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EX-32.2 - Hartman Short Term Income Properties XX, Inc.exhibit322.htm
EX-32.1 - Hartman Short Term Income Properties XX, Inc.exhibit321.htm
EX-31.2 - Hartman Short Term Income Properties XX, Inc.exhibit312.htm
EX-31.1 - Hartman Short Term Income Properties XX, Inc.exhibit311.htm

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

__________

FORM 10-Q

____________


Quarterly report pursuant to section 13 or 15(d) of the Securities Exchange Act of 1934


For the quarterly period ended June 30, 2017


 ¨ Transition report pursuant to section 13 or 15(d) of the Securities Exchange Act of 1934


Commission File Number 000-53912

__________


HARTMAN SHORT TERM INCOME PROPERTIES XX, INC.
(Exact name of registrant as specified in its charter)


 

 

Maryland

26-3455189

(State of Organization)

(I.R.S. Employer Identification Number)


2909 Hillcroft, Suite 420 Houston, Texas


77057

(Address of principal executive offices)

(Zip Code)

_______________


(713) 467-2222
(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 such 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, smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):


Large accelerated filer

  Accelerated filer

Non-accelerated filer

(Do not check if a smaller reporting company)

Smaller reporting company


Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes   No

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.


As of August 10, 2017 there were 18,116,952 shares of the Registrant’s common stock issued and outstanding, 19,000 of which were held by an affiliate of the Registrant.






Hartman Short Term Income Properties XX, Inc. and Subsidiaries

Table of Contents



 

 

 

 

 

PART I   FINANCIAL INFORMATION

 

Item 1.

Financial Statements

   2

Item 2.     

Management’s Discussion and Analysis of Financial Condition and Results of Operations

   25

Item 3.   

Quantitative and Qualitative Disclosures About Market Risk

   44

Item 4.   

Controls and Procedures

44  

 

 

 

PART II  OTHER INFORMATION

 

Item 1.    

Legal Proceedings

   45

Item 1A.   

Risk Factors

   45

Item 2.    

Unregistered Sales of Equity Securities and Use of Proceeds

   46

Item 3.     

Defaults Upon Senior Securities

   48

Item 4.     

Mine Safety Disclosures

   48

Item 5.     

Other Information

   48

Item 6.

Exhibits

   48

 

SIGNATURES

50






























1






PART I

FINANCIAL INFORMATION


Item 1. Financial Statements


HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(in thousands, except share data)

 

 

June 30, 2017

 

December 31, 2016

ASSETS

 

 Unaudited

 

 

 

 

 

 

 

Real estate assets, at cost

 

 $                          257,108

 

 $                          253,099

Accumulated depreciation and amortization

 

                             (61,970)

 

                             (49,872)

Real estate assets, net

 

                             195,138

 

                             203,227

 

 

 

 

 

Cash and cash equivalents

 

                                    711

 

                                 3,254

Restricted cash

 

                                 2,371

 

                                 2,371

Accrued rent and accounts receivable, net

 

                                 6,522

 

                                 5,266

Notes receivable - related party

 

                               11,431

 

                               11,431

Deferred leasing commission costs, net

 

                                 5,795

 

                                 4,775

Goodwill

 

                                    250

 

                                    250

Prepaid expenses and other assets

 

                                 2,533

 

                                 1,662

Real estate held for disposition

 

                                      -   

 

                                 7,050

Due from related parties

 

                                 1,025

 

                                      -   

Investment in affiliate

 

                                 8,978

 

                                 8,978

Total assets

 

 $                          234,754

 

 $                          248,264

 

 

 

 

 

LIABILITIES AND EQUITY

 

 

 

 

 

 

 

 

 

Liabilities:

 

 

 

 

Notes payable, net

 

 $                          113,946

 

 $                          114,151

Note payable - real estate held for disposition, net

 

                                      -   

 

                                 3,458

Accounts payable and accrued expenses

 

                                 9,921

 

                               12,057

Due to related parties

 

                                      -   

 

                                    343

Tenants' security deposits

 

                                 1,858

 

                                 1,824

Total liabilities

 

                             125,725

 

                             131,833

 

 

 

 

 

 Commitments and contingencies

 

 

 

 

 

 

 

 

 

Stockholders' equity:

 

 

 

 

Preferred stock, $0.001 par value, 200,000,000 convertible, non-voting shares authorized, 1,000 shares issued and outstanding at June 30, 2017 and December 31, 2016, respectively

 

                                      -   

 

                                      -   

Common stock, $0.001 par value, 750,000,000 authorized, 18,116,952 shares and 18,164,878 shares issued and outstanding at June 30, 2017 and December 31, 2016, respectively

 

                                      18

 

                                      18

Additional paid-in capital

 

                             168,977

 

                             169,406

Accumulated distributions and net loss

 

                             (70,521)

 

                             (59,674)

Total stockholders' equity

 

                               98,474

 

                             109,750

Noncontrolling interests in subsidiary

 

                               10,555

 

                                 6,681

Total equity

 

                             109,029

 

                             116,431

Total liabilities and equity

 

 $                          234,754

 

 $                          248,264

 

 

 

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 





2









HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

 (Unaudited, in thousands, except per share data)

 

 Three Months Ended June 30,

 

 Six Months Ended June 30,

 

 

2017

 

2016

 

2017

 

2016

 

Revenues

 

 

 

 

 

 

 

 

Rental revenues

 $       9,665

 

 $                    8,058

 

 $     19,350

 

 $     15,993

 

Tenant reimbursements and other revenues

          1,082

 

                       1,158

 

          2,619

 

          2,473

 

Total revenues

        10,747

 

                       9,216

 

        21,969

 

        18,466

 

 

 

 

 

 

 

 

 

 

Expenses (income)

 

 

 

 

 

 

 

 

Property operating expenses

          3,788

 

                       2,842

 

          6,987

 

          6,068

 

Asset management and acquisition fees

             440

 

                          888

 

             880

 

          1,221

 

Organization and offering costs

                -   

 

                          206

 

                -   

 

             (44)

 

Real estate taxes and insurance

          1,478

 

                       1,162

 

          2,982

 

          2,349

 

Depreciation and amortization

          5,940

 

                       5,383

 

        12,098

 

        10,685

 

General and administrative

             744

 

                          670

 

          1,321

 

          1,245

 

Interest and dividend income

           (314)

 

                        (391)

 

           (666)

 

           (391)

 

Interest expense

          1,481

 

                          890

 

          2,864

 

          1,736

 

Total expenses, net

        13,557

 

                     11,650

 

        26,466

 

        22,869

 

Loss from continuing operations

        (2,810)

 

                     (2,434)

 

        (4,497)

 

        (4,403)

 

Loss from discontinued operations, net

                -   

 

                            -   

 

                 8

 

                -   

 

Net loss

       $     (2,810)

 

 $                  (2,434)

 

 $     (4,505)

 

 $     (4,403)

 

Net (loss) income attributable to noncontrolling interests

             (17)

 

50

 

47

 

50

 

Net loss attributable to common stockholders

 $     (2,793)

 

 $                  (2,484)

 

 $     (4,552)

 

 $     (4,453)

 

 

 

 

 

 

 

 

 

 

Net loss attributable to common stockholders per share

 $       (0.15)

 

 $                    (0.14)

 

 $       (0.25)

 

 $       (0.27)

 

Weighted average number of common shares outstanding, basic and diluted

  18,126

 

               17,910

 

  18,147

 

  16,500

 

 

 

 

 

 

 

 

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 




3









HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY

(Unaudited)

(in thousands)

 

Preferred Stock

Common Stock

Additional

Accumulated

Total

 

 

 

 

 

Paid-In

Distributions

Stockholders'

Noncontrolling

Total

 

Shares

Amount

Shares

Amount

Capital

and Net Loss

Equity (Deficit)

Interests

Equity (Deficit)

Balance, December 31, 2016

                     1

 $-

            18,165

$18

$169,406

($59,674)

$109,750

$6,681

$116,431

Redemptions of common shares

                      -

                  -

                 (54)

                       -

               (508)

                       -

                 (508)

                       -

                      (508)

Issuance of common shares

                      -

                  -

                    6

                       -

                  79

                       -

                     79

                       -

                         79

Non-controlling capital

                      -

                  -

                     -

                       -

                     -

                       -

                       -

                5,450

                    5,450

Deconsolidation of Village Pointe

                      -

                  -

                     -

                       -

                     -

                       -

                       -

               (1,350)

                   (1,350)

Dividends and distributions (cash)

                      -

                  -

                     -

                       -

                     -

              (6,295)

               (6,295)

                 (273)

                   (6,568)

Net (loss) income

                      -

                  -

                     -

                       -

                     -

              (4,552)

               (4,552)

                     47

                   (4,505)

Balance, June 30, 2017

                     1

 $-

            18,117

$18

$168,977

($70,521)

$98,474

$10,555

$109,029

 

 

 

 

 

 

 

 

 

 

The accompanying notes are an integral part of these consolidated financial statements.




4







HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

(in thousands)

 

Six Months Ended June 30,

 

2017

 

2016

Cash flows from operating activities:

 

 

 

Net loss

 $             (4,505)

 

 $             (4,403)

Adjustments to reconcile net loss to net cash provided by (used in) operating activities:

 

 

 

Stock based compensation

                     40

 

                     50

Depreciation and amortization

               12,098

 

               10,685

Deferred loan and lease commission costs amortization

                   830

 

                   510

Bad debt provision

                   189

 

                   285

Loss on real estate held for disposition

                     27

 

                      -   

Changes in operating assets and liabilities:

 

 

 

Accrued rent and accounts receivable

               (1,445)

 

               (1,048)

Deferred leasing commissions

               (1,609)

 

               (1,489)

Prepaid expenses and other assets

                  (891)

 

                  (628)

Accounts payable and accrued expenses

               (2,358)

 

               (2,243)

Due to/from related parties

               (1,368)

 

               (4,349)

Tenants' security deposits

                     34

 

                     86

Net cash provided by (used in) operating activities

                 1,042

 

               (2,544)

Cash flows from investing activities:

 

 

 

Acquisition deposits

                     20

 

                      -   

Proceeds received - disposition of joint venture real estate held for disposition

                 2,214

 

                      -   

Investment in note receivable

                      -   

 

               (7,231)

Investment in affiliates

                      -   

 

               (8,959)

Additions to real estate

               (4,009)

 

              (23,840)

Net cash used in investing activities

               (1,775)

 

              (40,030)

Cash flows from financing activities:

 

 

 

Distributions to common stockholders and non-controlling interest

               (6,587)

 

               (2,976)

Payment of selling commissions

                      -   

 

               (2,112)

Borrowings under insurance premium finance note

                   561

 

                   421

Repayment  under insurance premium finance note

                  (280)

 

                  (210)

Noncontrolling interests capital

                 5,450

 

                 5,500

Payments of deferred loan costs

                    (72)

 

                  (139)

Proceeds under term loan notes

                      -   

 

               10,819

Repayments under term loan notes

                  (624)

 

                  (593)

Borrowings under revolving credit facility

                 1,750

 

               27,600

Repayments under revolving credit advances

               (1,500)

 

              (36,546)

Proceeds from issuance of common stock, net of redemptions

                  (508)

 

               40,881

Net cash (used in) provided by financing activities

               (1,810)

 

               42,645

Net change in cash and cash equivalents

               (2,543)

 

                     71

Cash and cash equivalents at the beginning of period

                 3,254

 

                 1,380

Cash and cash equivalents at the end of period

 $                 711

 

 $              1,451

 

 

 

 

Supplemental cash flow information:

 

 

 

Cash paid for interest

       $              2,558

 

    $             1,680

 

 

 

 

 

 

 

 

Supplemental disclosures of non-cash investing and financing activities:

 

 

 

Increase in distribution payable

       $                     -   

 

    $                246

Distributions made to common stockholders through common stock issuances pursuant to the distribution reinvestment plan

       $                     -     

 

    $             2,544

 

 

 

 

Village Pointe Assets/Liabilities - disposed:

 

 

 

Real estate

 $           (7,050)

 

   $                  -   

Note payable, net

 $              3,460

 

 $                  -   

Net other assets and liabilities

 $              (217)

 

 $                  -   

The accompanying notes are an integral part of these consolidated financial statements.




5




HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINACIAL STATEMENTS

(Unaudited)



       As used herein, the term “the Company” refers to Hartman Short Term Income Properties XX, Inc. and its consolidated subsidiaries, except where the context requires otherwise.

Note 1 — Organization and Business


Hartman Short Term Income Properties XX, Inc. (the “Company”), is a Maryland corporation formed on February 5, 2009.  The Company elected to be treated as a real estate investment trust (“REIT”) beginning with the taxable year ending December 31, 2011.


Effective March 31, 2016, the Company terminated the offer and sale of its common stock to the public in its follow-on offering.  The sale of shares of the Company’s common stock to its stockholders pursuant to the Company’s distribution reinvestment plan terminated July 16, 2016.


The Company was originally a majority owned subsidiary of Hartman XX Holdings, Inc.  Hartman XX Holdings, Inc. is a Texas corporation wholly owned by Allen R. Hartman.  The Company sold 19,000 shares to Hartman XX Holdings, Inc. at a price of $10.00 per share.  The Company has also issued 1,000 shares of convertible preferred stock to its advisor, Hartman Advisors LLC (“Advisor”), at a price of $10.00 per share.   The Advisor is owned 70% by Allen R. Hartman, the Company’s Chief Executive Officer and Chairman of the Board of Directors and 30% by Hartman Income REIT Management, Inc. (the “Property Manager”). The Property Manager is a wholly owned subsidiary of Hartman Income REIT, Inc. of which Allen R. Hartman owns approximately 16% of the voting common stock.


On April 11, 2014, the Company formed Hartman XX Limited Partnership, a Texas limited partnership (the “Operating Partnership”).  On March 7, 2014, the Company formed Hartman XX REIT GP LLC, a Texas limited liability company, to serve as the sole general partner of the Operating Partnership.  The Company is the sole limited partner of the Operating Partnership.  The Company’s member interests in its limited liability company subsidiaries are owned by the Operating Partnership or its wholly owned subsidiaries.


On April 11, 2017, the Operating Partnership entered into a membership interest purchase agreement with Hartman vREIT XXI, Inc. (“vREIT XXI”), an affiliate of the Company.  Pursuant to the terms of a membership interest purchase agreement between vREIT XXI and the Company, vREIT XXI may acquire up to $10,000,000 of the equity membership interest of Operating Partnership in Hartman Three Forest Plaza, LLC (“Three Forest Plaza LLC”).


As of June 30, 2017, vREIT XXI has acquired an approximately 30% equity interest in Three Forest Plaza LLC for $5,450,000.  On July 19, 2017, vREIT XXI acquired and an additional 6% equity interest for $1,000,000 bringing its total equity interest to approximately 36%.


Subject to certain restrictions and limitations, the Advisor is responsible for managing the Company’s affairs on a day-to-day basis and for identifying and making acquisitions and investments on behalf of the Company pursuant to an advisory agreement (the “Advisory Agreement”) by and among the Company and Advisor. Management of the Company’s properties is through the Property Manager.  D.H. Hill Securities, LLLP was the dealer manager for the Company’s public offerings.  These parties receive compensation and fees for services related to the investment, management and disposition of the Company’s assets.


       As of June 30, 2017, the Company owned or held a majority ownership interest in 17 commercial properties comprising approximately 2,928,000 square feet plus three pad sites, all located in Texas.  As of June 30, 2017, the Company owned nine properties located in Richardson, Arlington, and Dallas, Texas, six properties located in Houston, Texas and two properties located in San Antonio, Texas.  As of June 30, 2016, the Company owned 16 commercial properties comprising approximately 2,562,000 square feet plus three pad sites, all located in Texas.  As of June 30, 2016, the Company owned eight properties located in Richardson, Arlington, and Dallas, Texas, six properties located in Houston, Texas and two properties located in San Antonio, Texas.  




6




HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINACIAL STATEMENTS

(Unaudited)




On July 21, 2017, the Company and Hartman Short Term Income Properties XIX, Inc. (“Hartman XIX”), entered into an agreement and plan of merger (the “XIX Merger Agreement”) and (ii) the Company, the Operating Partnership, Hartman Income REIT, Inc. (“HIREIT”) and Hartman Income REIT Operating Partnership LP, the operating partnership of HIREIT, (“HIROP”), entered into an agreement and plan of merger (the “HIREIT Merger Agreement,” and together with the XIX Merger Agreement, the “Merger Agreements”).


Subject to the terms and conditions of the XIX Merger Agreement, including the satisfaction of all closing conditions set forth in the Merger Agreements, Hartman XIX will merge with and into the Company, with the Company surviving the merger (the “Hartman XIX Merger”).  Subject to the terms and conditions of the HIREIT Merger Agreement, (i) HIREIT will merge with and into the Company, with HIREIT surviving the merger (the “HIREIT Merger,” and together with the Hartman XIX Merger, the “REIT Mergers”), and (ii) HIROP will merge and with and into the Operating Partnership, with the Operating Partnership surviving the merger (the “Partnership Merger,” and together with the REIT Mergers, the “Mergers”). The REIT Mergers are intended to qualify as a “reorganization” under, and within the meaning of, Section 368(a) of the Internal Revenue Code of 1986, as amended (the “Code”), and the Partnership Merger is intended to be treated as a tax-deferred exchange under Section 721 of the Code.

