenants in our portfolio based on annualized base rent for leases in place as of September 30, 2016.

 

 

The following table sets forth a summary of our tenant diversity for our entire portfolio and is based on leases in place at September 30, 2016.

 

 

The following table sets forth a summary, as of September 30, 2016, of the percent of total annualized base rent and the weighted average lease expiration by size of tenant.

 

 

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Lease Expirations

The following table sets forth a summary, as of September 30, 2016, of lease expirations scheduled to occur during the remainder of 2016 and each of the calendar years from 2017 to 2025 and thereafter, assuming no exercise of renewal options or early termination rights for leases commenced on or prior to September 30, 2016. The table below includes ground leases. If ground leases are excluded, annualized base rent would equal $17.95 per square foot for total expiring leases.

 

 

LIQUIDITY AND CAPITAL RESOURCES

General

Our principal demand for funds is to acquire real estate assets, to pay operating expenses, to pay interest on our outstanding indebtedness, to pay distributions to our stockholders and to fund our share repurchase program (“SRP”). The SRP is designed to provide existing stockholders with limited interim liquidity by enabling them to sell shares back to us subject to certain restrictions. For the nine months ended September 30, 2016 and 2015, we paid $6.7 million and $2.5 million, respectively, under our SRP which was funded by our DRP. On April 7, 2016, we reported an estimated per share net asset value (“Estimated Per Share NAV”) of $9.02. Pursuant to the SRP, we may repurchase shares at prices ranging from 92.5% of the “share price” for stockholders who have owned shares for at least one year to 100% of the “share price” for stockholders who have owned shares for at least four years. For repurchases sought upon a stockholder’s death or qualifying disability, we may repurchase shares at a price equal to 100% of the “share price”. As used in the SRP, “share price” means: (1) prior to the date we report an estimated value of our shares, the offering price of our shares in our Offering (unless the shares were purchased at a discount from that price, and then that purchase price), reduced by any distributions of net sale proceeds that we designate as constituting a return of capital; and (2) on and after such date as we report an estimated value of our shares, the lesser of: (A) the share price determined in (1); or (B) the most recently disclosed estimated value per share. Accordingly, under the SRP, beginning with repurchases after April 7, 2016, and until we announce a new Estimated Per Share NAV, the “share price” will be equal to $9.02 per share.

We generally seek to fund our cash needs for items other than asset acquisitions from operations. Our cash needs for acquisitions have historically been funded primarily from the sale of our shares, including those offered for sale through our DRP, as well as debt financings, including borrowings on our Credit Facility. Our Offering concluded on October 16, 2015. Potential future sources of liquidity include property operations, proceeds raised through our DRP, proceeds from secured or unsecured financings including draws on our Credit Facility, and proceeds from the sale of assets, if any. Our Business Manager and IREA evaluate potential acquisitions and engage in negotiations with sellers and lenders on our behalf. Pending investment in real estate assets, we invest a portion of our cash in investments that yield lower returns than those earned on real estate assets.

We entered into a credit agreement, as amended, with KeyBanc Capital Markets Inc. for a $110 million revolving Credit Facility. The credit agreement provides us with the ability from time to time to increase the size of the Credit Facility, subject to certain conditions. Our performance of the obligations under the credit agreement, including the payment of any outstanding indebtedness, is secured by a minimum pool of five unencumbered properties with an unencumbered pool value of $110 million or above and by a guaranty by certain of our subsidiaries. As of September 30, 2016, we had borrowed $35 million of the $110 million available.

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As of September 30, 2016, we had total debt outstanding of approximately $609.5 million, excluding mortgage premiums and unamortized debt issuance costs, which bore interest at a weighted average interest rate of 3.54% per annum.  As of September 30, 2016 and December 31, 2015, our borrowings were 46% and 47%, respectively, of the purchase price of our properties. The following is a summary of our debt maturities by year. (Dollar amounts in thousands)

 

 

Cash Flow Analysis

 

 

Cash provided by operating activities increased $11.1 million to $30.2 million during the nine months ended September 30, 2016 from $19.1 million during the nine months ended September 30, 2015. The increase is due to the acquisition of 9 properties in our real estate portfolio and the timing of our receivables and payables.

