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Notes to Consolidated Financial Statements
December 31, 2020
1.ORGANIZATION
Pillarstone Capital REIT (the “Company,” “Pillarstone,” “we,” “our,” or “us”) is a Maryland real estate investment trust ("REIT") engaged in investing in, owning and operating commercial properties. Future real estate investments may include (i) acquisition and development of retail, office, office warehouse, industrial, multifamily, hotel, and other commercial properties, (ii) acquisition of or merger with a REIT or real estate operating company and (iii) joint venture investments. We serve as the general partner of Pillarstone Capital REIT Operating Partnership LP (the “Operating Partnership” or “Pillarstone OP”), which was formed on September 23, 2016 as a Delaware limited partnership. We currently conduct substantially all operations and activities through Pillarstone OP. As the general partner of Pillarstone OP, we have the exclusive power to manage and conduct the business of Pillarstone OP, subject to certain customary exceptions.
2. BASIS OF PRESENTATION
Basis of consolidation. We have prepared the consolidated financial statements pursuant to the rules and regulations of the Securities and Exchange Commission ("SEC") and generally accepted accounting principles in the United States ("U.S. GAAP"). In our opinion, all adjustments (consisting solely of normal recurring items) necessary for a fair presentation of our financial position as of December 31, 2020 and 2019, the results of our operations for the years ended December 31, 2020 and 2019, and of our cash flows for the years ended December 31, 2020 and 2019 have been included. We also consolidate a variable interest entity ("VIE") when we are determined to be the primary beneficiary. Determination of the primary beneficiary is based on whether an entity has (1) the power to direct activities that most significantly impact the economic performance of the VIE and (2) the obligation to absorb losses or the right to receive benefits of the VIE that could potentially be significant to the VIE. Our determination of the primary beneficiary considers all relationships between us and the VIE, including management and other contractual agreements. Consequently, the accompanying consolidated financial statements include the accounts of Pillarstone OP and a wholly-owned subsidiary that discontinued operations in 2002. See Note 4 for additional disclosure on our VIE.
Noncontrolling interest in the accompanying consolidated financial statements represents the share of equity and earnings of Pillarstone OP allocable to holders of partnership interests other than us. Net income or loss is allocated to noncontrolling interest based on the weighted-average percentage ownership of Pillarstone OP during the year. Issuance of additional units of limited partnership interest in Pillarstone OP changes the percentage of ownership interests of both the noncontrolling interest and Pillarstone.
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Accounting. Pillarstone's financial records are maintained on the accrual basis of accounting whereby revenues are recognized when earned and expenses are recorded when incurred.
Use of estimates. In order to conform with U.S. GAAP, management, in preparation of our consolidated financial statements, is required to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of December 31, 2020 and 2019, and the reported amounts of revenues and expenses for the years ended December 31, 2020 and 2019. Actual results could differ from those estimates. Significant estimates that we use include the estimated fair value of properties acquired, allowance for doubtful accounts, impairment, the estimated useful lives for depreciable and amortizable assets and costs, and deferred taxes and the related valuation allowance for deferred taxes. Actual results could differ from those estimates. In particular, the COVID-19 pandemic has adversely impacted and is likely to further adversely impact the Company's business and markets, including the Company's operations and the operations of its tenants. The full extent to which the pandemic will directly or indirectly impact the Company's business, results of operations and financial condition, including revenues, expenses, reserves and allowances, fair value measurements, and asset impairment charges, will depend on future developments that are highly uncertain and difficult to predict. These developments include, but are not limited to, the duration and spread of the pandemic, its severity in our markets and elsewhere, governmental actions to contain the spread of the pandemic and respond to the reduction in global economic activity, and how quickly and to what extent normal economic and operating conditions can resume.
Notes to Consolidated Financial Statements
December 31, 2020
Change in accounting estimate. The calculation of the Company's tax provision is performed using management's best judgment with the assistance of tax advisers and is re-evaluated as changes in facts and circumstances occur that may impact the application of tax laws. The Company seeks to reduce its overall tax burden and to minimize or delay cash outflows for taxes by implementing tax efficient business structures, entering into tax advantaged transactions, and seeking tax optimal transactions. During the year ended December 31, 2019, a change in facts and circumstances occurred involving the timing and amount of gains on sales of properties in relation to the timing of the Company's potential election of REIT status. This new information resulted in the change in tax strategy that is described in more detail below under Income taxes. Based on the change in tax strategy, we reversed an estimated $141,000 federal income tax liability recorded as of December 31, 2018. The impact of the change in tax strategy and the reversal of the tax liability resulted in a decrease in tax expense for the year ended December 31, 2019 of $426,000, which increased our reported net income by $426,000 or $0.14 per diluted share for the year ended December 31, 2019.
Cash and cash equivalents. We consider all highly liquid investments purchased with an original maturity of three months or less to be cash equivalents. Cash and cash equivalents as of December 31, 2020 and 2019 consisted of demand deposits at commercial banks and brokerage accounts.