 

Subject to the terms and conditions of the XIX Merger Agreement, (i) each share of common stock of Hartman XIX (the “XIX Common Stock”) issued and outstanding immediately prior to the Effective Time (as defined in the XIX Merger Agreement) will be automatically cancelled and retired and converted into the right to receive 9,171.98 shares of common stock, $0.01 par value per share, of the Company (“Company Common Stock”), (ii) each share of 8% cumulative preferred stock of Hartman XIX issued and outstanding immediately prior to the Effective Time will be automatically cancelled and retired and converted into the right to receive 1.238477 shares of Company Common Stock, and (iii) each share of 9% cumulative preferred stock of Hartman XIX issued and outstanding immediately prior to the Effective Time will be automatically cancelled and retired and converted into the right to receive 1.238477 shares of Company Common Stock.


Subject to the terms and conditions of the HIREIT Merger Agreement, (a) in connection with the HIREIT Merger, (i) each share of common stock of HIREIT (the “HIREIT Common Stock”) issued and outstanding immediately prior to the REIT Merger Effective Time (as defined in the HIREIT Merger Agreement) will be automatically cancelled and retired and converted into the right to receive 0.752222 shares of Company Common Stock, and (ii) each share of subordinate common stock of HIREIT will be automatically cancelled and retired and converted into the right to receive 0.752222 shares of Company Common Stock, and (b) in connection with the Partnership Merger, each unit of limited partnership interest in HIREIT Operating Partnership (“HIREIT OP Units”) issued and outstanding immediately prior to the Partnership Merger Effective Time (as defined in the HIREIT Merger Agreement) (other than any HIREIT OP Units held by HIREIT) will be automatically cancelled and retired and converted into the right to receive 0.752222 validly issued, fully paid and non-assessable units of limited partnership interests in XX Operating Partnership.


Each Merger Agreement contains customary covenants, including covenants prohibiting HIREIT and Hartman XIX and their respective subsidiaries and representatives from soliciting, providing information or entering into discussions concerning proposals relating to alternative business combination transactions, subject to certain limited exceptions.

 

The Merger Agreements may be terminated under certain circumstances, including but not limited to (i) by the mutual written consent of all the parties to a Merger Agreement, (ii) by either the Company or HIREIT or Hartman XIX, as applicable, if a final and non-appealable order is entered prohibiting or disapproving the applicable Mergers, (iii) by either the Company or HIREIT or Hartman XIX, as applicable, if the required approval of the applicable Mergers by the stockholders of the Company or HIREIT or Hartman XIX, as applicable (the “Stockholder Approvals”), have not been obtained, (iv) by either the Company or HIREIT or Hartman XIX, as applicable, upon a material uncured breach by the other party that would cause the closing conditions in the applicable Merger




7




HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINACIAL STATEMENTS

(Unaudited)



Agreement not to be satisfied, or (v) by either the Company or HIREIT or Hartman XIX, as applicable,  if the applicable Mergers have not been completed on or before December 31, 2017. No termination fees or penalties are payable by any party to any Merger Agreement in the event of the termination of any Merger Agreement.

 

The Merger Agreements contain certain representations and warranties made by the parties thereto. The representations and warranties of the parties were made solely for purposes of the contract among the parties, and are subject to certain important qualifications and limitations set forth in confidential disclosure letters delivered by the parties to the Mergers to the other parties to the Mergers.  Moreover, certain of the representations and warranties are subject to a contractual standard of materiality that may be different from what may be viewed as material to stockholders, and the representations and warranties are primarily intended to establish circumstances in which either of the parties may not be obligated to consummate the Mergers, rather than establishing matters as facts.

 

Each Merger Agreement sets forth certain conditions of the parties thereto to consummate the Mergers contemplated by such Merger Agreement, including (i) receipt of the applicable Stockholder Approvals, (ii) receipt of all regulatory approvals, (iii) the absence of any judgments, orders or laws prohibiting or restraining the consummation of the applicable Mergers, (iv) the effectiveness with the Securities and Exchange Commission (the “SEC”) of the registration statement on Form S-4 to be filed by the Company to register the shares of Company Common Stock to be issued as consideration in the REIT Mergers, (v) the delivery of certain documents, consents and legal opinions, and (vi) the truth and correctness of the representations and warranties of the respective parties, subject to the materiality standards contained in the Merger Agreements. In addition, the consummation of the HIREIT Merger and the Partnership Merger is a condition to the consummation of the Hartman XIX Merger, and vice versa. There can be no guarantee that the conditions to the closing of the Mergers set forth in the Merger Agreements will be satisfied.


Note 2 — Summary of Significant Accounting Policies


Basis of Presentation


The accompanying consolidated financial statements included in this report are unaudited; however, amounts presented in the consolidated balance sheet as of December 31, 2016 are derived from our audited consolidated financial statements as of that date.  The unaudited consolidated financial statements as of June 30, 2017 have been prepared by the Company in accordance with accounting principles generally accepted in the United States (“GAAP”) and pursuant to the rules and regulations of the Securities and Exchange Commission, including Form 10-Q and Regulation S-X, on a basis consistent with the annual audited consolidated financial statements. The consolidated financial statements presented herein reflect all adjustments (consisting of normal recurring accruals and adjustments), which are, in the opinion of management, necessary to fairly present the financial position of the Company as of June 30, 2017, and the results of consolidated operations for the three and six months ended June 30, 2017 and 2016, the consolidated statement of stockholders’ equity for the six months ended June 30, 2017 and the consolidated statements of cash flows for the six months ended June 30, 2017 and 2016.  The results of the six months ended June 30, 2017 are not necessarily indicative of the results to be expected for the year ending December 31, 2017.


The consolidated financial statements herein are condensed and should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016.


        These unaudited consolidated financial statements include the accounts of the Company, the Operating Partnership and its subsidiaries.  All significant intercompany balances and transactions have been eliminated.








8




HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINACIAL STATEMENTS

(Unaudited)



Use of Estimates

 

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.  Actual results could differ from those estimates.


Reclassifications


The Company has reclassified certain prior period amounts in the accompanying consolidated financial statements in order to be consistent with the current period presentation.  These reclassifications had no effect on the previously reported working capital or results of operations.


Cash and Cash Equivalents

 

All highly liquid investments with original maturities of three months or less are considered to be cash equivalents.  Cash and cash equivalents as of June 30, 2017 and December 31, 2016 consisted of demand deposits at commercial banks.


Restricted Cash


Restricted cash represents cash for which the use of funds is restricted by certain loan documents.  As of June 30, 2017 and December 31, 2016, the Company had a restricted cash balance of $2,371,000, which represents amounts set aside as impounds to be disbursed to the Company upon achieving incremental occupancy and gross income thresholds at the Richardson Heights Property and the Bent Tree Green Property.  


Pursuant to a reserve agreement among the Company and the lender, the Company’s right to draw upon restricted funds expired on December 31, 2016.  The lender has the right to draw any of the remaining funds and apply the same to the outstanding loans at the lenders sole discretion.  The Company’s right to draw upon the restricted funds expires June 30, 2018 subject to the draw provisions of the original loan agreements.


Financial Instruments


       The accompanying consolidated balance sheets include the following financial instruments: cash and cash equivalents, restricted cash, accrued rent and accounts receivable, note receivable, accounts payable and accrued expenses, notes payable and due from (to) related parties.  The Company considers the carrying value to approximate the fair value of these financial instruments based on the short duration between origination of the instruments and their expected realization.  Based on borrowing rates currently available to the Company for loans with similar terms, the carrying value of its notes payable approximates fair value.


Revenue Recognition


The Company’s leases are accounted for as operating leases.  Certain leases provide for tenant occupancy during periods for which no rent is due and/or for increases or decreases in the minimum lease payments over the terms of the leases.  Revenue is recognized on a straight-line basis over the terms of the individual leases.  Revenue recognition under a lease begins when the tenant takes possession of or controls the physical use of the leased space.  When the Company acquires a property, the term of existing leases is considered to commence as of the acquisition date for the purposes of this calculation. Accrued rents are included in accrued rent and accounts receivable, net.  In accordance with Accounting Standards Codification (“ASC”) 605-10-S99, Revenue Recognition, the Company will defer the recognition of contingent rental income, such as percentage rents, until the specific target that triggers the contingent rental income is achieved. Cost recoveries from tenants are included in tenant reimbursement and other revenues in the period the related costs are incurred.




9




HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINACIAL STATEMENTS

(Unaudited)




Real Estate


Allocation of Purchase Price of Acquired Assets


       Upon the acquisition of real properties, it is the Company’s policy to allocate the purchase price of properties to acquired tangible assets, consisting of land and buildings, and identified intangible assets and liabilities, consisting of the value of above-market and below-market leases, other value of in-place leases and leasehold improvements and value of tenant relationships, based in each case on their fair values. The Company utilizes internal valuation methods to determine the fair values of the tangible assets of an acquired property (which includes land and buildings).


The fair values of above-market and below-market in-place lease values, including below-market renewal options for which renewal has been determined to be reasonably assured, are recorded based on the present value (using an interest rate which reflects the risks associated with the leases acquired) of the difference between (a) the contractual amounts to be paid pursuant to the in-place leases and (b) an estimate of fair market lease rates for the corresponding in-place leases and below-market renewal options, which is generally obtained from independent appraisals, measured over a period equal to the remaining non-cancelable term of the lease. The above-market and below-market lease and renewal option values are capitalized as intangible lease assets or liabilities and amortized as an adjustment of rental income over the remaining expected terms of the respective leases.


The fair values of in-place leases include direct costs associated with obtaining a new tenant, opportunity costs associated with lost rentals which are avoided by acquiring an in-place lease, and tenant relationships. Direct costs associated with obtaining a new tenant include commissions, tenant improvements, and other direct costs and are estimated based on independent appraisals and management’s consideration of current market costs to execute a similar lease. These direct costs are included in intangible lease assets and are amortized to expense over the remaining terms of the respective leases. The value of opportunity costs is calculated using the contractual amounts to be paid pursuant to the in-place leases over a market absorption period for a similar lease. Customer relationships are valued based on expected renewal of a lease or the likelihood of obtaining a particular tenant for other locations. These intangibles are included in real estate assets in the consolidated balance sheets and are being amortized to expense over the remaining term of the respective leases.


The determination of the fair values of the assets and liabilities acquired requires the use of significant assumptions with regard to the current market rental rates, rental growth rates, discount rates and other variables. The use of inappropriate estimates would result in an incorrect assessment of the purchase price allocations, which could impact the amount of the Company’s reported net loss.


Depreciation and amortization


       Depreciation is computed using the straight-line method over the estimated useful lives of 5 to 39 years for buildings and improvements.  Tenant improvements are depreciated using the straight-line method over the lesser of the life of the improvement or the remaining term of the lease. In-place leases are amortized using the straight-line method over the weighted average years’ remaining calculated on terms of all of the leases in-place when acquired.


Impairment


       The Company reviews its real estate assets for impairment at least annually or whenever events or changes in circumstances indicate that the carrying amount of the assets, including accrued rental income, may not be recoverable through operations.  The Company determines whether an impairment in value has occurred by comparing the estimated future cash flows (undiscounted and without interest charges), including the estimated residual value of the property, with the carrying cost of the property.  If impairment is indicated, a loss will be recorded for the amount by which the carrying value of the property exceeds its fair value.  Management has




10




HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINACIAL STATEMENTS

(Unaudited)



determined that there has been no impairment in the carrying value of our real estate assets as of June 30, 2017 and December 31, 2016.


Projections of expected future cash flows require management to estimate future market rental income amounts subsequent to the expiration of current lease agreements, property operating expenses, discount rates, the number of months it takes to release the property and the number of years the property is held for investment. The use of inappropriate assumptions in the future cash flow analysis would result in an incorrect assessment of the property’s future cash flow and fair value and could result in the overstatement of the carrying value of our real estate and related intangible assets and net income.


Fair Value Measurement

Fair value measures are classified into a three-tiered fair value hierarchy, which prioritizes the inputs used in measuring fair value as follows:

Level 1:

Observable inputs such as quoted prices in active markets.

Level 2:

Directly or indirectly observable inputs, other than quoted prices in active markets.

Level 3:

Unobservable inputs in which there is little or no market data, which require a reporting entity to develop its own assumptions.

Assets and liabilities measured at fair value are based on one or more of the following valuation techniques:

Market Approach:

Prices and other relevant information generated by market transactions involving identical or comparable assets or liabilities.

Cost Approach:

Amount required to replace the service capacity of an asset (replacement cost).

Income Approach:

Techniques used to convert future amounts to a single amount based on market expectations (including present-value, option-pricing, and excess-earnings models).


The Company’s estimates of fair value were determined using available market information and appropriate valuation methods.  Considerable judgment is necessary to interpret market data and develop estimated fair value.  The use of different market assumptions or estimation methods may have a material effect on the estimated fair value amounts.  The Company classifies assets and liabilities in the fair value hierarchy based on the lowest level of input that is significant to the fair value measurement.

Accrued Rent and Accounts Receivable


       Included in accrued rent and accounts receivable are base rents, tenant reimbursements and receivables attributable to recording rents on a straight-line basis. An allowance for the uncollectible portion of accrued rent and accounts receivable is determined based upon customer credit-worthiness (including expected recovery of our claim with respect to any tenants in bankruptcy), historical bad debt levels, and current economic trends.

 

Deferred Leasing Commission Costs


       Leasing commissions are amortized using the straight-line method over the term of the related lease agreements.  







11




HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINACIAL STATEMENTS

(Unaudited)



Goodwill


       GAAP requires the Company to test goodwill for impairment at least annually or more frequently whenever events or circumstances occur indicating goodwill might be impaired.  The Company has the option to perform a qualitative assessment to determine if it is more likely than not that the fair value is less than the carrying amount.  If the qualitative assessment determines that it is more likely than not that the fair value is less than the carrying amount, or if the Company elects to bypass the qualitative assessment, the Company performs a two-step impairment test.  In the first step, management compares its net book value of the Company to the carrying amount of goodwill at the balance sheet date. In the event net book value of the Company is less than the carrying amount of goodwill, the Company proceeds to step two and assesses the need to record an impairment charge. No goodwill impairment has been recognized in the accompanying consolidated financial statements.


Organization and Offering Expenses


The Company has incurred certain organization and offering expenses in connection with the organization of the Company and the offering of the Company’s shares of common stock in the Company’s public offering. These costs principally relate to professional and filing fees. For the three months ended June 30, 2017 and 2016, such costs totaled $0 and $206,000, respectively.  For the six months ended June 30, 2017 and 2016, such costs totaled $0, and ($44,000), respectively.


Organization and offering expenses of the Company are paid directly by the Company or incurred by Advisor on behalf of the Company and reimbursed by the Company to the Advisor (subject to certain limitations). Pursuant to the Advisory Agreement, organization and offering expenses will be reimbursed by the Advisor to the Company following the completion of a public offering of the Company to the extent that total organization and offering expenses incurred by the Company in connection with such public offerings (excluding selling commissions and dealer manager fees) exceed 1.5% of gross offering proceeds from the completed public offerings.  As of June 30, 2017, and December 31, 2016, respectively, the amount of offering and organizational expenses incurred in excess of 1.5% of gross offering proceeds was cumulatively $858,000 for the Company’s initial and follow-on public offerings, respectively. The Company terminated the offer and sale of its common stock to the public in its follow-on offering on March 31, 2016.  The Company recorded a receivable from the Advisor and recorded a contra expense of $858,000 resulting in a net credit for organization and offering expenses of ($44,000) during the six months ended June 30, 2016.


Real Estate Held for Disposition and Discontinued Operations


The Company considers a commercial property to be held for sale when it meets all of the criteria established under ASC 205, “Presentation of Financial Statements.”  For commercial properties classified as held for sale, assets and liabilities are presented separately for all periods presented.


In accordance with ASC 205, a discontinued operation may include a component of an entity or a group of components of an entity. A disposal of a component of an entity or a group of components of an entity is reported in discontinued operations if the disposal represents a strategic shift that has (or will have) a major effect on an entity's operations and financial results when the component of an entity or group of components of an entity is classified as held for sale, disposed of by sale or disposed of other than by sale, respectively. In addition, ASC 205 requires us to provide additional disclosures about both discontinued operations and the disposal of an individually significant component of an entity that does not meet the criteria for a discontinued operation.


Noncontrolling Interests


Noncontrolling interests is the portion of equity in a subsidiary not attributable to a parent.  The ownership interests not held by the parent are considered noncontrolling interests.  Accordingly, the Company has reported noncontrolling interests in equity on the consolidated balance sheets but separate from the Company's equity.  On




12




HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINACIAL STATEMENTS

(Unaudited)



the consolidated statements of operations, subsidiaries are reported at the consolidated amount, including both the amount attributable to the Company and noncontrolling interests.  The consolidated statement of changes in equity is included for quarterly financial statements, including beginning balances, activity for the period and ending balances for shareholders' equity, noncontrolling interests and total equity.


Stock-Based Compensation


The Company follows ASC 718, Compensation-Stock Compensation (ASC 718) with regard to issuance of stock in payment of services.  ASC 718 requires that compensation cost relating to share-based payment transactions be recognized in the consolidated financial statements.  The compensation cost is measured based on the fair value of the equity or liability instruments issued.  Stock-based compensation expense is included in general and administrative expense in the accompanying consolidated statements of operations.


Advertising


       The Company expenses advertising costs as incurred and such costs are included in general and administrative expenses in the accompanying consolidated statements of operations.  Advertising costs totaled $38,000 and $40,000 for the three months ended June 30, 2017 and 2016, respectively.  Advertising costs totaled $93,000 and $90,000 for the six months ended June 30, 2017 and 2016, respectively.