Cash used in investing activities decreased $276.1 million to $86.6 million during the nine months ended September 30, 2016 from $362.7 million during the nine months ended September 30, 2015.  The decrease was primarily attributable to:

Cash used in financing activities decreased to $11.2 million during the nine months ended September 30, 2016 from cash provided by financing activities of $491.2 million during the nine months ended September 30, 2015.  The decrease was primarily attributable to:

 

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A summary of the distributions declared, distributions paid and cash flows provided by operations for the nine months ended September 30, 2016 and 2015 follows (Dollar amounts in thousands except per share amounts):

 

 

Results of Operations

The following discussions are based on our consolidated financial statements for the three and nine months ended September 30, 2016 and 2015. Dollar amounts are stated in thousands.

These sections describe and compare our results of operations for the three and nine months ended September 30, 2016 and 2015. We generate almost all of our net operating income from property operations. In order to evaluate our overall portfolio, management analyzes the net operating income of properties that we have owned and operated for both periods presented, in their entirety, referred to herein as “same store” properties. By evaluating the property net operating income of our “same store” properties, management is able to monitor the operations of our existing properties for comparable periods to measure the performance of our current portfolio and determine the effects of our new acquisitions on net income.

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Comparison of the three months ended September 30, 2016 and 2015

A total of 46 investment properties were acquired on or before July 1, 2015 and represent our “same store” properties during the three months ended September 30, 2016 and 2015.  “Non-same store,” as reflected in the table below, consists of properties acquired after July 1, 2015. For the three months ended September 30, 2016, 10 properties constituted non-same store properties and for the three months ended September 30, 2015, 1 property is considered a non-same store property. The following table presents the property net operating income broken out between same store and non-same store, prior to straight-line income, net, amortization of intangibles, interest, and depreciation and amortization for the three months ended September 30, 2016 and 2015, along with a reconciliation to net loss, calculated in accordance with U.S. GAAP.

 

 

Net loss.  Net loss was $961 and $262 for the three months ended September 30, 2016 and 2015, respectively.

 

Total property net operating income.  On a “same store” basis, comparing the results of operations of investment properties owned during the three months ended September 30, 2016, with the results of the same investment properties owned during the three months ended September 30, 2015, property net operating income decreased $205, total property income decreased $295, and total property operating expenses including real estate tax expense decreased $90.

The decrease in “same store” total property income is primarily due to a decrease in occupancy and associated tenant recovery income at certain properties.

The decrease in “same store” total property operating expenses is primarily due to a net decrease in real estate tax expense during 2016 as compared to 2015.

 

“Non-same store” total property net operating income increased $7,429 during 2016 as compared to 2015. The increase is a result of acquiring 10 additional retail properties after July 1, 2015. On a “non-same store” basis, total property income increased $10,981 and total property operating expenses increased $3,552 during the three months ended September 30, 2016 as a result of these acquisitions.

Straight-line income, net. Straight-line rent income increased $42 in 2016 compared to 2015. This increase is due to the acquisition of additional investment properties in 2015 and 2016.

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Intangible amortization.  Intangible amortization income increased $246 in 2016 compared to 2015. The increase is primarily attributable to changes in intangible assets and liabilities due to acquisitions in 2015 and 2016.

General and Administrative expenses.  General and administrative expenses increased $331 in 2016 compared to 2015.  This increase is primarily due to the growth in our real estate portfolio.

Acquisition related costs.  Acquisition related expenses decreased $1,484 in 2016 compared to 2015. The decrease is attributed to fewer acquisitions in 2016 and adjustments in deferred investment property acquisition obligations. These expenses include acquisition, dead deal and transaction related costs and relate to both closed and potential transactions. These costs include third party due diligence costs such as appraisals, environmental studies, and legal fees as well as acquisition fees and time and travel expense reimbursements to the Sponsor and its affiliates.

Business management fee. Business management fees increased $829 in 2016 compared to 2015. The increase is due to the acquisition of real estate properties.

Depreciation and Amortization.  Depreciation and amortization increased $5,441 in 2016, as compared to 2015. This increase is due to the acquisition of retail properties after July 1, 2015.