Income Taxes


The Company has elected to be treated as a REIT under the Internal Revenue Code of 1986, as amended, beginning with its taxable year ended December 31, 2011. To qualify as a REIT, the Company must meet certain organizational and operational requirements, including a requirement to distribute at least 90% of the Company’s annual REIT taxable income to stockholders (which is computed without regard to the dividends-paid deduction or net capital gain and which does not necessarily equal net income as calculated in accordance with GAAP).  As a REIT, the Company generally will not be subject to federal income tax on income that it distributes as dividends to its stockholders.  If the Company fails to qualify as a REIT in any taxable year, it will be subject to federal income tax on its taxable income at regular corporate income tax rates and generally will not be permitted to qualify for treatment as a REIT for federal income tax purposes for the four taxable years following the year during which qualification is lost, unless the Internal Revenue Service grants the Company relief under certain statutory provisions.  Such an event could materially and adversely affect the Company’s net income and net cash available for distribution to stockholders.  However, the Company believes that it is organized and will operate in such a manner as to qualify for treatment as a REIT. 


For the three months ended June 30, 2017 and 2016, the Company incurred a net loss of $2,810,000 and $2,434,000, respectively.  For the six months ended June 30, 2017 and 2016, the Company incurred a net loss of $4,505,000 and $4,403,000, respectively.  The Company has formed a taxable REIT subsidiary which may generate future taxable income, which may be offset by the net loss carry forward.  The Company considers that any deferred tax benefit and corresponding deferred tax asset which may be recorded in light of the net loss carry forward would be properly offset by an equal valuation allowance.  Accordingly, no deferred tax benefit or deferred tax asset has been recorded in the accompanying consolidated financial statements.


The Company is required to recognize in its consolidated financial statements the financial effects of a tax position only if it is determined that it is more likely than not that the tax position will not be sustained upon examination, including resolution of any related appeals or litigation processes, based on the technical merits of the position.  Management has reviewed the Company’s tax positions and is of the opinion that material positions taken by the Company would more likely than not be sustained upon examination.  Accordingly, the Company has not recognized a liability related to uncertain tax positions.

 





13




HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINACIAL STATEMENTS

(Unaudited)



Loss Per Share

 

The computations of basic and diluted loss per common share are based upon the weighted average number of common shares outstanding and potentially dilutive securities.  The Company’s potentially dilutive securities include preferred shares that are convertible into the Company’s common stock.  As of June 30, 2017 and 2016, there were no shares issuable in connection with these potentially dilutive securities.  These potentially dilutive securities were excluded from the computations of diluted net loss per share for the three and six months ended June 30, 2017 and 2016 because no shares are issuable and inclusion of such potentially dilutive securities would have been anti-dilutive.


Concentration of Risk


The Company maintains cash accounts in two U.S. financial institutions.  The terms of these deposits are on demand to minimize risk.  The balances of these accounts may exceed the federally insured limits.  No losses have been incurred in connection with these deposits.


The geographic concentration of the Company’s real estate assets makes it susceptible to adverse economic developments in the State of Texas. Any adverse economic or real estate developments in these markets, such as business layoffs or downsizing, relocations of businesses, increased competition or any other changes, could adversely affect the Company’s operating results and its ability to make distributions to stockholders


Major tenants are defined as those tenants which individually comprise more than 10% of the Company’s total rental revenues.  No tenant represents more than 10% of total rental revenues for three months and six months ended June 30, 2017 and 2016.


Recent Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board, or FASB, issued Accounting Standards Update, or 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. ASU No. 2014-09 will replace most existing revenue recognition guidance in GAAP when it becomes effective. The standard permits the use of either the retrospective or cumulative effect transition method. In July 2015, the FASB voted to defer the effective date to January 1, 2018 with early adoption beginning January 1, 2017. We have begun to evaluate each of our revenue streams under the new model. Based on preliminary assessments, we do not expect the adoption of ASU No. 2014-09 to have a material effect on our consolidated financial position or our consolidated results of operations.

 

ASU 2015-03, Interest – Imputation of Interest (Subtopic 835-30) – Simplifying the Presentation of Debt Issuance Costs 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 recognition and measurement guidance for debt issuance costs are not affected by the amendments in ASU 2015-03. We have adopted this guidance for all periods presented.


In January 2016, the FASB issued ASU No. 2016-01, “Recognition and Measurement of Financial Assets and Liabilities,” which enhances the reporting requirements surrounding the measurement of financial instruments and requires equity securities to be measured at fair value with changes in the fair value recognized through net income for the period. ASU No. 2016-01 is effective for our fiscal year commencing on January 1, 2018. Based on preliminary assessments, we do not expect the adoption of ASU No. 2016-01 to have a material effect on our consolidated financial position or our consolidated results of operations.

 

In February 2016, the FASB issued ASU No. 2016-02, “Leases,” which changes lessee accounting to reflect the financial liability and right-of-use asset that are inherent to leasing an asset on the balance sheet. ASU No. 2016-02




14




HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINACIAL STATEMENTS

(Unaudited)



is effective for our fiscal year commencing on January 1, 2019, but early adoption is permitted.  Based on preliminary assessments, we do not expect the adoption of ASU No. 2016-02 to have a material effect on our consolidated financial position or our consolidated results of operations.


In October 2016, the FASB issued ASU No. 2016-17, “Interest Held Through Related Parties That Are Under Common Control,” which amends the accounting guidance when determining the treatment of certain VIE’s to include the interest of related parties under common control in a VIE when considering whether or not the reporting entity is the primary beneficiary of the VIE when considering consolidation. We have adopted this guidance for all periods presented.  Adoption of this guidance has no material effect on our consolidated financial position or our consolidated results of operations.


 In November 2016, the FASB issued ASU No. 2016-18, “Classification of Restricted Cash,” which addresses the Statement of Cash Flow classification and presentation of restricted cash transactions. ASU No. 2016-18 is effective for our fiscal year commencing on January 1, 2018. The effect of this amendment is to be applied retrospectively and early adoption is permitted. We expect to adopt ASU No. 2016-18 for our fiscal year commencing on January 1, 2018. Based on preliminary assessments, we do not expect the adoption of ASU No. 2016-18 to have a material effect on our consolidated financial position or our consolidated results of operations.

 

In January 2017, the FASB issued ASU No. 2017-01, “Clarifying the Definition of a Business,” with the objective of adding guidance to assist entities with evaluating whether transactions should be accounted for as an acquisition of assets or a business.  Based on preliminary assessments, we do not expect the adoption of ASU No. 2017-01 to have a material effect on our consolidated financial position or our consolidated results of operations.


Note 3 — Real Estate


   The Company’s real estate assets consisted of the following, in thousands:


 

June 30, 2017

December 31, 2016

Land

$62,320

$62,320

Buildings and improvements

131,215

127,206

In-place lease value intangible

63,573

63,573

 

257,108

253,099

Less accumulated depreciation and amortization

(61,970)

(49,872)

Total real estate assets

$195,138

$203,227


       Depreciation expense for the three months ended June 30, 2017 and 2016 was $2,067,000 and $1,505,000, respectively.  Depreciation expense for the six months ended June 30, 2017 and 2016 was $3,878,000 and $2,964,000, respectively.  Amortization expense of in-place lease value intangible was $3,873,000 and $3,878,000 for the three months ended June 30, 2017 and 2016, respectively.  Amortization expense of in-place lease value intangible was $8,220,000 and $7,721,000 for the six months ended June 30, 2017 and 2016, respectively.

       

       Acquisition fees paid to Advisor were $0 and $541,000 for the three and six months ended June 30, 2017 and 2016, respectively.   Asset management fees paid to Advisor were $440,000 and $347,000 for the three months ended June 30, 2017 and 2016, respectively.  Asset management fees paid to Advisor were $880,000 and $680,000 for the six months ended June 30, 2017 and 2016, respectively.  Asset management and acquisition fees are captioned as such in the accompanying consolidated statements of operations for the three and six months ended June 30, 2017 and 2016, respectively.


On June 1, 2016, the Company acquired a three story office building containing approximately 166,000 square feet of office space located in Irving, Texas, commonly known as Westway One (the “Westway One Property”) by




15




HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINACIAL STATEMENTS

(Unaudited)



Hartman Westway One, LLC, a wholly owned subsidiary of the Operating Partnership.  The Westway One Property was acquired for $21,638,000, exclusive of closing costs, from an unaffiliated third party seller.  The Westway One Property was 100% occupied at the acquisition date.  An acquisition fee of $541,000 was earned by the Advisor in connection with the purchase of the Westway One Property.


The following table summarizes the fair value of the assets acquired and liabilities assumed based upon the Company’s initial purchase price allocation as of the acquisition date, in thousands:


 

Westway One

Assets acquired:

 

Real estate assets

$             21,638

Other assets

-

  Total assets acquired

          21,638

 

 

Liabilities assumed:

 

Accounts payable and accrued expenses

232

Security deposits

38

  Total liabilities assumed

270

 

 

Fair value of net assets acquired

$             21,368


On June 17, 2016, Hartman Westway One, LLC admitted an unrelated independent investor as a member for $5,500,000 in exchange for a 45.67% noncontrolling member interest.


The Company identifies and records the value of acquired lease intangibles at the property acquisition date. Such intangibles include the value of acquired in-place leases and above and below-market leases. Acquired lease intangibles are amortized over the leases' remaining terms.  With respect to all properties owned by the Company, we consider all of the in-place leases to be market rate leases.


The amount of total in-place lease intangible asset and the respective accumulated amortization are as follows, in thousands:

 

 

 

 

June 30, 2017

December 31, 2016

In-place lease value intangible

$               63,573

$                63,573

In-place leases – accumulated amortization

(42,855)

(34,635)

 Acquired lease intangible assets, net

$               20,718

$                28,938



Note 4 — Accrued Rent and Accounts Receivable, net


Accrued rent and accounts receivable, net, consisted of the following, in thousands:


 

 

 

 

June 30, 2017

December 31, 2016

Tenant receivables

$                3,257

$                  2,889

Accrued rent

4,660

3,583

Allowance for doubtful accounts

(1,395)

(1,206)

Accrued Rents and Accounts Receivable, net

$                6,522

$                 5,266





16




HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINACIAL STATEMENTS

(Unaudited)



As of June 30, 2017 and December 31, 2016, the Company had an allowance for uncollectible accounts of $1,395,000 and $1,206,000, respectively.  For the three months ended June 30, 2017 and 2016, the Company recorded bad debt expense in the amount of $38,000 and $91,000, respectively, related to tenant receivables that we have specifically identified as potentially uncollectible based on our assessment of each tenant’s credit-worthiness.  For the six months ended June 30, 2017 and 2016, the Company recorded bad debt expense in the amount of $189,000 and $285,000, respectively.  For the six months ended June 30, 2017 and 2016, the Company recorded write-offs of $0 and $40,000, respectively.  Bad debt expense and any related recoveries are included in property operating expenses in the accompanying consolidated statements of operations.


Note 5 — Deferred Leasing Commission Costs, net


Costs which have been deferred consist of the following, in thousands:


 

 

 

 

June 30, 2017

December 31, 2016

Deferred leasing commissions costs

$                7,725

$                   6,116

Less: accumulated amortization

(1,930)

(1,341)

 Deferred leasing commission costs, net

$                5,795

$                   4,775


Note 6 — Notes Payable


The Company is a party to a $30.0 million revolving credit agreement (the “TCB Credit Facility”) with Texas Capital Bank.  The TCB Credit Facility is secured by the Gulf Plaza, Parkway Plaza I&II, Timbercreek, Copperfield and One Technology Center properties.  The borrowing base based on the collateral properties is $20.925 million.  The TCB Credit Facility note, bears interest at the greater of 4.25% per annum or the bank’s prime rate plus 1% per annum. The interest rate was 5.00% and 4.75% per annum as of June 30, 2017 and December 31, 2016.  As of April 1, 2017, the Company will pay 0.25% per annum on the unused balance of the TCB Credit Facility. All borrowings under the TCB Credit Facility mature on May 9, 2018.  

The outstanding balance under the TCB Credit Facility was $8,050,000 as of June 30, 2017 and $7,800,000 as of December 13, 2016, respectively.  As of June 30, 2017 the amount available to be borrowed is $12,875,000.  As of June 30, 2017, the Company was in compliance with all loan covenants under the TCB Credit Facility.

The Company is a party to a $15.52 million revolving credit agreement (the “EWB Credit Facility”) with East West Bank.  The borrowing base of the EWB Credit Facility may be adjusted from time to time subject to the lender’s underwriting with respect to real property collateral.    The EWB Credit Facility is secured by the Commerce Plaza Hillcrest, Corporate Park Place and 400 North Belt properties.  The EWB Credit Facility note bears interest at the greater of 3.75% per annum or the bank’s prime rate plus 0.50%.  The interest rate was 4.50% and 4.25% per annum as of June 30, 2017 and as of December 31, 2016, respectively.  All loans under the EWB Credit Facility mature on August 24, 2017.

On October 8, 2015, the Company entered into a second revolving credit agreement with East West Bank (the “EWB II Credit Facility”).  The borrowing base of the EWB II Credit Facility is $9.9 million and may be adjusted from time to time subject to the lender’s underwriting with respect to the real property collateral.    The EWB II Credit Facility is secured by the Ashford Crossing and Skymark Tower properties.  The EWB II Credit Facility note bears interest at the greater of 3.75% per annum or the bank’s prime rate plus 0.50%.  The interest rate was 4.5% and 4.25% per annum as of June 30, 2017 and as of December 31, 2016, respectively.  The Company and East West Bank have agreed to a one-year extension and modification of the EWB Credit Facility and the EWB II Credit Facility.  As modified the EWB Credit Facility and the EWB II Credit Facility will mature on August 24, 2018.

The aggregate outstanding balance under the EWB Credit Facility and EWB II Credit Facility was $21,900,000 as of June 30, 2017 and December 31, 2016.  As of June 30, 2017, the aggregate amount available to be borrowed




17




HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINACIAL STATEMENTS

(Unaudited)



under the EWB Credit Facility and EWB II Credit Facility is $3,520,000.  As of June 30, 2017, the Company was in compliance with all loan covenants under the EWB Credit Facility and EWB II Credit Facility.

Loan costs are amortized using the straight-line method over the terms of the loans, which approximates the interest method.  Costs which have been deferred consist of the following, in thousands:

 

 

 

 

June 30, 2017

December 31, 2016

Deferred loan costs

$                2,232

$                   2,160

Less:  deferred loan cost accumulated amortization

(934)

(693)

  Total cost, net of accumulated amortization

$                1,298

$                   1,467


      The following is a summary of the Company’s notes payable as of June 30, 2017, in thousands:

Property/Facility

Payment (1)

Maturity Date

Rate

June 30, 2017

December 31, 2016

Richardson Heights (2)

P&I

July 1, 2041

4.61%

$            18,986

$           19,200

Cooper Street (2)

P&I

July 1, 2041

4.61%

 7,895

7,984

Bent Tree Green (2)

P&I

July 1, 2041

4.61%

 7,895

7,984

Mitchelldale (2)

P&I

July 1, 2041

4.61%

 11,960

12,096

Energy Plaza I & II

P&I

June 10, 2021

5.30%

 9,911

10,007

Westway One

IO

June 1, 2019

3.56%

 10,819

10,819

Three Forest Plaza

IO

December 31, 2019

3.86%

 17,828

17,828

TCB Credit Facility

IO

May 9, 2018

5.00%

 8,050

7,800

EWB Credit Facility

IO

August 24, 2018

4.50%

 12,000

12,000

EWB II Credit Facility

IO

August 24, 2018

4.50%

 9,900

9,900

 

 

 

 

 $         115,244

$         115,618

Less unamortized deferred loan costs

 

 

(1,298)                                   

(1,467)                                   

 

 

 

 

$         113,946

$         114,151


(1)

Principal and interest (P&I) or interest only (IO).  


(2)

Each promissory note contains a call option wherein the holder of the promissory note may declare the outstanding balance due and payable on either July 1, 2024, July 1, 2029, July 1, 2034, or July 1, 2039.  


Interest expense incurred for the three months ended June 30, 2017 and 2016 was $1,481,000 and $890,000, respectively, which includes amortization expense of deferred loan costs. Interest expense incurred for the six months ended June 30, 2017 and 2016 was $2,864,000 and $1,736,000, respectively.  Interest expense of $289,000 and $224,000 was payable as of June 30, 2017 and December 31, 2016, respectively, and is included in accounts payable and accrued expenses in the accompanying consolidated balance sheets.








18




HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINACIAL STATEMENTS

(Unaudited)



Note 7 — Loss Per Share

        

       Basic loss per share is computed using net loss attributable to common stockholders and the weighted average number of common shares outstanding.  Diluted earnings per share reflect common shares issuable from the assumed conversion of convertible preferred stock into common shares. Only those items that have a dilutive impact on basic earnings per share are included in the diluted earnings per share, in thousands except per share data.



 

Three months ended June 30,

Six months ended June 30,

 

2017

2016

2017

2016

Numerator:

 

 

 

 

 Net loss attributable to common stockholders

$(2,793)

$(2,484)

$(4,552)

$(4,453)

Denominator:

 

 

 

 

 Basic and diluted weighted average common shares outstanding

18,126

17,910

18,147

16,500

 

 

 

 

 

 Basic and diluted loss per common share:

 

 

 

 

 Net loss attributable to common stockholders

 $(0.15)

 $(0.14)

$(0.25)

$(0.27)


Note 8 — Income Taxes


Federal income taxes are not provided for because we qualify as a REIT under the provisions of the Internal Revenue Code and because we have distributed and intend to continue to distribute all of our taxable income to our stockholders. Our stockholders include their proportionate taxable income in their individual tax returns. As a REIT, we must distribute at least 90% of our real estate investment trust taxable income to our stockholders and meet certain income sources and investment restriction requirements. In addition, REITs are subject to a number of organizational and operational requirements. If we fail to qualify as a REIT in any taxable year, we will be subject to federal income tax (including any applicable alternative minimum tax) on our taxable income at regular corporate tax rates.