Interest Expense.  Interest expense increased $2,964 in 2016 compared to 2015. The increase is primarily due to additional financing of properties after July 1, 2015 and amounts drawn under the Credit Facility.

Interest and other income.  Interest and other income decreased $43.  The decrease is primarily due to lower interest earned as a result of lower cash balances in 2016 compared to 2015.

Equity in loss of unconsolidated entity.  Equity in loss of unconsolidated entity increased $87 due to the performance of the Captive.

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Comparison of the nine months ended September 30, 2016 and 2015

A total of 31 investment properties were acquired on or before January 1, 2015 and represent our “same store” properties during the nine months ended September 30, 2016 and 2015.  “Non-same store,” as reflected in the table below, consists of properties acquired after January 1, 2015. For the nine months ended September 30, 2016, 25 properties constituted non-same store properties and for the nine months ended September 30, 2015, 16 properties are considered non-same store properties. The following table presents the property net operating income broken out between same store and non-same store, prior to straight-line income, net, amortization of intangibles, interest, and depreciation and amortization for the nine months ended September 30, 2016 and 2015, along with a reconciliation to net loss, calculated in accordance with U.S. GAAP.

 

Net loss.  Net loss was $7,502 and $4,385 for the nine months ended September 30, 2016 and 2015, respectively.

 

Total property net operating income.  On a “same store” basis, comparing the results of operations of investment properties owned during the full nine months ended September 30, 2016, with the results of the same investment properties owned during the full nine months ended September 30, 2015, property net operating income increased $415, total property income increased $448, and total property operating expenses including real estate tax expense increased $33.

The decrease in “same store” rental income is due to a decrease in occupancy in 2016 compared to 2015.  The increase in other property income is primarily due to termination fee income collected in 2016. Additionally, tenant recovery income increased as a result of real estate tax expense increasing over this same period.  

The increase in “same store” total property operating expenses is primarily due to an increase in real estate tax expense during 2016 as compared to 2015.

 

“Non-same store” total property net operating income increased $26,323 during 2016 as compared to 2015. The increase is a result of acquiring additional retail properties after January 1, 2015. On a “non-same store” basis, total property income increased $39,346 and total property operating expenses increased $13,023 during the year to date ended September 30, 2016 as a result of these acquisitions.

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Straight-line income, net. Straight-line rent income increased $505 in 2016 compared to 2015. This increase is due to purchases of investment properties in 2015 and 2016.

Intangible amortization.  Intangible amortization income increased $27 in 2016 compared to 2015. The increase is primarily attributable to changes in intangible assets and liabilities due to acquisitions in 2016.

General and Administrative expenses.  General and administrative expenses increased $1,289 in 2016 compared to 2015.  This increase is primarily due to the growth in our real estate portfolio.

Acquisition related costs.  Acquisition related expenses decreased $5,520 in 2016 compared to 2015. The decrease is attributed to fewer acquisitions in 2016 and adjustments to deferred investment property acquisition obligations in 2016 compared to 2015.  These expenses include acquisition, dead deal and transaction related costs and relate to both closed and potential transactions. These costs include third party due diligence costs such as appraisals, environmental studies, and legal fees as well as acquisition fees and time and travel expense reimbursements to the Sponsor and its affiliates.

Business management fee. Business management fees increased $2,870 in 2016 compared to 2015. The increase is due to the acquisition of real estate properties.

Depreciation and Amortization.  Depreciation and amortization increased $22,542 in 2016, as compared to 2015. This increase is due to the acquisition of additional retail properties after January 1, 2015.

Interest Expense.  Interest expense increased $9,712 in 2016 compared to 2015. The increase is primarily due to additional financing of properties after January 1, 2015 and amounts drawn under the Credit Facility.

Interest and other income.  Interest and other income increased $195.  The increase is primarily due to settlement income in 2016.

Equity in earnings (loss) of unconsolidated entity.  Income of equity in earnings (loss) of unconsolidated entity increased $311 due to the performance of the Captive.

Critical Accounting Policies

Disclosures discussing all critical accounting policies are set forth in our Annual Report on Form 10-K for the year ended December 31, 2015, as filed with the Securities and Exchange Commission on March 15, 2016, under the heading “Critical Accounting Policies.” There have been no changes to our critical accounting policies during the nine months ended September 30, 2016.

 

Off-Balance Sheet Arrangements

We currently have no off-balance sheet arrangements that are reasonably likely to have a material current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.

Non-GAAP Financial Measures

Accounting for real estate assets in accordance with U.S. GAAP assumes the value of real estate assets is reduced over time. Because real estate values may rise and fall with market conditions, operating results from real estate companies that use U.S. GAAP accounting may not present a complete view of their performance. We use Funds from Operations, or FFO, a widely accepted metric to evaluate our performance. FFO provides a supplemental measure to compare our performance and operations to other REITs. Due to certain unique operating characteristics of real estate companies, the National Association of Real Estate Investment Trusts, or NAREIT, has promulgated a standard known as FFO, which it believes more accurately reflects the operating performance of a REIT. As defined by NAREIT, FFO means net income computed in accordance with U.S. GAAP, excluding gains (or losses) from sales of operating property, plus depreciation and amortization and after adjustments for unconsolidated entities in which the REIT holds an interest. In addition, NAREIT has further clarified the FFO definition to add-back impairment write-downs of depreciable real estate or of investments in unconsolidated entities that are driven by measurable decreases in the fair value of depreciable real estate. We have adopted the NAREIT definition for computing FFO.

Under U.S. GAAP, acquisition related costs are treated as operating expenses reducing our income. Publicly registered, non-listed REITs typically engage in a significant amount of acquisition activity in the early years of their operations, and thus incur significant acquisition related costs, during these initial years. Although other start up entities may engage in significant acquisition activity during their initial years, REITs such as us that are not listed on an exchange are unique in that they typically have a limited timeframe during which they acquire a significant number of properties and thus incur significant acquisition related costs. Due to the above

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factors and other unique features of publicly registered, non-listed REITs, the Investment Program Association, or “IPA,” an industry trade group, published a standardized measure known as Modified Funds from Operations, or “MFFO”, which the IPA has promulgated as a supplemental measure for publicly registered non-listed REITs and which may be another appropriate supplemental measure to reflect the operating performance of a non-listed REIT.

MFFO excludes costs associated with investing activities, some of which are acquisition related costs that affect our operations only in periods in which properties are acquired, and other non-operating items that are included in FFO. By excluding acquisition related costs, the use of MFFO provides another measure of our operating performance. Because MFFO may be a recognized measure of operating performance within the non-listed REIT industry, MFFO and the adjustments used to calculate it may be useful in order to evaluate our performance against other non-listed REITs. Like FFO, MFFO is not equivalent to our net income or loss as determined under U.S. GAAP, as detailed in the table below, and MFFO may not be a useful measure of the impact of long-term operating performance on value if we continue to acquire a significant amount of properties. MFFO should only be used as a measurement of our operating performance while we are acquiring a significant amount of properties because it excludes, among other things, acquisition costs incurred during the periods in which properties were acquired.

We believe our definition of MFFO, a non-U.S. GAAP measure, is consistent with the IPA’s Guideline 2010-01, Supplemental Performance Measure for Publicly Registered, Non-Listed REITs: Modified Funds from Operations, or the “Practice Guideline,” issued by the IPA in November 2010. The Practice Guideline defines MFFO as FFO further adjusted for the following items, as applicable, included in the determination of U.S. GAAP net income: acquisition fees and expenses; amounts relating to straight-line rents and amortization of above and below market lease assets and liabilities, accretion of discounts and amortization of premiums on debt investments; mark-to-market adjustments included in net income; nonrecurring gains or losses included in net income from the extinguishment or sale of debt, hedges, foreign exchange, derivatives or securities holdings where trading of such holdings is not a fundamental attribute of the business plan, unrealized gains or losses resulting from consolidation from, or deconsolidation to, equity accounting, and after adjustments for consolidated and unconsolidated partnerships and joint ventures, with such adjustments calculated to reflect MFFO on the same basis.

Our presentation of FFO and MFFO may not be comparable to other similarly titled measures presented by other REITs. We believe that the use of FFO and MFFO provides a more complete understanding of our operating performance to stockholders and to management, and when compared year over year, reflects the impact on our operations from trends in occupancy rates, rental rates, operating costs, general and administrative expenses, and interest costs. Neither FFO nor MFFO is intended to be an alternative to “net income” or to “cash flows from operating activities” as determined by U.S. GAAP as a measure of our capacity to pay distributions. Management uses FFO and MFFO to compare our operating performance to that of other REITs and to assess our operating performance.