For the three months ended June 30, 2017 and 2016, the Company incurred a net loss of $2,810,000 and $2,434,000, respectively.  For the six months ended June 30, 2017 and 2016, the Company incurred a net loss of $4,505,000 and $4,403,000 respectively.  The Company formed one taxable REIT subsidiary which may generate future taxable income which may be offset by the net loss carry forward.  The Company considers that any deferred tax benefit and corresponding deferred tax asset which may be recorded considering the net loss carry forward would be properly offset by an equal valuation allowance in that no material current or future taxable income is expected.  Accordingly, no deferred tax benefit or deferred tax asset has been recorded in the consolidated financial statements.


The Company is required to recognize in its consolidated financial statements the financial effects of a tax position only if it is determined that it is more likely than not that the tax position will not be sustained upon examination, including resolution of any related appeals or litigation processes, based on the technical merits of the position.  Management has reviewed the Company’s tax positions and is of the opinion that material positions taken by the Company would more likely than not be sustained upon examination.  Accordingly, the Company has not recognized a liability related to uncertain tax positions.





19




HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINACIAL STATEMENTS

(Unaudited)



Taxable income (loss) differs from net income (loss) for financial reporting purposes principally due to differences in the timing of recognition of interest, real estate taxes, depreciation and amortization and rental revenue.

 

Note 9 — Related Party Transactions


The Advisor is a Texas limited liability company owned 70% by Allen R. Hartman individually and 30% by the Property Manager.  The Advisor is a variable interest entity which consolidates for financial reporting purposes with Hartman Income REIT, Inc. and subsidiaries, of which Allen R. Hartman, our Chief Executive Officer and Chairman of the Board of Directors, owns approximately 16% of the voting common stock.


For the three months ended June 30, 2017 and 2016 the Company incurred $440,000 and $347,000, respectively, for asset management fees payable to the Advisor. For the six months ended June 30, 2017 and 2016 the Company incurred $880,000 and $680,000, respectively, for asset management fees payable to the Advisor.   Acquisition fees paid to Advisor were $0 and $541,000 for the three months and six months ended June 30, 2017 and 2016.


Property operating expenses include property management fees and reimbursements due to the Property Manager of $977,000 and $784,000 for the three months ended June 30, 2017 and 2016, respectively, and $1,969,000 and $1,571,000 for six months ended June 30, 2017 and 2016, respectively.  For the three months ended June 30, 2017 and 2016, respectively, the Company incurred $787,000 and $1,121,000 for leasing commissions and $78,000 and $87,000 for construction management fees due to the Property Manager.  For the six months ended June 30, 2017 and 2016, respectively, the Company incurred $1,609,000 and $1,489,000 for leasing commissions and $165,000 and $139,000 for construction management fees due to the Property Manager.  Leasing commissions and construction management fees are included in deferred leasing commission costs and real estate assets, respectively, in the consolidated balance sheets.


       As of June 30, 2017, and December 31, 2016, respectively, the Company had a net balance due (from) to the Property Manager of ($935,000) and due to $518,000.


The Company had a balance due from an affiliate, Hartman Short Term Income Properties XIX, Inc. (“Hartman XIX”), of $4,665,000 and $4,474,000 as of June 30, 2017 and December 31, 2016, respectively.  The balance due from Hartman XIX includes a loan from the Company to Hartman XIX in the original amount of $4,500,000, which is not evidenced by a promissory note.  Interest has been accrued on the loan amount at an annual rate of 6%. The amount was advanced to Hartman XIX in connection with the affiliate stock purchase described below in this note.  The $465,000 and $274,000 balance due from Hartman XIX as of June 30, 2017 and December 31, 2016, respectively, is included in Due to related parties, and the principal balance of the affiliate loan of $4,200,000 and is included in Notes receivable – related party, in the accompanying consolidated balance sheets.  The Company recognized interest income on the affiliate note in the amount of $63,000 and $67,000 for the three months ended June 30, 2017 and 2016 and $126,000 and $135,000 for the six months ended June 30, 2017 and 2016, respectively, which is included in interest and dividend income in the accompanying consolidated statements of operations.


The Company owed the Advisor $155,000 and $243,000 for asset management fees as of June 30, 2017 and December 31, 2016, respectively.  These fees are monthly fees equal to one-twelfth of 0.75% of the sum of the higher of the cost or value of each asset.


On January 26, 2016, the Company’s board of directors approved the acquisition by the Company of up to $13.0 million in shares of common stock of Hartman Income REIT, Inc. (“HIREIT”), an affiliate of the Company, in connection with a tender offer by Hartman XIX to acquire for its account up to $2.0 million in shares of HIREIT common stock.  On February 5, 2016, the Company advanced $5,250,000 to Hartman XIX in connection with the contemplated acquisition of HIREIT shares.  The Company acquired 1,561,523 shares of the common stock of HIREIT for $8,978,000.  The shares were acquired by the Company in connection with a tender offer for shares of the common stock of HIREIT by Hartman XIX.  The Company’s investment in the affiliate is accounted for under




20




HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINACIAL STATEMENTS

(Unaudited)



the cost method, ownership interest at 11% in HIREIT is less than a controlling stake, and is reflected as “Investment in Affiliate” on the accompanying consolidated balance sheets.  The Company received dividend distributions from HIREIT of $107,000 and $71,000 for the three months ended June 30, 2017 and 2016, respectively, and $177,000 and $71,000 for the six months ended June 30, 2017 and 2016, respectively which is included in interest and dividend income in the accompanying consolidated statements of operations.


On May 17, 2016, the Company, through its taxable REIT subsidiary, Hartman TRS, Inc. (“TRS”), loaned $7,231,000 pursuant to a promissory note in the face amount of up to $8,820,000 to Hartman Retail II Holdings Company, Inc. (“Retail II Holdings”), an affiliate of the Advisor and the Property Manager, in connection with the acquisition of a retail shopping center by Hartman Retail II DST, a Delaware statutory trust sponsored by the Property Manager.  Pursuant to the terms of the promissory note, TRS will receive a two percent (2%) origination fee of amounts advanced under the promissory note, and interest at ten percent (10%) per annum on the outstanding principal balance.  The outstanding principal balance of the promissory note will be repaid as investor funds are raised by Hartman Retail II DST.  The maturity date of the promissory note is May 17, 2019.  For the three months ended June 30, 2017 and 2016, respectively, interest and dividend income in the accompanying consolidated statements of operations, includes $180,000 and $0 of interest income. For the six months ended June 30, 2017 and 2016, respectively, interest and dividend income in the accompanying consolidated statements of operations, includes $361,000 and $0 of interest income.  As of June 30, 2017 and December 31, 2016, respectively, the balance due from to TRS by Retail II Holdings is $44,000 and $144,000, respectively.


Variable interest entities (“VIEs”) are defined as entities with a level of invested equity that is not sufficient to fund future operations on a stand-alone basis, or whose equity holders lack certain characteristics of a controlling financial interest.  For identified VIEs, an assessment must be made to determine which party to the VIE, if any, has both the power to direct the activities of the VIE that most significantly impacts the performance of the VIE and the obligation to absorb losses or the right to receive benefits from the VIE that could potentially be significant to the VIE.


The Company is not deemed to be the primary beneficiary of Retail II Holdings, which qualifies as a VIE.  Accordingly, the assets and liabilities and revenues and expenses of Retail II Holdings have not been included in the accompanying consolidated financial statements.


As of June 30, 2017, the Company had a net balance due to Hartman vREIT XXI and Hartman Village Pointe, LLC of $200,000 and $64,000, respectively.


Note 10 – Real Estate Held for Disposition


Pursuant to the terms of a membership unit purchase agreement between the Operating Partnership and Hartman vREIT XXI, Hartman vREIT XXI had the option to acquire from time to time up to all of the membership interest of the Operating Partnership in Hartman Village Pointe at a price equal to the Operating Partnership’s investment cost.


As of February 8, 2017, the Operating Partnership sold all its interest in the joint venture for $3,675,000, of which $2,425,000 was received during the three and six months ended June 30, 2017.  The Company’s investment in the Village Pointe property joint venture is presented as real estate held for disposition in the accompanying consolidated balance sheets at December 31, 2016.  The Company’s share of operations for the three and six months ended June 30, 2017 is presented as loss from discontinued operations in the accompanying consolidated statements of operations.









21




HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINACIAL STATEMENTS

(Unaudited)






Loss from discontinued operations with respect to the Village Pointe Property is as follows, in thousands:


 

Six months ended June 30

 

2017

2016

Total revenues

$                    44

$                      -

 

 

 

Property operating expenses

6

-

Real estate taxes and insurance

8

-

Asset management fees

3

-

General and administrative

1

-

Interest expense

7

-

Total expenses

25

-

 

 

 

Loss on disposition

(27)

-

 

 

 

Net loss from discontinued operations

$                   (8)

$                      -              


Property operating expenses include $2,000 in property management fees and reimbursements earned by the Property Manager.  Asset management fees were earned by Advisor.


On April 11, 2017, the Operating Partnership entered into a membership interest purchase agreement with vREIT XXI, a related party, pursuant to which vREIT XXI may acquire up to $10,000,000 of the Operating Partnership’s equity ownership in Hartman Three Forest Plaza LLC.  As of June 30, 2017 vREIT XXI had acquired an approximately 30% equity interest in Hartman Three Forest Plaza LLC for $5,450,000.  On July 19, 2017, vREIT XXI acquired and an additional 6% equity interest for $1,000,000 bringing its total equity interest to approximately 36%.  The Three Forest Plaza property is not currently classified as Real Estate Held for Disposition.


Note 11 – Stockholders’ Equity


Common Stock


       Shares of common stock entitle the holders to one vote per share on all matters which stockholders are entitled to vote, to receive dividends and other distributions as authorized by the Company’s board of directors in accordance with the Maryland General Corporation Law and to all rights of a stockholder pursuant to the Maryland General Corporation Law.  The common stock has no preferences or preemptive, conversion or exchange rights.


       Under the Company’s articles of incorporation, the Company has authority to issue 750,000,000 shares of common stock, $0.001 par value per share, and 200,000,000 shares of preferred stock, $0.001 par value per share.

       

Preferred Stock


       Under the Company’s articles of incorporation, the Company’s board of directors has the authority to issue one or more classes or series of preferred stock, and prior to the issuance of such stock, the board of directors shall have the power to classify or reclassify, in one or more series, any unissued shares and designate the preferences, rights and privileges of such shares.  As of June 30, 2017, and December 31, 2016, respectively, the Company has issued 1,000 shares of convertible preferred stock to the Advisor at a price of $10.00 per share.







22




HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINACIAL STATEMENTS

(Unaudited)



Common Stock Issuable Upon Conversion of Convertible Preferred Stock


The convertible preferred stock issued to the Advisor will convert to shares of the Company’s common stock if (1) the Company has made total distributions on then outstanding shares of the Company’s common stock equal to the issue price of those shares plus a 6% cumulative, non-compounded, annual return on the issue price of those outstanding shares, (2) the Company lists its common stock for trading on a national securities exchange if the sum of prior distributions on then outstanding shares of the Company’s common stock plus the aggregate market value of the Company’s common stock (based on the 30-day average closing meets the same 6% performance threshold, or  (3)  the Company’s advisory agreement with the Advisor expires without renewal or is terminated (other than because of a material breach by the Advisor), and at the time of such expiration or termination the Company is deemed to have met the foregoing 6% performance threshold based on the Company’s enterprise value and prior distributions and, at or subsequent to the expiration or termination, the stockholders actually realize such level of performance upon listing or through total distributions. In general, the convertible stock will convert into shares of common stock with a value equal to 15% of the excess of the Company’s enterprise value plus the aggregate value of distributions paid to date on then outstanding shares of common stock over the aggregate issue price of those outstanding shares plus a 6% cumulative, non-compounded, annual return on the issue price of those outstanding shares. With respect to conversion in connection with the termination of the advisory agreement, this calculation is made at the time of termination even though the actual conversion may occur later, or not at all.


Stock-Based Compensation


  The Company awards shares of restricted common stock to non-employee directors as compensation in part for their service as members of the board of directors of the Company.  These shares are fully vested when granted.  These shares may not be sold while an independent director is serving on the board of directors.  For the three months ended June, 2017 and 2016, respectively, the Company granted 1,500 and 1,500 shares of restricted common stock to independent directors as compensation for services. The Company recognized $20,000 and $15,000 as stock-based compensation expense for the three months ended June 30, 2017 and 2016, respectively, and $40,000 and $30,000 for six months ended June 30, 2017 based upon the estimated fair value per share.  Stock-based compensation expense is included in general and administrative expenses in the accompanying consolidated statements of operations.


Distributions


         The following table reflects the total distributions the Company has paid, including the total amount paid and amount paid per common share, in each indicated quarter:


 

 

 

 

Quarter Paid

Distributions per Common Share

 


Total Distributions

2017

 

 

 

2nd Quarter

$                       0.175

 

$                       3,159

 1st Quarter

                    0.175

 

                       3,134

Total 2017 year to date

$                       0.350

 

$                       6,293

 

 

 

 

2016

 

 

 

 4th Quarter

$                       0.175

 

$                       3,173

 3rd Quarter

0.175

 

3,213

 2nd Quarter

0.175

 

3,042

 1st Quarter

0.175

 

2,478

Total 2016

$                       0.700

 

$                     11,906





23




HARTMAN SHORT TERM INCOME PROPERTIES XX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINACIAL STATEMENTS

(Unaudited)



Note 12 –Incentive Award Plan

The Company has adopted an incentive plan (the “Omnibus Stock Incentive Plan” or the “Incentive Plan”) that provides for the grant of incentive stock options, non-qualified stock options, stock appreciation rights, deferred stock awards, restricted stock awards, dividend equivalent rights and other stock-based awards within the meaning of Internal Revenue Code Section 422, or any combination of the foregoing. The Company has initially reserved 5,000,000 shares of the Company’s common stock for the issuance of awards under the Company’s stock incentive plan, but in no event more than ten (10%) percent of the Company’s issued and outstanding shares. The number of shares reserved under the Company’s stock incentive plan is also subject to adjustment in the event of a stock split, stock dividend or other change in the Company’s capitalization. Generally, shares that are forfeited or canceled from awards under the Company’s stock incentive plan also will be available for future awards.  


The Compensation Committee of the Board of Directors also approved an award of 1,000 shares of restricted common stock issued to each of two executives of the Property Manager during the six months ended June 30, 2017. We recognized stock-based compensation expense of $0 and $0 and $0 and $20,000 with respect to these awards based on the offering price of $10 per share for the three and six months ended June 30, 2017 and 2016, respectively.


 Incentive Plan compensation expense is included in general and administrative expenses in the accompanying consolidated statements of operations.


Note 13– Commitments and Contingencies


Economic Dependency


       The Company is dependent on the Property Manager and the Advisor for certain services that are essential to the Company, including the identification, evaluation, negotiation, purchase and disposition of properties, management of the daily operations of the Company’s real estate portfolio, and other general and administrative responsibilities.  In the event that these companies are unable to provide the respective services, the Company will be required to obtain such services from other providers.


Litigation


The Company is subject to various claims and legal actions that arise in the ordinary course of business.  Management of the Company believes that the final disposition of such matters will not have a material adverse effect on the financial position of the Company.


Note 14– Subsequent Events


On July 21, 2017, the Company and Hartman Short Term Income Properties XIX, Inc. (“Hartman XIX”), entered into an agreement and plan of merger (the “XIX Merger Agreement”) and (ii) the Company, the Operating Partnership, Hartman Income REIT, Inc. (“HIREIT”) and Hartman Income REIT Operating Partnership LP, the operating partnership of HIREIT, (“HIROP”), entered into an agreement and plan of merger (the “HIREIT Merger Agreement,” and together with the XIX Merger Agreement, the “Merger Agreements”).  See Note 1.








24






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


       Unless the context otherwise requires, all references in this report to the “Company,” “we,” “us” or “our” are to Hartman Short Term Income Properties XX, Inc.

 

Forward-Looking Statements

 

          Certain statements included in this quarterly report on Form 10-Q (this “Quarterly Report”) that are not historical facts (including statements concerning investment objectives, other plans and objectives of management for future operations or economic performance, or assumptions, or forecasts related thereto) are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities and Exchange Act of 1934, as amended.  These statements are only predictions.  We caution that forward-looking statements are not guarantees.  Actual events on our investments and results of operations could differ materially from those expressed or implied in any forward-looking statements.  Forward-looking statements are typically identified by the use of terms such as “may,” “should,” “expect,” “could,” “intend,” “plan,” “anticipate,” “estimate,” “believe,” “continue,” “predict,” “potential” or the negative of such terms and other comparable terminology.