Our FFO and MFFO for the nine months ended September 30, 2016 and 2015 are calculated as follows:

 

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Subsequent Events

(Dollar amounts in thousands, except per share amounts)

Our board of directors declared monthly distributions payable to stockholders of record each day beginning on the close of business on October 1, 2016 through the close of business on December 31, 2016. Through December 31, 2016, distributions were declared in a daily amount equal to $0.001639344 per share, which equates to $0.60 per share per year, based upon a 366-day year.  Distributions were paid monthly in arrears, as follows:

 

 

Effective November 9, 2016, we adopted the Inland Real Estate Income Trust, Inc. Director Deferred Compensation Plan (the “Director Deferred Compensation Plan”) approved by our board of directors that provides a deferred compensation arrangement to our independent directors and their beneficiaries. Pursuant to the Director Deferred Compensation Plan, our independent directors will have the opportunity in 2016 to make deferral elections with respect to their compensation for 2017 and future years.

Item 3.  Quantitative and Qualitative Disclosures About Market Risk

Market Risk

We are exposed to various market risks, including those caused by changes in interest rates and commodity prices. Market risk is the potential loss arising from adverse changes in market rates and prices, such as interest rates and commodity prices. We do not enter into derivatives or other financial instruments for trading or speculative purposes. We have entered into, and may continue to enter into, financial instruments to manage and reduce the impact of changes in interest rates. We may also enter into financial instruments to manage and reduce the impact of changes in commodity prices. The counterparties are, and are expected to continue to be, major financial institutions.

Interest Rate Risk

We are exposed to interest rate changes primarily as a result of long-term debt used to purchase properties or other real estate assets and to fund capital expenditures.

As of September 30, 2016, we had outstanding debt of approximately $609.5 million, excluding mortgage premium and unamortized debt issuance costs, bearing interest rates ranging from 2.08% to 5.95% per annum. The weighted average interest rate was 3.54%, which includes the effect of interest rate swaps. At September 30, 2016, we had $76.6 million or 12.6% bearing interest at variable rates with a weighted average interest rate equal to 2.21% per annum. We had variable rate debt subject to swap agreements of $354.5 million or 58.1% of our total debt at September 30, 2016. As of September 30, 2016, the weighted average years to maturity for our mortgages payable was approximately 5.5 years.

If interest rates on all debt which bears interest at variable rates as of September 30, 2016 increased by 1% (100 basis points), the increase in interest expense on all debt would decrease earnings and cash flows by approximately $0.8 million annually. If interest rates on all debt which bears interest at variable rates as of September 30, 2016 decreased by 1% (100 basis points), the decrease in interest expense would increase earnings and cash flows by the same amount.

We use derivative financial instruments to hedge exposures to changes in interest rates on loans secured by our assets. Derivative instruments may include interest rate swap contracts, interest rate cap or floor contracts, futures or forward contracts, options or repurchase agreements. Our actual hedging decisions are determined in light of the facts and circumstances existing at the time of the hedge. We have used derivative financial instruments, specifically interest rate swap contracts, to hedge against interest rate fluctuations on variable rate debt, which exposes us to both credit risk and market risk. Credit risk is the failure of the counterparty to perform under the terms of the derivative contract. If the fair value of a derivative contract is positive, the counterparty will owe us, which creates credit risk for us because the counterparty may not perform. Market risk is the adverse effect on the value of a financial instrument that results from a change in interest rates. We seek to manage the market risk associated with interest-rate contracts by establishing and monitoring parameters that limit the types and degree of market risk that may be undertaken. There is no assurance we will be successful.

With regard to variable rate financing, our Business Manager assesses our interest rate cash flow risk by continually identifying and monitoring changes in interest rate exposures that may adversely impact expected future cash flows and by evaluating hedging

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opportunities. Our Business Manager maintains risk management control systems to monitor interest rate cash flow risk attributable to both of our outstanding or forecasted debt obligations as well as our potential offsetting hedge positions.