 

          Forward-looking statements included herein are based upon our current expectations, plans, estimates, assumptions and beliefs which involve numerous risks and uncertainties. Assumptions relating to the foregoing involve judgments with respect to, among other things, future economic, competitive and market conditions and future business decisions, all of which are difficult or impossible to predict accurately and many of which are beyond our control. Although we believe that the expectations reflected in such forward-looking statements are based on reasonable assumptions, our actual results and performance could differ materially from those set forth in the forward-looking statements. Factors that could have a material adverse effect on our operations and future prospects include, but are not limited to:

 

 

 

  

the fact that we have had a net loss for each annual period since our inception;

 

 

 

 

the risk that the pending Mergers (as defined below in Subsequent Events) will not be consummated within the expected time period or at all;

 

 

 

 

the occurrence of any event, change or other circumstances that could give rise to the termination of the Merger Agreements (as defined below in Subsequent Events);

 

 

 

 

the failure to satisfy the conditions to completion of the pending Mergers;

 

 

 

 

risks related to disruption of managements attention from the ongoing business operations due to the pending Mergers;

 

 

 

 

the effect of the announcement of the pending Mergers on our operating results and business generally;

 

 

 

 

the outcome of any legal proceedings relating to the pending Mergers;

 

 

 

  

the imposition of federal taxes if we fail to qualify as a REIT in any taxable year or forego an opportunity to ensure REIT status;

  

  

  

  

uncertainties related to the national economy, the real estate industry in general and in our specific markets;

  

  

  

  

legislative or regulatory changes, including changes to laws governing REITS;

  

  

  

  

construction costs that may exceed estimates or construction delays;




25









  

  

  

  

increases in interest rates;

  

  

  

  

availability of credit or significant disruption in the credit markets;

  

  

  

  

litigation risks;

  

  

  

  

risks inherent to the real estate business, including tenant defaults, potential liability related to environmental matters and the lack of liquidity of real estate investments;

  

  

  

  

inability to obtain new tenants upon the expiration of existing leases at our properties;

  

  

  

  

inability to generate sufficient cash flows due to market conditions, competition, uninsured losses, changes in tax or other applicable laws;

  

  

  

  

the potential need to fund tenant improvements or other capital expenditures out of operating cash flow;

 

 

 

 

the fact that we pay fees and expenses to our advisor and its affiliates that were not negotiated on an arms length basis and the fact that the payment of these fees and expenses increases the risk that our stockholders will not earn a profit on their investment in us;

 

our ability to generate sufficient cash flows to pay distributions to our stockholders;

 

our ability to retain our executive officers and other key personnel of our advisor and other affiliates of our advisor; and

 

changes to generally accepted accounting principles, or GAAP.

 

 

 


          The forward-looking statements should be read in light of these factors and the factors identified in the Risk Factors section of our Annual Report on Form 10-K for the year ended December 31, 2016 as filed with the SEC on April 11, 2017.


The following discussion and analysis should be read in conjunction with the accompanying interim consolidated financial information.


Overview


We were formed as a Maryland corporation on February 5, 2009 to invest in and operate real estate and real estate-related assets on an opportunistic basis.  We may acquire a wide variety of commercial properties, including office, industrial, retail, and other real properties.  These properties may be existing, income-producing properties, newly constructed properties or properties under development or construction. In particular, we focus on acquiring properties with significant possibilities for short-term capital appreciation, such as those requiring development, redevelopment or repositioning or those located in markets with high growth potential.  We also may invest in real estate-related securities and, to the extent that our advisor determines that it is advantageous, we may invest in mortgage loans.

 

On February 9, 2010, we commenced our initial public offering to sell a maximum of $250,000,000 in shares of our common stock to the public in our initial public offering at a price of $10 per share and up to $23,750,000 in shares of common stock to our stockholders pursuant to our distribution reinvestment plan at a price of $9.50 per share.  On April 25, 2013, we terminated our initial public offering.  As of the termination of our initial public offering on April 25, 2013, we had accepted subscriptions for and issued 4,455,678 shares of our common stock,




26






including 162,561 shares of our common stock issued pursuant to our distribution reinvestment plan, resulting in aggregate gross offering proceeds of $43,943,731.


On July 16, 2013, we commenced our follow-on public offering, or our “follow-on offering,” of up to $200,000,000 in shares of our common stock to the public at a price of $10.00 per share and up to $19,000,000 in shares of our common stock to our stockholders pursuant to our distribution reinvestment plan at a price of $9.50 per share. Effective March 31, 2016, we terminated the offer and sale of our common shares to the public in our follow-on offering. Effective July 16, 2016, we terminated the sale of additional shares of our common stock to our stockholders pursuant to our distribution reinvestment plan. As of December 31, 2016, we had accepted subscriptions for, and issued 14,118,783 shares of our common stock in our follow-on offering, including 1,053,679 shares of our common stock issued pursuant to our distribution reinvestment plan, resulting in aggregate gross proceeds of $137,392,749.  As of December 31, 2016, we had accepted subscriptions for, and issued an aggregate of 18,574,461 shares of our common stock in our initial public offering and follow-on offering, including 1,216,240 shares of our common stock issued pursuant to our distribution reinvestment plan, resulting in aggregate gross proceeds from both offerings of $181,336,480.


We intend to invest the remaining net proceeds of our public offerings in commercial real estate properties and other real estate-related investments.  As of June 30, 2017, we owned or held a majority ownership interest in 17 commercial real properties comprising approximately 2,928,000 square feet.  


We operate under the direction of our board of directors, the members of which are accountable to us and our stockholders.  We are externally managed by Hartman Advisors, LLC, which we refer to as our “advisor,” pursuant to an advisory agreement by and among us and our advisor, which we refer to as the “Advisory Agreement.”  Subject to certain restrictions and limitations, our advisor manages our day-to-day operations and our portfolio of properties and real estate related assets.  Our advisor sources and presents investment opportunities to our board of directors.  Our advisor also provides investment management, marketing, investor relations and other administrative services on our behalf.  The key personnel of our advisor are involved in the selection, acquisition, financing and disposition of our properties, and raising the capital to purchase.  The key personnel of our advisor have extensive experience in selecting and operating commercial real estate and in operating investment entities that acquire commercial real estate.  Our affiliated property manager is Hartman Income REIT Management, Inc. which we refer to as our “property manager,” which is responsible for operating, leasing and maintaining our properties.  Our property manager is the wholly owned subsidiary of Hartman Income REIT, Inc. which we refer to as “HIREIT,” a real estate investment trust that has investment objectives that are similar to those that we employ.


Investment Objectives and Strategy: Hartman Advantage


       Our primary investment objectives are to:


  

·

realize growth in the value of our investments;

  

·

preserve, protect and return stockholders capital contributions; and

 

·

grow net cash from operations and pay regular cash distributions to our stockholders.

 

We cannot assure our stockholders that we will achieve these objectives.


The cornerstone of our investment strategy is our advisor’s discipline in acquiring a portfolio of real estate properties, specifically properties that are located in Texas, that offer a blend of current and potential income based on in place occupancy plus relatively significant potential for growth in income and value from re-tenanting; repositioning or redevelopment.  We refer to this strategy as “value add” or the “Hartman Advantage.”





27






We rely upon the value add or Hartman Advantage strategy to evaluate numerous potential commercial real estate acquisition and investment opportunities per completed acquisition or investment.


Effective March 31, 2016 we terminated our follow-on offering.  Our board of directors continues to evaluate potential liquidity events to maximize the total potential return to our stockholders, including, but not limited to, merging our Company with its affiliates followed by a listing of our shares of common stock on a national securities exchange.  However, our board of directors has not made a decision to pursue any specific liquidity event, and there can be no assurance that we will complete a liquidity event on the terms described above, or at all.


We do not anticipate that there will be any market for our shares of common stock unless they are listed on a national securities exchange.  In the event that our shares of common stock are not listed or traded on an established securities exchange prior to the tenth anniversary of the termination of our initial public offering, which terminated on April 25, 2013, our charter requires that the board of directors must seek the approval of our stockholders of a plan to liquidate our assets, unless the board of directors has obtained the approval of our stockholders (1) to defer the liquidation of our assets or (2) of an alternate strategy.


We believe that we have sufficient capital to meet our existing debt service and other operating obligations for the next year and that we have adequate resources to fund our cash needs. However, our operations are subject to a variety of risks, including, but not limited to, changes in national economic conditions, the restricted availability of financing, changes in demographic trends and interest rates and declining real estate valuations. As a result of these uncertainties, there can be no assurance that we will meet our investment objectives or that the risks described above will not have an adverse effect on our properties or results of operations.

 

We elected under Section 856(c) of the Internal Revenue Code to be taxed as a REIT beginning with the taxable year ending December 31, 2011.  As a REIT we generally are not subject to federal income tax on income that we distribute to our stockholders.  If we fail to qualify as a REIT in any taxable year after the year in which we initially elected to be treated as a REIT, we will be subject to federal income tax on our taxable income at regular corporate rates and will not be permitted to qualify for treatment as a REIT for federal income tax purposes for four years following the year in which our qualification is denied. Such an event could materially and adversely affect our net income. However, we believe that we are organized and will operate in a manner that will enable us to qualify for treatment as a REIT for federal income tax purposes and we intend to operate so as to remain qualified as a REIT for federal income tax purposes.

























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Our Real Estate Portfolio


As of June 30, 2017, we owned or held a majority ownership interest in the 17 commercial real estate properties listed below.  Except as noted in the table below (and the footnotes thereto), we own a 100% ownership interest in each of our properties.  All figures below are in thousands except for per square foot and percentage occupancy.


Property Name

Location

 Gross Leasable Area SF

Percent Occupied

Annualized Base Rental Revenue, in thousands

Average Base Rental Revenue per Occupied SF

Average Net Effective Annual Base Rent per Occupied SF

Retail:

 

 

 

 

 

 

Richardson Heights

Dallas

      201,433

74%

$         2,770

$       18.50

 $              20.02

Cooper Street

Dallas

      127,696

100%

1,498

11.73

11.64

Total - Retail

 

      329,129

84%

 $         4,268

$       15.38

 $              16.16

Office:

 

 

 

 

 

 

Bent Tree Green

Dallas

      139,609

85%

 $         1,772

$       14.99

$              15.42

Parkway Plaza I&II

Dallas

      136,506

67%

1,526

16.76

18.26

Hillcrest

Dallas

      203,688

72%

2,030

13.92

14.66

Skymark

Dallas

      115,700

83%

1,720

17.94

18.95

Corporate Park Place

Dallas

      113,429

81%

1,374

15.04

15.86

Westway One (1)

Dallas

      165,982

100%

3,068

18.48

20.50

Three Forest Plaza (2)

Dallas

      366,549

79%

5,130

17.76

17.80

Gulf Plaza

Houston

      120,651

100%

2,402

19.93

19.87

Timbercreek Atrium

Houston

        51,035

88%

765

16.95

17.50

Copperfield

Houston

        42,621

78%

618

18.50

19.23

400 North Belt

Houston

      230,872

58%

1,225

9.10

9.54

Ashford Crossing

Houston

      158,451

53%

1,426

16.93

17.91

Energy Plaza

San Antonio

      180,119

83%

3,171

21.12

21.59

One Technology Center

San Antonio

      196,348

95%

4,347

23.37

24.22

Total - office

 

   2,221,560

79%

$       30,575

$        17.46

18.16

Flex/Industrial

 

 

 

 

 

 

Mitchelldale

Houston

     377,752

87%

$         2,056

$          6.28

$                 6.44

Total - Flex/Industrial

 

     377,752

87%

$         2,056

$          6.28

$                 6.44

Grand Total

 

   2,928,441

80%

 $       36,899

$        15.66

$               16.30


(1)

The Westway One property is owned by Hartman Westway One, LLC.  On June 17, 2016, we sold a 45.67% minority interest in Hartman Westway One, LLC to an unrelated investor for $5,500,000.  As of June 30, 2017, we own a 54.33% membership interest in Hartman Westway One, LLC.


(2)

On April 11, 2017, our Operating Partnership entered into a membership interest purchase agreement with Hartman vREIT XXI, Inc. (“vREIT XXI”), a related party, pursuant to which vREIT XXI may acquire up to $10,000,000 of our Operating Partnership’s ownership interest in Hartman Three Forest Plaza LLC.  On April 11, 2017, pursuant to the membership interest purchase agreement, vREIT XXI acquired 160,000 membership units of Hartman Three Forest Plaza LLC, representing an approximately 9% interest in the members’ equity of Hartman Three Forest Plaza LLC, from the Operating Partnership for $1,600,000.  On May 18, 2017, vREIT XXI acquired an additional 130,000 membership units of Hartman Three Forest Plaza LLC,




29






representing an additional approximately 7% interest in the members’ equity of Hartman Three Forest Plaza LLC, from the Operating Partnership for $1,300,000. On June 8, 2017, vREIT XXI acquired an additional 195,000 membership units of Hartman Three Forest Plaza LLC, representing an additional approximately 11% interest in the members’ equity of Hartman Three Forest Plaza LLC, from the Operating Partnership for $1,950,000.  On May 18, 2017, vREIT XXI acquired an additional 60,000 membership units of Hartman Three Forest Plaza LLC, representing an additional approximately 3% interest in the members’ equity of Hartman Three Forest Plaza LLC, from the Operating Partnership for $600,000.  As of June 30, 2017, the vREIT XXI has acquired an approximately 30% equity interest in Three Forest Plaza LLC for $5,450,000.  On July 19, 2017, vREIT XXI acquired and an additional 6% equity interest for $1,000,000 bringing its total equity interest to approximately 36%.


CRITICAL ACCOUNTING POLICIES AND ESTIMATES


Our results of operations and financial condition, as reflected in the accompanying consolidated financial statements and related notes, require us to make estimates and assumptions that are subject to management’s evaluation and interpretation of business conditions, changing capital market conditions and other factors related to the ongoing viability of our customers.  With different estimates or assumptions, materially different amounts could be reported in our consolidated financial statements.  A summary of our critical accounting policies is included in our Annual Report on Form 10-K for the year ended December 31, 2016, under as filed with the SEC on April 11, 2017, in the section titled "Management's Discussion and Analysis of Financial Condition and Results of Operations."  There have been no significant changes to these policies during the three and six months ended June 30, 2017.  See also Note 2 to our consolidated financial statements in this Quarterly Report on Form 10-Q for a discussion of our significant accounting policies.


RESULTS OF CONTINUING OPERATIONS


Comparison of the three months ended June 30, 2017 versus June 30, 2016.

 

       As of June 30, 2017, we owned or held a majority ownership interest in 17 commercial properties comprising approximately 2,928,000 square feet plus three pad sites, all located in Texas.  As of June 30, 2017, we owned nine properties located in Richardson, Arlington, and Dallas, Texas, six properties located in Houston, Texas and two properties located in San Antonio, Texas.  As of June 30, 2016, we owned 16 commercial properties comprising approximately 2,562,000 square feet plus three pad sites, all located in Texas.  As of June 30, 2016, we owned eight properties located in Richardson, Arlington, and Dallas, Texas, six properties located in Houston, Texas and two properties located in San Antonio, Texas.

  

We define same store (“Same Store”) properties as those properties which we owned for the entirety of the three months ended June 30, 2017 and June 30, 2016.  For purposes of the following discussion, Same Store properties refer to Richardson Heights, Cooper Street, Bent Tree Green, Parkway, Gulf Plaza, Mitchelldale, Energy Plaza, Timbercreek, Copperfield, Commerce Plaza Hillcrest, 400 North Belt, Ashford Crossing, Corporate Park Place, Skymark Tower and One Technology Center.  New store (“New Store”) properties refer to Westway One and Three Forest Plaza.  


Net operating income (property revenues minus property expenses), or “NOI,” is the measure used by management to assess property performance. NOI is not a measure of operating income or cash flows from operating activities as measured by accounting principles generally accepted in the United States, or “GAAP,” and is not indicative of cash available to fund cash needs. As a result, NOI should not be considered an alternative to cash flows as a measure of liquidity. Not all companies calculate NOI in the same manner. We consider NOI to be an appropriate supplemental measure to net income because it assists both investors and management in understanding the operating results of our real estate.    Set forth below is a reconciliation of NOI to net loss.







30









 (in thousands)

Three months ended June 30,

 

2017

2016

Change

Same Store:

 

 

 

 Revenue

 $       8,312

 $       8,912

 $         (600)

 Property operating expenses

          3,036

          2,828

             208

 Real estate taxes and insurance

          1,133

          1,129

                 4

 Asset management fees

             333

             333

           -

 General and administrative

             722

             667

               55

Same Store NOI

 $       3,088

 $        3,955

 $         (867)

 

 

 

 

New Store:

 

 

 

 Revenue

 $       2,435

 $           304

 $         2,131

 Property operating expenses

             752

               14

             738

 Real estate taxes and insurance

             345

               33

             312

 Asset management fees

             107

               14

               93

 General and administrative

               22

                 3

               19

New Store NOI

          1,209

             240

             969

Property NOI

 $        4,297

 $        4,195

 $            102

 

 

 

 

 

 

 

 

Reconciliation of Net loss to Property NOI

 

 

 

 

 

 

 

Net loss

 $      (2,810)

 $      (2,434)

 $          (376)

 Asset acquisition fees

                -   

                541   

              (541)   

 Organization and offering costs

                -   

             206

            (206)

 Depreciation and amortization

          5,940

          5,383

             557

 Interest expense

          1,481

            890

          591

 Interest and dividend income

            (314)

             (391)

         77

 Discontinued operations

                -   

-

-

Property NOI

 $          4,297

 $         4,195

 $             102


Revenues – The primary source of our revenue is rental revenues and tenant reimbursements.  For the three months ended June 30, 2017 and 2016 we had total rental revenues and tenant reimbursements of $10,747,000 and $9,216,000, respectively. The $1,531,000 increase in total rental revenues and tenant reimbursements was primarily due to the fact that we owned 17 properties as of June 30, 2017, as compared to the 16 properties we owned as of June 30, 2016.  The Westway property was owned for three months versus one month in 2016 and the Three Forest property was owned for three months of the three-month period ended June 30, 2017 (Three Forest was acquired December 22, 2016).  Same Store property revenues decreased by $600,000, or approximately 7.2%, for the three months ended June 30, 2017 compared to the three months ended June 30, 2016 due to reduced occupancy at the Bent Tree, 400 North Belt and Ashford Crossing properties.  


Operating expensesOperating expenses consist of property operating expenses (contract services, repairs and maintenance, utilities and management fees); real estate taxes and insurance; asset management fees and some general and administrative expenses.  For the three months ended June 30, 2017 and June 30, 2016 we had operating expenses of $6,450,000 and $5,021,000, respectively.  Same Store operating expenses increased $267,000 for the




31






three months ended June 30, 2017 over the three months ended June 30, 2016 due to increased repair and maintenance costs.


 Fees to affiliatesWe pay acquisition fees and asset management fees to our advisor in connection with the acquisition of properties and management of our company.  Asset management fees incurred to our advisor were $440,000 and $347,000 for the three months ended June 30, 2017 and June 30, 2016, respectively.  Acquisition costs related to the acquisition of our properties were $0 and $541,000 for the three months ended June 30, 2017 and June 30, 2016, respectively. The increase in asset management fees is attributable to the Westway property acquired June 1, 2016 and the Three Forest Plaza property acquired December 22, 2016.  We pay property management and leasing commissions to our Property Manager in connection with the management and leasing of our properties.  For three months ended June 30, 2017 and June 30, 2016 we were charged by our Property Manager $977,000 and $784,000, respectively, for property management fees expense reimbursements and $787,000 and $1,121,000, respectively, for leasing commissions. The increase in property management fees we were charged by our Property Manager from three months ended June 30, 2016 to three months ended June 30, 2017 was primarily due to the increase in revenues attributable to the Westway and Three Forest properties.


Real estate taxes and insurance – Real estate taxes and insurance were $1,478,000 and $1,162,000 for the three months ended June 30, 2017 and 2016, respectively. The increase in real estate taxes and insurance from the three months ended June 30, 2016 to the three months ended June 30, 2017 was primarily due to the fact that we owned 17 properties as of June 30, 2017, as compared to the 16 properties we owned as of June 30, 2016.

 

Depreciation and amortization – Depreciation and amortization were $5,940,000 and $5,383,000 for the three months ended June 30, 2017 and 2016, respectively.  Depreciation and amortization increased from the three months ended June 30, 2016 to the three months ended June 30, 2017 primarily due to the fact that we owned 17 properties as of June 30, 2017, as compared to the 16 properties we owned as of June 30, 2016.


General and administrative expenses - General and administrative expenses were $744,000 and $670,000 for the three months ended June 30, 2017 and 2016, respectively.  General and administrative expenses consist primarily of audit fees, transfer agent fees, other professional fees, and independent director compensation. The increase in general and administrative expenses is due to increased professional fees and certain recoverable and non-recoverable property operating expenses. We expect general and administrative expenses to increase only modestly in future periods as we acquire additional real estate and real estate related assets.  We expect general and administrative expenses to decrease substantially as a percentage of total revenue.


Organizational and offering costs - We have incurred certain expenses in connection with our organization and the sale of our shares of common stock.  These costs principally relate to professional and filing fees.  As of June 30, 2017, such costs totaled $3,020,000 and have been expensed as incurred since February 5, 2009, the date of our inception.  For the three months ended June 30, 2017 and June 30, 2016, organization and offering costs were $0 and $206,000, respectively.


Net loss – We incurred net losses of $2,810,000 and $2,434,000 for the three months ended June 30, 2017 and 2016, respectively.  The net loss for the three months ended June 30, 2017 is primarily attributable to depreciation and amortization expense attributable to real estate assets.


Comparison of the six months ended June 30, 2017 versus June 30, 2016.


       As of June 30, 2017, we owned or held a majority ownership interest in 17 commercial properties comprising approximately 2,928,000 square feet plus three pad sites, all located in Texas.  As of June 30, 2017, we owned nine properties located in Richardson, Arlington, and Dallas, Texas, six properties located in Houston, Texas and two properties located in San Antonio, Texas.  As of June 30, 2016, we owned 16 commercial properties comprising approximately 2,562,000 square feet plus three pad sites, all located in Texas.  As of June 30, 2016, we owned eight properties located in Richardson, Arlington, and Dallas, Texas, six properties located in Houston, Texas and two properties located in San Antonio, Texas.    




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For purposes of the following discussion, Same Store properties refer to Richardson Heights, Cooper Street, Bent Tree Green, Parkway, Gulf Plaza, Mitchelldale, Energy Plaza, Timbercreek, Copperfield, Commerce Plaza Hillcrest, 400 North Belt, Ashford Crossing, Corporate Park Place, Skymark Tower and One Technology Center.  New Store properties refer to Westway One and Three Forest Plaza.  


NOI is the measure used by management to assess property performance. NOI is not a measure of operating income or cash flows from operating activities as measured by GAAP and is not indicative of cash available to fund cash needs. As a result, NOI should not be considered an alternative to cash flows as a measure of liquidity. Not all companies calculate NOI in the same manner. We consider NOI to be an appropriate supplemental measure to net income because it assists both investors and management in understanding the operating results of our real estate.  Set forth below is a reconciliation of NOI to net loss.  


 (in thousands)

Six months ended June 30,

 

2017

2016

Change

Same Store:

 

 

 

 Revenue

 $     17,220

 $     18,162

 $         (942)

 Property operating expenses

          6,454

          6,054

             400

 Real estate taxes and insurance

          1,409

          2,316

            (907)

 Asset management fees

             665

          666

            (1)

 General and administrative

          1,276

          1,242

               34

Same Store NOI

 $       7,416

 $       7,884

 $         (468)

 

 

 

 

New Store:

 

 

 

 Revenue

 $       4,749

 $          304

 $         4,445

 Property operating expenses

             533

               14

             519

 Real estate taxes and insurance

          1,573

               33

          1,540

 Asset management fees

             215

               14

             201

 General and administrative

               45

                 3

               42

New Store NOI

          2,383

             240

          2,143

Property NOI

 $       9,799

 $       8,124

 $         1,675

 

 

 

 

 

 

 

 

Reconciliation of Net loss to Property NOI

 

 

 

 

 

 

 

Net loss

 $      (4,505)

 $      (4,403)

 $           (102)

 Asset acquisition fees

                -   

               541   

(541)   

 Organization and offering costs

                -   

              (44)

               44

 Depreciation and amortization

        12,098

        10,685

          1,413

 Interest expense

          2,864

           1,736

          1,128

 Interest and dividend income

          (666)

          (391)

            (275)

 Loss from discontinued operations

                8

-

8

Property NOI

 $       9,799

 $       8,124

 $       1,675

 




33






Revenues – The primary source of our revenue is rental revenues and tenant reimbursements.  For six months ended June 30, 2017 and 2016 we had total rental revenues and tenant reimbursements of $21,969,000 and $18,466,000, respectively. The $3,503,000 increase in total rental revenues and tenant reimbursements was primarily due to the fact that we owned 17 properties as of June 30, 2017, as compared to the 16 properties we owned as of June 30, 2016.  Same Store property revenues decreased by $942,000, or approximately 5.5%, for the six months ended June 30, 2017 compared to the six months ended June 30, 2016 due to reduced occupancy at the Bent Tree, 400 North Belt and Ashford Crossing properties.  


Operating expensesOperating expenses consist of property operating expenses (contract services, repairs and maintenance, utilities and management fees); real estate taxes and insurance; asset management fees and some general and administrative expenses.  For the six months ended June 30, 2017 and June 30, 2016 we had operating expenses of $12,170,000 and $10,883,000, respectively.  Same Store property operating expenses increased $400,000 due to increased repair and maintenance expense, real estate tax and insurance decreased $907,000 due to successful reduction in ad valorem tax controversies regarding taxable property values for the six months ended June 30, 2017 over the six months ended June 30, 2016.


Fees to affiliatesWe pay acquisition fees and asset management fees to our advisor in connection with the acquisition of properties and management of our company.  Asset management fees paid to our advisor were $880,000 and $680,000 for the six months ended June 30, 2017 and June 30, 2016, respectively.  Acquisition costs related to the acquisition of our properties were $0 and $541,000 for the six months ended June 30, 2017 and June 30, 2016, respectively. The increase in asset management fees is attributable to the Westway acquired June 1, 2016 and the Three Forest property acquired December 22, 2016. We pay property management and leasing commissions to our Property Manager in connection with the management and leasing of our properties.  For six months ended June 30, 2017 and June 30, 2016 we were charged by our Property Manager $1,968,000 and $1,571,000, respectively, for property management fees expense reimbursements and $1,609,000 and $1,489,000, respectively, for leasing commissions. The increase in property management fees we were charged by our Property Manager from six months ended June 30, 2016 to three months ended June 30, 2017 was primarily due to the increase in revenues attributable to the Westway and Three Forest properties.


Real estate taxes and insurance – Real estate taxes and insurance were $2,982,000 and $2,349,000 for the six months ended June 30, 2017 and 2016, respectively. The net increase in real estate taxes and insurance from the six months ended June 30, 2016 to the six months ended June 30, 2017 was primarily due to the fact that we owned 17 properties as of June 30, 2017, as compared to the 16 properties we owned as of June 30, 2016.

 

Depreciation and amortization – Depreciation and amortization were $12,098,000 and $10,685,000 for the six months ended June 30, 2017 and 2016, respectively.  Depreciation and amortization increased from the six months ended June 30, 2016 to the six months ended June 30, 2017 primarily due to the fact that we owned 17 properties as of June 30, 2017, as compared to the 16 properties we owned as of June 30, 2016.


General and administrative expenses - General and administrative expenses were $1,321,000 and $1,245,000 for the six months ended June 30, 2017 and 2016, respectively.  General and administrative expenses consist primarily of audit fees, transfer agent fees, other professional fees, and independent director compensation. The increase in general and administrative expenses is due to increased professional fees and certain recoverable and non-recoverable property operating expenses. We expect general and administrative expenses to increase only modestly in future periods as we acquire additional real estate and real estate related assets.  We expect general and administrative expenses to decrease substantially as a percentage of total revenue.


Organizational and offering costs - We have incurred certain expenses in connection with our organization and the sale of our shares of common stock.  These costs principally relate to professional and filing fees.  As of June 30, 2017, such costs totaled $3,020,000 and have been expensed as incurred since February 5, 2009, the date of our inception.  For six months ended June 30, 2017 and June 30, 2016, organization and offering costs (credit) were $0 and ($44,000), respectively.





34






        Net loss – We incurred net losses of $4,505,000 and $4,403,000 for the six months ended June 30, 2017 and 2016, respectively.  The net loss for the six months ended June 30, 2017 is primarily attributable to depreciation and amortization expense attributable to real estate assets.


Funds From Operations and Modified Funds From Operations


Funds From Operations, or FFO, is a non-GAAP financial measure defined by the National Association of Real Estate Investment Trusts ("NAREIT"), an industry trade group, which we believe is an appropriate supplemental measure to reflect the operating performance of a real estate investment trust, or REIT in conjunction with net income.  FFO is used by the REIT industry as a supplemental performance measure.  FFO is not equivalent to our net income or loss as determined under GAAP.


We define FFO, a non-GAAP measure, consistent with the standards established by the White Paper on FFO approved by the Board of Governors of NAREIT, as revised in February 2004, or the White Paper.  The White Paper defines FFO as net income or loss computed in accordance with GAAP, excluding gains or losses from sales of property and asset impairment write-downs, plus depreciation and amortization, and after adjustments for unconsolidated partnerships and joint ventures.  Adjustments for unconsolidated partnerships and joint ventures are calculated to reflect FFO.  Our FFO calculation complies with NAREIT’s policy described above.


The historical accounting convention used for real estate assets requires straight-line depreciation of buildings and improvements, which implies that the value of real estate assets diminishes predictably over time, especially if such assets are not adequately maintained or repaired and renovated as required by relevant circumstances and/or is requested or required by lessees for operational purposes in order to maintain the value disclosed.  We believe that, since real estate values historically rise and fall with market conditions, including inflation, interest rates, the business cycle, unemployment and consumer spending, presentations of operating results for a REIT using historical accounting for depreciation may be less informative.  Additionally, we believe it is appropriate to disregard impairment charges, as this is a fair value adjustment that is largely based on market fluctuations and assessments regarding general market conditions which can change over time.  An asset will only be evaluated for impairment if certain impairment indications exist and if the carrying, or book value, exceeds the total estimated undiscounted future cash flows (including net rental and lease revenues, net proceeds on the sale of the property, and any other ancillary cash flows at a property or group level under GAAP) from such asset.  Investors should note, however, that determinations of whether impairment charges have been incurred are based partly on anticipated operating performance, because estimated undiscounted future cash flows from a property, including estimated future net rental and lease revenues, net proceeds on the sale of the property, and certain other ancillary cash flows, are taken into account in determining whether an impairment charge has been incurred.  While impairment charges are excluded from the calculation of FFO as described above, investors are cautioned that due to the fact that impairments are based on estimated future undiscounted cash flows and the relatively limited term of our operations, it could be difficult to recover any impairment charges.


Historical accounting for real estate involves the use of GAAP.  Any other method of accounting for real estate such as the fair value method cannot be construed to be any more accurate or relevant than the comparable methodologies of real estate valuation found in GAAP.  Nevertheless, we believe that the use of FFO, which excludes the impact of real estate related depreciation and amortization and impairments, provides a more complete understanding of the our performance to investors 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, which may not be immediately apparent from net income.  However, FFO and MFFO, as described below, should not be construed to be more relevant or accurate than the current GAAP methodology in calculating net income or in its applicability in evaluating our operating performance.  The method utilized to evaluate the value and performance of real estate under GAAP should be construed as a more relevant measure of operational performance and considered more prominently than the non-GAAP FFO and MFFO measures and the adjustments to GAAP in calculating FFO and MFFO.





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Changes in the accounting and reporting promulgations under GAAP (for acquisition fees and expenses from a capitalization/depreciation model to an expensed-as-incurred model) that were put into effect in 2009 and other changes to GAAP accounting for real estate subsequent to the establishment of NAREIT’s definition of FFO have prompted an increase in cash-settled expenses, specifically acquisition fees and expenses for all industries as items that are expensed under GAAP, that are typically accounted for as operating expenses.  Management believes these fees and expenses do not affect our overall long-term operating performance.  Publicly registered, non-listed REITs typically have a significant amount of acquisition activity and are substantially more dynamic during their initial years of investment and operation.  While other start up entities may also experience significant acquisition activity during their initial years, we believe that non-listed REITs are unique in that they have a limited life with targeted exit strategies within a relatively limited time frame after the acquisition activity ceases. We intend to use the remaining net proceeds raised in our follow-on offering to continue to acquire properties, and intend to begin the process of achieving a liquidity event (i.e., the listing of our common stock on a national exchange, a merger or sale or our company or another similar transaction) within ten years of the completion of our initial public offering.  The Investment Program Association, or “IPA,” an industry trade group, has standardized a measure known as Modified Funds From Operations, or “MFFO,” which the IPA has recommended as a supplemental measure for publicly registered non-listed REITs and which we believe to be another appropriate supplemental measure to reflect the operating performance of a non-listed REIT having the characteristics described above.  MFFO is not equivalent to our net income or loss as determined under GAAP, and MFFO may not be a useful measure of the impact of long-term operating performance on value if we do not continue to operate with a limited life and targeted exit strategy, as currently intended.  We believe that, because MFFO excludes costs that we consider more reflective of investing activities and other non-operating items included in FFO and also excludes acquisition fees and expenses that affect our operations only in periods in which properties are acquired, MFFO can provide, on a going forward basis, an indication of the sustainability (i.e., the capacity to continue to be maintained) of our operating performance after the period in which we are acquiring our properties and once our portfolio is in place.  By providing MFFO, we believe we are presenting useful information that assists investors and analysts to better assess the sustainability of our operating performance after our public offering has been completed and our properties have been acquired.  We also believe that MFFO is a recognized measure of sustainable operating performance by the non-listed REIT industry.  Further, we believe MFFO is useful in comparing the sustainability of our operating performance after our public offering and acquisitions are completed with the sustainability of the operating performance of other real estate companies that are not as involved in acquisition activities. Investors are cautioned that MFFO should only be used to assess the sustainability of our operating performance after our public offering has been completed and properties have been acquired, as it excludes acquisition costs that have a negative effect on our operating performance during the periods in which properties are acquired.


We define MFFO, a non-GAAP measure, 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 GAAP net income: acquisition fees and expenses; amounts relating to deferred rent receivables and amortization of above and below market leases and liabilities (which are adjusted in order to reflect such payments from a GAAP accrual basis to a cash basis of disclosing the rent and lease payments); 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.  The accretion of discounts and amortization of premiums on debt investments, nonrecurring unrealized gains and losses on hedges, foreign exchange, derivatives or securities holdings, unrealized gains and losses resulting from consolidations, as well as other listed cash flow adjustments are adjustments made to net income in calculating the cash flows provided by operating activities and, in some cases, reflect gains or losses which are unrealized and may not ultimately be realized.