With regard to fixed rate financing, interest rate fluctuations generally affect the fair value of debt and net asset value per share, but not our earnings or cash flows. Therefore, interest rate risk does not have a significant impact on our fixed rate debt obligations until their maturity or earlier prepayment.

Derivatives

We entered into interest rate swaps to fix certain of our floating LIBOR based debt under variable rate loans to a fixed rate to manage our risk exposure to interest rate fluctuations. We will generally match the maturity of the underlying variable rate debt with the maturity date on the interest swap.

The following table summarizes our interest rate swap contracts outstanding as of September 30, 2016:

 

(Dollar amounts in thousands)

 

(b)  On August 29, 2016 we entered into a new interest rate swap contract for the same notional amount effective upon expiration of the existing contract.  

Item 4.  Controls and Procedures

Controls and Procedures

Our management has evaluated, with the participation of our principal executive and principal financial officers, the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the period covered by this report. Based on that evaluation, the principal executive and principal financial officers have concluded that our disclosure controls and procedures were effective as of the end of the period covered by this report.

Changes in Internal Control over Financial Reporting

There were no changes to our internal control over financial reporting (as defined in Exchange Act Rule 13a-15(f) or Rule 15d-15(f)) during the nine months ended September 30, 2016 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

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Part II - Other Information

Item 1.  Legal Proceedings

We are not a party to, and none of our properties are subject to, any material pending legal proceedings.

Item 1A.  Risk Factors

The following risk factors supplement the risk factors set forth in our Annual Report on Form 10-K for the year ended December 31, 2015.

We have incurred net losses on a U.S. GAAP basis for the quarterly period ended September 30, 2016.

We have incurred a net loss on a U.S. GAAP basis for the three and nine months ended September 30, 2016 of $1.0 million and $7.5 million, respectively. Our losses can be attributed, in part, to property operating expenses, interest expense, acquisition related expenses and depreciation and amortization. We may incur net losses in the future, which could have a material adverse impact on our financial condition, operations, cash flow, and our ability to service our indebtedness and pay distributions to our stockholders. We are subject to all of the business risks and uncertainties associated with any business, including the risk that the value of a stockholder’s investment could decline substantially. We cannot assure you that, in the future, we will be profitable or that we will realize growth in the value of our assets.

 

Increases in interest rates could increase the amount of our debt payments and adversely affect our ability to make distributions to our stockholders.

We have borrowed money, which bears interest at variable rates, and therefore are exposed to increases in costs in a rising interest rate environment. Increases in interest rates would increase our interest expense on any variable rate debt, as well as any debt that must be refinanced at higher interest rates at the time of maturity. Our future earnings and cash flows could be adversely affected due to the increased requirement to service our debt and could reduce the amount we are able to distribute to our stockholders. As of September 30, 2016, we had $76.6 million or 12.6% of our total debt that bore interest at variable rates with a weighted average interest rate of 2.21%.

To date, we have not generated sufficient cash flow from operations to pay distributions, and, therefore, we have paid, and may continue to pay, distributions from the net proceeds of our Offering and DRP, which reduces the amount of cash we ultimately have to invest in assets, negatively impacting the value of our stockholders’ investment, and is dilutive to our stockholders.

We have not yet generated sufficient cash flow from operations to fund distribution payments. Our organizational documents permit us to pay distributions from sources other than cash flow from operations. Specifically, some or all of our distributions may be paid from retained cash flow, from borrowings and from cash flow from investing activities, including the net proceeds from the sale of our assets, or from the net proceeds of our Offering and DRP. Accordingly, until such time as we are generating cash flow from operations sufficient to cover distributions, we have paid and will likely continue to pay distributions from the net proceeds of our Offering and DRP. We have not established any limit on the extent to which we may use alternate sources, including borrowings or proceeds of the Offering and DRP, to pay distributions. There is no assurance we will generate sufficient cash flow from operations to cover distributions. We began declaring distributions to stockholders of record during December 2012. Approximately 31% ($29.2 million) of the distributions paid to stockholders through September 30, 2016, have been paid from the net proceeds of our Offering and DRP, which reduces the proceeds available for other purposes. To the extent we pay cash distributions, or a portion thereof, from sources other than cash flow from operations, we will have less capital available to invest in properties and other real estate-related assets, the book value per share may decline, and there will be no assurance that we will be able to sustain distributions at that level.

The estimated value per share of our common stock is based on a number of assumptions and estimates that may not be accurate or complete and is also subject to a number of limitations.

On April 7, 2016, we announced an Estimated Per Share NAV of our common stock as of December 31, 2015 equal to $9.02 per share. To assist our board of directors in establishing the Estimated Per Share NAV, we engaged CBRE Capital Advisors, Inc., a Financial Industry Regulatory Authority, Inc. (“FINRA”) registered broker dealer firm that specializes in providing real estate financial services (“CBRE Cap”). As with any methodology used to estimate value, the methodology employed by CBRE Cap is based upon a number of estimates and assumptions that may not be accurate or complete. Further, different parties using different assumptions and estimates could derive a different estimated per share net asset value, which could be significantly different from our Estimated Per Share NAV. The Estimated Per Share NAV will fluctuate over time and does not represent: (i) the price at which our

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shares would trade on a national securities exchange, (ii) the amount per share a stockholder would obtain if he, she or it tried to sell his, her or its shares or (iii) the amount per share stockholders would receive if we liquidated our assets and distributed the proceeds after paying all our expenses and liabilities.

 

There is also no assurance that the methodology used to estimate our value per share will be acceptable to broker dealers for customer account purposes or to FINRA or that the Estimated Per Share NAV will satisfy the applicable annual valuation requirements under the Employee Retirement Income Security Act of 1974, as amended (“ERISA”), and the Internal Revenue Code of 1986, as amended (the “Internal Revenue Code”), with respect to employee benefit plans subject to ERISA and other retirement plans or accounts subject to Section 4975 of the Internal Revenue Code.

The financial covenants under our credit agreement may restrict our ability to make distributions and our operating and acquisition activities. If we breach the financial covenants, we could be held in default under the credit agreement, which could accelerate our repayment date and materially adversely affect our liquidity and financial condition.

We entered into a credit agreement, as amended, with KeyBanc Capital Markets Inc. for a $110 million revolving Credit Facility. The credit agreement provides us with the ability from time to time to increase the size of the Credit Facility, subject to certain conditions. Our performance of the obligations under the credit agreement, including the payment of any outstanding indebtedness, is secured by a minimum pool of five unencumbered properties with an unencumbered pool value of $110 million or above and by a guaranty by certain of our subsidiaries. As of September 30, 2016, we have borrowed $35 million of the $110 million available.

The credit agreement requires compliance with certain financial covenants, including, among other conditions, a minimum tangible net worth requirement, restrictions on indebtedness, a distribution limitation and other material covenants. These covenants could inhibit our ability to make distributions to our stockholders and to pursue certain business initiatives or effect certain transactions that might otherwise be beneficial to us. For example, without lender consent, we may not declare and pay distributions or honor any redemption requests if any default under the agreement then exists or if distributions, excluding any distributions reinvested through our DRP, for the then-current quarter and the three immediately preceding quarters would exceed 95% of our FFO, excluding acquisition expenses, or adjusted FFO, for that period. For the fiscal quarter ended September 30, 2016, distributions did not exceed 95% of our adjusted FFO.

The credit agreement also provides for several customary events of default, including, among other things, the failure to comply with our covenants and the failure to pay when amounts outstanding under the credit agreement become due. Declaration of a default by the lenders under the credit agreement could restrict our ability to borrow additional monies and could cause all amounts to become immediately due and payable, which would materially adversely affect our liquidity and financial condition.

 

If a tenant declares bankruptcy, we may be unable to collect balances due under relevant leases.

Any of our tenants or any guarantor of a tenant’s lease obligations could be subject to a bankruptcy proceeding in pursuit of Title 11 of the bankruptcy laws of the United States.  A bankruptcy filing of our tenants or any guarantor of a tenant’s lease obligations would bar all efforts to collect pre-bankruptcy debts from these entities or their properties, unless we receive an enabling order from the bankruptcy court.  Post-bankruptcy debts would be paid currently.  If a lease is assumed, all pre-bankruptcy balances owing under it must be paid in full.  If a lease is rejected by a tenant in bankruptcy, we would only have a general unsecured claim for damages.  If a lease is rejected, it is unlikely we would receive any payments from the tenant because our claim is capped at the rent reserved under the lease, without acceleration, for the greater of one year or 15% of the remaining term of the lease, but not greater than three years, plus rent already due but unpaid.  This claim could be paid only if the funds were available, and then only in the same percentages as that realized on other unsecured claims.