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Our MFFO calculation complies with the IPA’s Practice Guideline described above. In calculating MFFO, we exclude acquisition related expenses.  We do not currently exclude amortization of above and below market leases, fair value adjustments of derivative financial instruments, deferred rent receivables and the adjustments of such items related to noncontrolling interests.  Under GAAP, acquisition fees and expenses are characterized as operating expenses in determining operating net income.  These expenses are paid in cash by us, and therefore such funds will not be available to distribute to investors.  All paid and accrued acquisition fees and expenses negatively impact our operating performance during the period in which properties are acquired and will have negative effects on returns to investors, the potential for future distributions, and cash flows generated by us, unless earnings from operations or net sales proceeds from the disposition of other properties are generated to cover the purchase price of the property, these fees and expenses and other costs related to such property.  Accordingly, MFFO may not be an accurate indicator of our operating performance, especially during periods in which properties are being acquired.  MFFO that excludes such costs and expenses would only be comparable to non-listed REITs that have completed their acquisition activities and have similar operating characteristics to us.  Further, under GAAP, certain contemplated non-cash fair value and other non-cash adjustments are considered operating non-cash adjustments to net income in determining cash flow from operating activities.  In addition, we view fair value adjustments of derivatives and gains and losses from dispositions of assets as non-recurring items or items which are unrealized and may not ultimately be realized, and which are not reflective of on-going operations and are therefore typically adjusted for when assessing operating performance.  The purchase of properties, and the corresponding expenses associated with that process, is a key operational feature of our business plan to generate operational income and cash flows in order to make distributions to investors. Acquisition fees and expenses will not be reimbursed by the advisor if there are no further proceeds from the sale of shares in our public offering, and therefore such fees and expenses will need to be paid from either additional debt, operational earnings or cash flows, net proceeds from the sale of properties or from ancillary cash flows.


Our management uses MFFO and the adjustments used to calculate it in order to evaluate our performance against other non-listed REITs which have limited lives with short and defined acquisition periods and targeted exit strategies shortly thereafter.  As noted above, MFFO may not be a useful measure of the impact of long-term operating performance on value if we do not continue to operate in this manner.  We believe that our use of MFFO and the adjustments used to calculate it allow us to present our performance in a manner that reflects certain characteristics that are unique to non-listed REITs, such as their limited life, limited and defined acquisition period and targeted exit strategy, and hence that the use of such measures is useful to investors.  For example, acquisitions costs are funded from the remaining net proceeds of our public offerings and other financing sources and not from operations.  By excluding expensed acquisition costs, the use of MFFO provides information consistent with management’s analysis of the operating performance of the properties.  Additionally, fair value adjustments, which are based on the impact of current market fluctuations and underlying assessments of general market conditions, but can also result from operational factors such as rental and occupancy rates, may not be directly related or attributable to our current operating performance.  By excluding such changes that may reflect anticipated and unrealized gains or losses, we believe MFFO provides useful supplemental information.


Presentation of this information is intended to provide useful information to investors as they compare the operating performance of different REITs, although it should be noted that not all REITs calculate FFO and MFFO the same way, so comparisons with other REITs may not be meaningful. FFO and MFFO are not necessarily indicative of cash flow available to fund cash needs and should not be considered as an alternative to net income (loss) or income (loss) from continuing operations as an indication of our performance, as an alternative to cash flows from operations as an indication of its liquidity, or indicative of funds available to fund its cash needs including its ability to make distributions to its stockholders.  FFO and MFFO should be reviewed in conjunction with other GAAP measurements as an indication of our performance.    MFFO is useful in assisting management and investors in assessing the sustainability of operating performance in future operating periods, and in particular, after the offering and acquisition stages are complete and net asset value is disclosed.  FFO and MFFO are not useful measures in evaluating net asset value because impairments are taken into account in determining net asset value but not in determining FFO or MFFO.





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Neither the SEC, NAREIT nor any other regulatory body has passed judgment on the acceptability of the adjustments that we use to calculate FFO or MFFO.  In the future, the SEC, NAREIT, or another regulatory body may decide to standardize the allowable adjustments across the non-listed REIT industry and as a result we may have to adjust our calculation and characterization of FFO or MFFO.


The table below summarizes our calculation of FFO and MFFO for the three and six months ended June 30, 2017 and 2016 including a reconciliation of such non-GAAP financial performance measures to our net loss, in thousands.


 

Three months ended June 30,

Six months ended June 30,

 

2017

2016

2017

2016

Net loss

 $         (2,810)

 $         (2,434)

 $         (4,505)

 $         (4,403)

Depreciation and amortization

5,940

5,383

12,098

10,685

Funds from operations (FFO)

3,130

2,949

7,593

6,282

 Acquisition related expenses

                  -   

                541

                  -   

                541

Modified funds from operations (MFFO)

 $          3,130

 $          3,490

 $          7,593

 $          6,823


Distributions


The following table summarizes the distributions we paid in cash and pursuant to our distribution reinvestment plan for the period from January 2011 (the month we first paid distributions) through June 30, 2017, in thousands:


Period

Cash (1)

DRIP (2)(3)

Total

First Quarter 2011

$21

$20

$41

Second Quarter 2011

45

51

96

Third Quarter 2011

70

70

140

Fourth Quarter 2011

119

101

220

First Quarter 2012

175

150

325

Second Quarter 2012

209

194

403

Third Quarter 2012

236

246

482

Fourth Quarter 2012

271

279

550

First Quarter 2013

316

311

627

Second Quarter 2013

373

388

761

Third Quarter 2013

442

412

854

Fourth Quarter 2013

550

483

1,033

First Quarter 2014

568

535

1,103

Second Quarter 2014

614

577

1,191

Third Quarter 2014

632

605

1,237

Fourth Quarter 2014

665

641

1,306

First Quarter 2015

703

714

1,417

Second Quarter 2015

803

876

1,679




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Third Quarter 2015

927

1,020

1,947

Fourth Quarter 2015

1,042

1,108

2,150

First Quarter 2016

1,269

1,209

2,478

Second Quarter 2016

1,707

1,335

3,042

Third Quarter 2016

2,769

444

3,213

Fourth Quarter 2016 (4)

3,173

-

3,173

First Quarter 2017 (4)

3,139

-

3,139

Second Quarter 2017 (4)

3,154

3,154

Total

$23,992

$11,769

$35,761



(1)

Distributions are paid on a monthly basis. Distributions for all record dates of a given month are paid    approximately 20 days following the end of such month.

(2)

Distributions accrued for the period from December 27, 2010 through December 31, 2010 were paid on January 20, 2011, the date we first paid a distribution.

(3)

Amount of distributions paid in shares of common stock pursuant to our distribution reinvestment plan. Effective July 16, 2016, we terminated the sale of additional shares of our common stock to our stockholders pursuant to our distribution reinvestment plan.

(4)

Distributions to non-controlling interests were $208,000 for the year ended December 31, 2016.  Distributions to non-controlling interests were $136,000 for the three months ended June 30, 2017 and $273,000 for the six months ended June 30, 2017


For six months ended June 30, 2017, we paid aggregate distributions of $6,293,000 in cash to common stockholders. During the same period, cash provided by operating activities was $1,042,000 and our FFO was $7,591,000. For six months ended June 30, 2017, 17% of distributions were paid from cash provided by operating activities and 83% by other proceeds including proceeds received from the sale of membership interests in Three Forest Plaza.   For the six months ended June 30, 2016, we paid aggregate distributions of $5,520,000 including distributions paid in shares of common stock pursuant to our distribution reinvestment plan.  During the same period, cash used in operating activities was ($2,544,000) and our FFO was $6,282,000. For the six months ended June 30, 2016, 100% of distributions were paid from cash provided by offering proceeds.    


For the period from inception (January 20, 2011 was the date we first paid distributions) to June 30, 2017, we paid aggregate distributions of $35,761,000.  During the period from our inception to June 30, 2017, our cash provided by operating activities was $23,717,000, our net loss was $33,523,000 and our FFO was $28,568,000. Of the $35,783,000 in aggregate distributions paid to our stockholders from inception to June 30, 2017, approximately 67% was paid from net cash provided by operating activities and approximately 33% was funded from offering proceeds.   For a discussion of how we calculate FFO, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Funds From Operations and Modified Funds From Operations.”


Liquidity and Capital Resources


 As of June 30, 2017, we had issued 18,574,461 shares of our common stock in our initial and follow-on public offerings, including 1,216,200 shares of our common stock pursuant to our distribution reinvestment plan, resulting in aggregate gross offering proceeds of $181,336,000. Effective March 31, 2016, we terminated the offer and sale of our common shares to the public in our follow-on offering. The sale of shares of our common stock to our stockholders pursuant to our distribution reinvestment plan terminated effective as of July 16, 2016.


Our principal demands for funds are and will continue to be for real estate and real estate-related acquisitions, for the payment of operating expenses, for the payment of interest on our outstanding indebtedness, and for the payment of distributions. Generally, we expect to meet cash needs for items other than acquisitions from our cash flow from operations; provided, that some or all of our distributions have been and may continue to be paid from




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sources other than cash from operations (as discussed below).  We expect to meet cash needs for acquisitions from the remaining net proceeds of our follow-on offering and from financings.

 

Some or all of our distributions have been and may continue to be paid from sources other than cash flow from operations, including proceeds of our public offerings, cash advances to us by our advisor, cash resulting from a waiver of asset management fees and borrowings secured by our assets in anticipation of future operating cash flow.  We may have little, if any, cash flow from operations available for distribution until we make substantial investments and those investments stabilize.  In addition, to the extent our investments are in development or redevelopment projects or in properties that have significant capital requirements, our ability to make distributions may be negatively impacted, especially during our early periods of operation.

 

We use, and intend to use in the future, secured and unsecured debt to acquire properties and make other investments.  As of June 30, 2017, our outstanding secured debt is $115,244,000. There is no limitation on the amount we may invest in any single property or other asset or on the amount we can borrow for the purchase of any individual property or other investment.  Under our charter, we are prohibited from borrowing in excess of 300% of our “net assets” (as defined by our charter) as of the date of any borrowing; however, we may exceed that limit if approved by a majority of our independent directors and if such excess is disclosed to the stockholders in the next quarterly report along with the explanation for such excess borrowings.  In addition, our board of directors has adopted a policy to limit our aggregate borrowings to approximately 50% of the aggregate value of our assets unless substantial justification exists that borrowing a greater amount is in our best interests.

 

Our advisor may, but is not required to, establish capital reserves from remaining gross offering proceeds, out of cash flow generated by operating properties and other investments or out of non-liquidating net sale proceeds from the sale of our properties and other investments.  Capital reserves are typically utilized for non-operating expenses such as tenant improvements, leasing commissions and major capital expenditures. Alternatively, a lender may require its own formula for escrow of capital reserves.

 

Potential future sources of capital include proceeds from additional private or public offerings of our securities, secured or unsecured financings from banks or other lenders, proceeds from the sale of properties and undistributed funds from operations.  If necessary, we may use financings or other sources of capital in the event of unforeseen significant capital expenditures.


Cash Flows from Operating Activities


As of June 30, 2017, we had continuing operations from 17 commercial real estate properties versus 16 properties as of June 30, 2016.  During six months ended June 30, 2017, net cash provided by operating activities was $1,042,000 versus ($2,544,000) net cash used in operating activities for six months ended June 30, 2016.  The increase in cash flow from operating activities is primarily attributable to the increase in amounts due from affiliates and the number of operating properties we owned.  We expect cash flows from operating activities to increase in future periods as a result of increased occupancy.


Cash Flows from Investing Activities


During six months ended June 30, 2017, net cash used in investing activities was $1,775,000 versus $40,030,000 for six months ended June 30, 2016 and consisted primarily of cash provided by disposition of Village Pointe and the sale of equity interest in Three Forest Plaza.  We had no acquisitions during the six months ended June 30, 2017 compared to the approximately $9.0 million investment in the common stock of an affiliate, Hartman Income REIT, Inc., investment in a note receivable of approximately $7.2 million by our TRS and $23.8 million investment in additions to real estate during the six months ended June 30, 2016.








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Cash Flows from Financing Activities


Cash flows from financing activities consisted primarily of proceeds from our ongoing public offering and distributions paid to our common stockholders.  Net cash (used in) and provided by financing activities for six months ended June 30, 2017 and 2016, respectively, was ($1,810,000) and $42,645,000 and consisted of the following:


·

$0 and $41,569,000, respectively of cash provided by offering proceeds related to our public offering, net of payments of commissions on sales of common stock of $0 and $2,112,000 respectively;

·

$508,000 and $688,000, respectively, of cash used to redeem common stock pursuant to our share redemption plan;

·

($373,000) and $1,280,000, respectively of cash (used in) provided by term loan and revolving credit and net repayments,

·

$6,587,000 and $2,976,000, respectively of net cash distributions, after giving effect to distributions reinvested by stockholders of $0 and $2,619,000;

·

$281,000 and $211,000, respectively of insurance premium finance proceeds net of repayments;

·

$5,450,000 and $5,500,000, respectively of investment proceeds received from non-controlling interest investor; and

·

$73,000 and $139,000, respectively of deferred loan costs.


Discontinued Operations


         On November 14, 2016, we acquired an interest in the Village Pointe property through an investment in Hartman Village Pointe, a joint venture between our operating partnership and our affiliate, Hartman vREIT XXI, Inc.  The Village Pointe property was approximately 92% occupied at the acquisition date.  Our operating partnership contributed $3,675,000 to Hartman Village Pointe in exchange for a 97.35% membership interest in Hartman Village Pointe and Hartman vREIT XXI, Inc. contributed $100,000 to Hartman Village Pointe in exchange for a 2.65% membership interest in Hartman Village Pointe. Our operating partnership also made a mortgage loan of $3,525,000, secured by the Village Pointe property, to Hartman Village Pointe.  On December 14, 2016, Hartman Village Pointe refinanced the Village Pointe property with a bank mortgage.  The affiliate mortgage loan was paid in full on that date.


As of February 8, 2017, Hartman vREIT XXI, Inc. acquired all our ownership interests in Hartman Village Pointe.


Contractual Commitments and Contingencies

 

We use, and intend to use in the future, secured and unsecured debt, as a means of providing additional funds for the acquisition of our properties and our real estate-related assets. We believe that the careful use of borrowings will help us achieve our diversification goals and potentially enhance the returns on our investments. Under our charter, we are prohibited from borrowing in excess of 300% of our net assets, which generally approximates to 75% of the aggregate cost of our assets. We may borrow in excess of this amount if such excess is approved by a majority of the independent directors and disclosed to stockholders in our next quarterly report, along with a justification for such excess. In such event, we will monitor our debt levels and take action to reduce any such excess as practicable. Our aggregate borrowings are reviewed by our board of directors at least quarterly. As of June 30, 2017, our borrowings were not in excess of 300% of the value of our net assets.


In addition to using our capital resources for investing purposes and meeting our debt obligations, we expect to use our capital resources to make certain payments to our advisor. We expect to make payments to our advisor or its affiliates in connection with the selection and origination or purchase of real estate and real estate-related investments, the management of our assets, the management of the development or improvement of our assets and costs incurred by our advisor in providing services to us.





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As of June 30, 2017, we had notes payable totaling an aggregate principal amount of $115,244,000. For more information on our outstanding indebtedness, see Note 6 (Notes Payable, net) to the consolidated financial statements included in this report.


The following is a summary of our contractual obligations as of June 30, 2017, in thousands:


Contractual Obligations

Total

2017

2018-2019

2020-2021

Thereafter

Long-term debt obligations (1)

$       115,244

$        30,586     

$      31,351

$       11,900

$       41,407

Interest payments on outstanding debt obligations (2)

32,654

1,338

5,194

4,685

21,437

Purchase obligations (3)

-

-

-

-

-

Total

$147,898

$31,924

$36,545

$16,585

$62,844


(1)

Amounts include principal payments only.

(2)

Projected interest payments are based on the outstanding principal amounts and weighted-average interest rates at June 30, 2017.

(3)

Purchase obligations were excluded from contractual obligations as there were no binding purchase obligations as of June 30, 2017.


Off-Balance Sheet Arrangements


     As of June 30, 2017 and December 31, 2016, we had no off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.


Recent Accounting Pronouncements


Management does not believe that any recently issued, but not yet effective accounting standards, if currently adopted, would have a material effect on the accompanying consolidated financial statements. See Note 2 to the notes to the accompanying consolidated financial statements included in this quarterly report.


Subsequent Events


Pending Mergers


On July 21, 2017, we entered into (i) an agreement and plan of merger (the “XIX Merger Agreement”) with Hartman Short Term Income Properties XIX, Inc., a Texas corporation and a related party (“Hartman XIX”), and (ii) an agreement and plan of merger (the “HIREIT Merger Agreement,” and together with the XIX Merger Agreement, the “Merger Agreements”) with our operating partnership, Hartman Income REIT, Inc., a Maryland corporation and a related party (“HIREIT”), and Hartman Income REIT Operating Partnership LP, a Delaware limited partnership, the operating partnership of HIREIT (“HIREIT Operating Partnership”).


Subject to the terms and conditions of the XIX Merger Agreement, Hartman XIX will merge with and into us, with our company surviving the merger (the “Hartman XIX Merger”).  Subject to the terms and conditions of the HIREIT Merger Agreement, (i) HIREIT will merge with and into us, with our company surviving the merger (the “HIREIT Merger,” and together with the Hartman XIX Merger, the “REIT Mergers”), and (ii) HIREIT Operating Partnership will merge with and into our operating partnership, with our operating partnership surviving the merger (the “Partnership Merger,” and together with the REIT Mergers, the “Mergers”).

 

Subject to the terms and conditions of the XIX Merger Agreement, (i) each share of common stock of Hartman XIX (the “XIX Common Stock”) issued and outstanding immediately prior to the Effective Time (as defined in the XIX Merger Agreement) will be automatically cancelled and retired and converted into the right to receive 9,171.98




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shares of our common stock, (ii) each share of 8% cumulative preferred stock of Hartman XIX issued and outstanding immediately prior to the Effective Time will be automatically cancelled and retired and converted into the right to receive 1.238477 shares of our common stock, and (iii) each share of 9% cumulative preferred stock of Hartman XIX issued and outstanding immediately prior to the Effective Time will be automatically cancelled and retired and converted into the right to receive 1.238477 shares of our common stock.


Subject to the terms and conditions of the HIREIT Merger Agreement, (a) in connection with the HIREIT Merger, (i) each share of common stock of HIREIT (the “HIREIT Common Stock”) issued and outstanding immediately prior to the REIT Merger Effective Time (as defined in the HIREIT Merger Agreement) will be automatically cancelled and retired and converted into the right to receive 0.752222 shares of our common stock, and (ii) each share of subordinate common stock of HIREIT will be automatically cancelled and retired and converted into the right to receive 0.752222 shares of our common stock, and (b) in connection with the Partnership Merger, each unit of limited partnership interest in HIREIT Operating Partnership (“HIREIT OP Units”) issued and outstanding immediately prior to the Partnership Merger Effective Time (as defined in the HIREIT Merger Agreement) (other than any HIREIT OP Units held by HIREIT) will be automatically cancelled and retired and converted into the right to receive 0.752222 validly issued, fully paid and non-assessable units of limited partnership interests in our operating partnership.


Each Merger Agreement contains customary covenants, including covenants prohibiting HIREIT and Hartman XIX and their respective subsidiaries and representatives from soliciting, providing information or entering into discussions concerning proposals relating to alternative business combination transactions, subject to certain limited exceptions.

 

The Merger Agreements may be terminated under certain circumstances, including but not limited to (i) by the mutual written consent of all the parties to a Merger Agreement, (ii) by either us or HIREIT or Hartman XIX, as applicable, if a final and non-appealable order is entered prohibiting or disapproving the applicable Mergers, (iii) by either us or HIREIT or Hartman XIX, as applicable, if the required approval of the applicable Mergers by our stockholders or HIREIT or Hartman XIX, as applicable (the “Stockholder Approvals”), have not been obtained, (iv) by either us or HIREIT or Hartman XIX, as applicable, upon a material uncured breach by the other party that would cause the closing conditions in the applicable Merger Agreement not to be satisfied, or (v) by either us or HIREIT or Hartman XIX, as applicable,  if the applicable Mergers have not been completed on or before December 31, 2017. No termination fees or penalties are payable by any party to any Merger Agreement in the event of the termination of any Merger Agreement.

 

The Merger Agreements contain certain representations and warranties made by the parties thereto. The representations and warranties of the parties were made solely for purposes of the contract among the parties, and are subject to certain important qualifications and limitations set forth in confidential disclosure letters delivered by the parties to the Mergers to the other parties to the Mergers.  Moreover, certain of the representations and warranties are subject to a contractual standard of materiality that may be different from what may be viewed as material to stockholders, and the representations and warranties are primarily intended to establish circumstances in which either of the parties may not be obligated to consummate the Mergers, rather than establishing matters as facts.

 

Each Merger Agreement sets forth certain conditions of the parties thereto to consummate the Mergers contemplated by such Merger Agreement, including (i) receipt of the applicable Stockholder Approvals, (ii) receipt of all regulatory approvals, (iii) the absence of any judgments, orders or laws prohibiting or restraining the consummation of the applicable Mergers, (iv) the effectiveness with the SEC of the registration statement on Form S-4 to be filed by us to register the shares of our common stock to be issued as consideration in the REIT Mergers, (v) the delivery of certain documents, consents and legal opinions, and (vi) the truth and correctness of the representations and warranties of the respective parties, subject to the materiality standards contained in the Merger Agreements. In addition, the consummation of the HIREIT Merger and the Partnership Merger is a condition to the consummation of the Hartman XIX Merger, and vice versa. There can be no guarantee that the conditions to the closing of the Mergers set forth in the Merger Agreements will be satisfied.




43







Each party to the Merger Agreements will bear its own costs and expenses (including legal fees) related to the Merger Agreements and the transactions contemplated by the Merger Agreements.


The foregoing descriptions of the Mergers and the Merger Agreements are not complete and are subject to and qualified in their entirety by reference to the terms of the Merger Agreements, copies of which were filed as exhibits to our Current Report on Form 8-K filed with the SEC on July 24, 2017.


Related-Party Transactions and Agreements

 

We have entered into agreements with our advisor and its affiliates whereby we have paid, and may continue to pay, certain fees to, or reimburse certain expenses of, our advisor and its affiliates. See Item 13, “Certain Relationships and Related Transactions and Director Independence” in our Annual Report on Form 10-K for the year ended December 31, 2016 filed with the SEC on April 11, 2017, and Note 9 (Related Party Transactions) to the consolidated financial statements included in this Quarterly Report for a discussion of the various related-party transactions, agreements and fees.


Item 3. Quantitative and Qualitative Disclosures about Market Risk

 

We will be exposed to interest rate changes primarily as a result of long-term debt used to acquire properties and make loans and other permitted investments. Our interest rate risk management objectives will be to limit the impact of interest rate changes on earnings and cash flows and to lower overall borrowing costs. To achieve these objectives, we expect to borrow primarily at fixed rates or variable rates with the lowest margins available and, in some cases, with the ability to convert variable rates to fixed rates. With regard to variable rate financing, we will assess 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 opportunities.


Item 4. Controls and Procedures


Evaluation of Disclosure Controls and Procedures

 

In connection with the preparation of this Form 10-Q, as of June 30, 2017, an evaluation was performed under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended). In performing this evaluation, management reviewed the selection, application and monitoring of our historical accounting policies. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that as of June 30, 2017, these disclosure controls and procedures were effective and designed to ensure that the information required to be disclosed in our reports filed with the SEC under the Exchange Act is recorded, processed, summarized and reported as and when required.


Changes in Internal Control over Financial Reporting


There have been no changes during the quarter ended June 30, 2017 in our internal controls over financial reporting that have materially affected, or are reasonably likely to materially affect, our internal control over financing reporting.





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PART II

OTHER INFORMATION


Item 1.  Legal Proceedings


None.


Item 1A. Risk Factors


The pendency of the Mergers could adversely affect our business and operations.

 

Between the date that the Merger Agreements were signed and the date that the Mergers are consummated, the attention of our management may be diverted from day-to-day operations, regardless of whether or not the Mergers are ultimately consummated. The pendency of the Mergers could have an adverse impact on our relationships with other parties, which parties may delay or decline entering into agreements with us as a result of the announcement of our entry into the Merger Agreements. In addition, due to operating covenants to which we are subject pursuant to the Merger Agreements, we may be unable during the pendency of the Mergers to pursue certain transactions, incur certain financing and otherwise pursue other actions that are not in the ordinary course of business, even if such actions could prove beneficial.

 

There can be no certainty that the Mergers will be consummated, and failure to consummate the Mergers could negatively affect our future business and financial results.

 

Consummation of the Mergers remains subject to the satisfaction or waiver of a number of significant conditions, some of which are beyond our control, including receipt of the approval of our stockholders and the stockholders of each of Hartman XIX and HIREIT, delivery of certain documents, consents and legal opinions, and the truth and correctness of the representations and warranties of the parties, subject to the materiality standards contained in the Merger Agreements. There can be no certainty that all such conditions will be met or waived, or that the Mergers will be consummated. If the Mergers are not consummated, our ongoing business could be adversely affected and we may be subject to a number of material risks, including that fact that we will have incurred substantial costs and expenses related to the Mergers, such as legal, accounting and advisory fees, which will be payable by us even if the Mergers are not consummated. If the Mergers are not consummated, these risks could materially affect our business and financial results.


There may be unexpected delays in the consummation of the pending Mergers.

 

Each Merger Agreement provides that either we or Hartman XIX or HIREIT, as applicable, may terminate the Merger Agreement if the applicable Merger has not occurred by December 31, 2017. Certain events may delay the consummation of the Mergers. Some of the events that could delay the consummation of the Mergers include difficulties in obtaining the approval of our stockholders and the stockholders of each of Hartman XIX and HIREIT or satisfying the other closing conditions to which the Mergers are subject.


Our stockholders will be diluted by the pending Mergers.

 

The Mergers will dilute the ownership position of our current stockholders and result in our stockholders (excluding stockholders affiliated with our advisor or sponsor) having an ownership stake in us that is smaller than their current stake in our company. In connection with the Mergers, we will issue up to approximately 19,192,000 shares of our common stock to the holders of shares of Hartman XIX and HIREIT capital stock, based on the exchange ratios set forth in the Merger Agreements and the shares of Hartman XIX and HIREIT capital stock issued and outstanding as of June 30, 2017.  Our current stockholders (excluding stockholders affiliated with our advisor or sponsor) are expected to hold in the aggregate approximately 49% of the issued and outstanding shares of our common stock following the Mergers, based on the assumptions in the foregoing sentence and the 18,117,000 shares of our common stock issued and outstanding as of June 30, 2017. In addition, approximately 979,000 units of




45






limited partnership interest in our operating partnership are issuable in connection with the Partnership Merger. Consequently, our stockholders (excluding stockholders affiliated with our advisor or sponsor), as a general matter, will have less influence over the management and policies of us after the Mergers than they exercised over the management and policies of us immediately prior to the Mergers.

 

Following the consummation of the Mergers, we will assume certain potential liabilities relating to Hartman XIX and HIREIT.

 

If the Mergers are consummated, we will have assumed certain potential liabilities relating to Hartman XIX and HIREIT. These liabilities could have a material adverse effect on our business to the extent we have not identified such liabilities or have underestimated the amount of such liabilities.

 

The future results of the combined company will suffer if the combined company does not effectively integrate and manage its expanded operations following the Mergers.

 

Following the Mergers, we expect to continue to expand our operations through additional acquisitions and other strategic transactions, some of which may involve complex challenges. Our future success will depend, in part, upon our ability to manage expansion opportunities, which may pose substantial challenges to integrate new operations into our existing business in an efficient and timely manner, and upon our ability to successfully monitor our operations, costs, regulatory compliance and service quality, and to maintain other necessary internal controls. There is no assurance that our expansion or acquisition opportunities will be successful, or that we will realize the expected operating efficiencies, cost savings, revenue enhancements or other benefits.


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


During the three months ended June 30, 2017, we did not sell any equity securities that were not registered under the Securities Act of 1933, as amended.


The table below sets forth information regarding the shares of our common stock redeemed pursuant to our share redemption program during the three months ended June 30, 2017.



 

 

 

 

 

 



Total Number of

Shares Requested to

be Redeemed (1)




Total Number of

Shares Redeemed




Average Price

Paid per Share (2)

Approximate

Dollar Value of

Shares Available

That May Yet Be

Redeemed Under

the Program (3)

April 2017

53,927

53,927

$9.41

$               507,674

May 2017

-

-

-

(3)

June 2017

-

-

-

(3)

 

53,927

53,927

$9.41

$              507,674 


(1) We generally redeem shares in the month following the end of the fiscal quarter in which requests were received.


(2) Pursuant to the share redemption program, we currently redeem shares at prices determined as follows:


a.

For shares that have been held at least one year, the lesser of 90.0% of the price paid to acquire the shares or 90.0% of the offering price of shares in our most recent offering;

b.

For shares that have been held at least two years, the lesser of 92.5% of the price paid to acquire the shares or 92.5% of the offering price of shares in our most recent offering;




46






c.

For shares that have been held at least three years, the lesser of 95.0% of the price paid to acquire the shares or 95.0% of the offering price of shares in our most recent offering;

d.

For shares that have been held at least four years, the lesser of 97.5% of the price paid to acquire the shares or 97.5% of the offering price of shares in our most recent offering;

e.

Thereafter, the lesser of 100.0% of the price paid to acquire the shares or 90.0% of the net asset value per share, as determined by the board of directors.


Notwithstanding the foregoing, the redemption price for redemptions sought upon a stockholder’s death or disability or upon confinement to a long-term care facility, is available only for stockholders who purchased their shares directly from us or the persons specifically set forth in the share redemption program.


(3) The number of shares that may be redeemed pursuant to our share redemption program will not exceed (i) 5% of the weighted-average number of shares outstanding during the 12-month period immediately prior to the effective date of the redemption and (ii) those share redemptions that can be funded with proceeds from our distribution reinvestment plan plus, if we had positive net operating cash flow for the previous fiscal year, 1% of all operating cash flow from the previous fiscal year.


On February 9, 2010, our Registration Statement on Form S-11 (File No. 333-154750), registering a public offering of up to $250,000,000 in shares of our common stock to the public in our primary offering at a price of $10.00 per share and up to $23,750,000 in shares of common stock to our stockholders pursuant to our distribution reinvestment plan at $9.50 per share, was declared effective by the SEC and we commenced our initial public offering. We terminated our initial public offering on April 25, 2013. As of the termination our initial public offering on April 25, 2013, we had accepted subscriptions for and issued 4,455,678 shares of our common stock, including 162,561 shares of our common stock issued pursuant to our distribution reinvestment plan, resulting in offering proceeds of $43,943,731. On July 16, 2013, our Registration Statement on Form S-11 (File No. 333-185336) registering our follow-on public offering of up to $200,000,000 in shares of our common stock to the public at $10.00 per share and up to $19,000,000 in shares of our common stock to our stockholders pursuant to our distribution reinvestment plan at $9.50 per share, was declared effective by the SEC and we commenced our follow-on offering.

 

Effective March 31, 2016, we terminated the offer and sale of shares of our common stock to the public in our follow-on offering. The sale of shares of our common stock to our stockholders pursuant to our distribution reinvestment plan terminated effective as of July 16, 2016.  As of June 30, 2017, we had accepted subscriptions for, and issued, 18,574,461 shares of our common stock in our initial public offering and our follow-on offering, including 1,216,240 shares of our common stock issued pursuant to our distribution reinvestment plan, resulting in aggregate gross offering proceeds of $181,336,000.


As of June 30, 2017, we had incurred selling commissions, dealer manager fees and organization and other offering costs in our initial public offering and our follow-on offering in the amounts set forth in the tables below (all figures in thousands). D.H. Hill Securities, LLLP, the dealer manager for our public offerings, reallowed all of the selling commissions and a portion of the dealer manager fees to participating broker-dealers.


Initial Public Offering:

Type of Expense

Amount

Estimated/Actual

Selling commissions and dealer manager fees

$          2,942

Actual

Finders’ fees

-

Expenses paid to or for underwriters

-

Other organization and offering costs

472

Actual

Total expenses

$           3,414

 








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Follow-On Offering:

Type of Expense

Amount

Estimated/Actual

Selling commissions and dealer manager fees

$          10,248

Actual

Finders’ fees

-

Expenses paid to or for underwriters

-

Other organization and offering costs

2,548

Actual

Total expenses

$          12,796

 


As of June 30, 2017, the net offering proceeds to us from our initial public offering and our follow-on offering, after deducting the total expenses incurred as described above, were $153,572,000, excluding $11,554,000 in offering proceeds from shares of our common stock issued pursuant to our distribution reinvestment plan.

 

As of June 30, 2017, we had used $128,264,000 of the net proceeds from our public offerings, plus debt financing, to purchase our 17 investments in commercial properties.  As of June 30, 2017, we had paid $6,013,000 of acquisition fees to our advisor.

 

Item 3. Defaults Upon Senior Securities


None.


Item 4.  Mine Safety Disclosures


Not applicable.


Item 5. Other Information


None.


Item 6.  Exhibits


 

 

 

Exhibit

 

Description

3.1

 

First Articles of Amendment to Third Amended and Restated Articles of Incorporation of Hartman Short Term Income Properties XX, Inc. (incorporated by reference to Exhibit 3.1 to the Company’s Form 10-K filed on April 12, 2012)

3.2

 

Third Amended and Restated Articles of Incorporation of Hartman Short Term Income Properties XX, Inc. (incorporated by reference to Exhibit 1 to the Company’s registration statement on Form 8-A (SEC File No. 000-53912) filed on March 22, 2010)

3.3

 

Bylaws of Hartman Short Term Income Properties XX, Inc. (incorporated by reference to Exhibit 2 to the Company’s registration statement on Form 8-A (SEC File No. 000-53912) filed on March 22, 2010)

31.1

 

Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (FILED HEREWITH)

31.2

 

Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (FILED HEREWITH)

32.1

 

Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (FILED HEREWITH)

32.2

 

Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (FILED HEREWITH)


101.INS

 

XBRL Instance Document

101.SCH

 

XBRL Taxonomy Extension Schema Document




48









101.CAL

 

XBRL Taxonomy Extension Calculation Linkbase Document

101.DEF

 

XBRL Taxonomy Extension Definition Linkbase Document

101.LAB

 

XBRL Taxonomy Extension Label Linkbase Document

101.PRE

 

XBRL Taxonomy Extension Presentation Linkbase Document





49






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.

 

HARTMAN SHORT TERM INCOME PROPERTIES XX, INC.

 

Date: August 14, 2017                                                        

              By: /s/ Allen R. Hartman

Allen R. Hartman,

Chairman of the Board and Chief Executive Officer

(Principal Executive Officer)


Date: August 14, 2017                                               

              By: /s/ Louis T. Fox, III

Louis T. Fox, III,

Chief Financial Officer,

(Principal Financial and Principal Accounting Officer)


















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