 

A tenant or lease guarantor bankruptcy could delay efforts to collect past due balances under the relevant leases, and could ultimately preclude full collection of these sums.  A tenant or lease guarantor bankruptcy could cause a decrease or cessation of rental payments that would mean a reduction in our cash flow and the amount available for distributions to our stockholders.  In the event of a bankruptcy there can be no assurance that the tenant or its trustee will assume our lease.  If a given lease or guaranty of a lease is not assumed, our cash flow and the amounts available for distributions to our stockholders may be adversely affected.

Our portfolio includes three shopping centers with Sports Authority stores, which filed for bankruptcy earlier this year. Two of our three Sports Authority leases were rejected on June 30, 2016, and the third one was rejected July 29, 2016. The annualized rent and reimbursements under these leases total approximately $2.2 million. We have been proactive in seeking quality replacement tenants to these spaces.

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Item 2.  Unregistered Sales of Equity Securities and Use of Proceeds

 

 

On October 18, 2012, our Registration Statement on Form S-11 (File No. 333-176775) was declared effective under the Securities Act. From the effective date of the Offering through September 30, 2016, we have paid the following costs in connection with the issuance and distribution of the registered securities:

 

(Dollar amounts in thousands)

 

 

 

From the effective date of the Offering through September 30, 2016, the net offering proceeds to us from the Offering, after deducting the total expenses incurred described above, were approximately $796.6 million including proceeds from the DRP of $47.6 million. As of September 30, 2016, we had used approximately $691.9 million of these net proceeds to purchase interests in real estate and pay related costs, of which $12.1 million was paid to related parties, approximately $37.2 million for repayment of indebtedness used to purchase interests in real estate, approximately $6.6 million to pay loan origination costs, approximately $29.2 million to pay distributions, $0.1 million to fund our investment in the insurance captive, and approximately $1.1 million to fund our operations. The remaining net proceeds were held as cash at September 30, 2016.

Recent Sales of Unregistered Equity Securities

During the period covered by this quarterly report, we did not sell any equity securities that were not registered under the Securities Act.

Share Repurchase Program

Under the SRP, we are authorized to purchase shares from stockholders who purchased their shares from us or received their shares through a non-cash transfer and who have held their shares for at least one year, if requested, if we choose to repurchase them. Subject to funds being available, we will limit the number of shares repurchased during any calendar year to 5% of the number of shares outstanding at December 31st of the previous calendar year. Funding for the SRP comes from proceeds we receive from the DRP. In the case of repurchases made upon the death of a stockholder or qualifying disability, as defined in the SRP, neither the one year holding period, the limit regarding funds available from the DRP nor the 5% limit applies. The SRP will immediately terminate if our shares become listed for trading on a national securities exchange. In addition, our board of directors, in its sole direction, may, at any time, amend, suspend or terminate the SRP.

The table below outlines the shares we repurchased pursuant to our SRP during the quarter ended September 30, 2016.

 

(Dollar amounts in thousands, except per share amounts)

 

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Item 3.  Defaults Upon Senior Securities

None.

Item 4.  Mine Safety Disclosures

Not Applicable.

Item 5.  Other Information

Not Applicable.

Item 6.  Exhibits

The representations, warranties and covenants made by us in any agreement filed as an exhibit to this Form 10-Q are made solely for the benefit of the parties to the agreement, including, in some cases, for the purpose of allocating risk among the parties to the agreement, and should not be deemed to be representations, warranties or covenants to, or with, you. Moreover, these representations, warranties and covenants should not be relied upon as accurately describing or reflecting the current state of our affairs.

The exhibits filed in response to Item 601 of Regulation S-K are listed on the Exhibit Index attached hereto and are incorporated herein by reference.

 

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

 

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Exhibit Index

 

 

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