Acquired Properties and Acquired Lease Intangibles. We allocate the purchase price of the acquired properties to land, building and improvements, identifiable intangible assets and to the acquired liabilities based on their respective fair values at the time of purchase. Identifiable intangibles include amounts allocated to acquired out-of-market leases, the value of in-place leases and customer relationship value, if any. We determine fair value based on estimated cash flow projections that utilize appropriate discount and capitalization rates and available market information. Estimates of future cash flows are based on a number of factors including the historical operating results, known trends and specific market and economic conditions that may affect the property. Factors considered by management in our analysis of determining the as-if-vacant property value include an estimate of carrying costs during the expected lease-up periods considering market conditions, and costs to execute similar leases. In estimating carrying costs, management includes real estate taxes, insurance and estimates of lost rentals at market rates during the expected lease-up periods, tenant demand and other economic conditions. Management also estimates costs to execute similar leases including leasing commissions, tenant improvements, legal and other related expenses. Intangibles related to out-of-market leases and in-place lease value are recorded as acquired lease intangibles and are amortized as an adjustment to rental revenue or amortization expense, as appropriate, over the remaining terms of the underlying leases. Premiums or discounts on acquired out-of-market debt are amortized to interest expense over the remaining term of such debt. Due to COVID-19, we are carefully evaluating acquisitions, development and redevelopment opportunities on an individual basis.
Depreciation. Depreciation is computed using the straight-line method over the estimated useful lives of 5 to 39 years for improvements and buildings. Tenant improvements are depreciated using the straight-line method over the life of the improvement or remaining term of the lease, whichever is shorter.
Impairment. We review our properties 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. We determine 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 determined that there has been no impairment in the carrying value of our real estate assets as of December 31, 2020.
Accrued Rents and Accounts Receivable. Included in accrued rents and accounts receivable are base rents, tenant reimbursements and receivables attributable to recording rents on a straight-line basis. We review the collectability of charges under our tenant operating leases on a regular basis, taking into consideration changes in factors such as the tenant's payment history, the financial condition of the tenant, business conditions in the industry in which the tenant operates and economic conditions in the area where the property is located, including the impact of the COVID-19 pandemic on tenants' businesses and financial condition. With the adoption of Accounting Standards Codification ("ASC") No. 842, "Leases" ("Topic 842") effective January 1, 2019, we recognize an adjustment to rental revenue if we deem it probable that the receivable will not be collected. Prior to the adoption of Topic 842, we recognized an allowance for doubtful accounts and bad debt expense of the specific rents receivable. Our review of collectability under our operating leases includes any accrued rental revenues related to the straight-line method of reporting rental revenue. For the years ended December 31, 2020 and 2019, we had an allowance for uncollectible accounts of approximately $398,000 and $161,000, respectively. For the years ended December 31, 2020 and 2019, we recorded an adjustment to rental revenue in the amount of approximately $242,000 and $160,000, respectively. Included in the adjustment to rental revenue for the year ended December 31, 2020 was an adjustment of approximately
Notes to Consolidated Financial Statements
December 31, 2020
$57,000, related to credit losses for the conversion of approximately four tenants to cash basis revenue as a result of our COVID-19 collectability analysis.
In December 2019, a novel strain of coronavirus ("COVID-19") was reported to have surfaced in China. In March 2020, the World Health Organization declared COVID-19 a "Public Health Emergency of International Concern" and characterized COVID-19 as a pandemic. The U.S. government implemented enhanced screenings, quarantine requirements and travel restrictions in connection with the COVID-19 outbreak. The spread of this virus caused business disruption to the Company beginning in 2020, because businesses in the United States were concerned about the impact of COVID-19 on their operations. Local governments in Texas, where all our properties are located, mandated a stay in place order, closed non-essential businesses, and closed other types of service businesses, such as bars and restaurants, (though they continued to provide take out and drive through services). As of the date of this Annual Report on Form 10-K, businesses are permitted to be open in Texas at 100% occupancy through Executive Order (GA-34).
The Company is closely monitoring the impact of the COVID-19 pandemic on all aspects of its business and markets, including how it will impact the businesses of its tenants. The Company has put in place a temporary response team to address tenant concerns in light of the COVID-19 pandemic. The response team is in ongoing communication with the Company's tenants and is assisting tenants in identifying local, state and federal resources that may be available to support their businesses and employees during the pandemic, including stimulus funds that may be available under the Coronavirus Aid, Relief, and Economic Security Act of 2020. The Company has received a number of rent relief requests from tenants, most often in the form of rent deferral requests, as a result of the COVID-19 pandemic. The Company is evaluating each tenant rent relief request on an individual basis, considering a number of factors. Not all tenant requests will ultimately result in lease concessions, nor is the Company forgoing its contractual rights under its lease agreements at this time. The Company is unable to predict the ongoing impact that the COVID-19 pandemic will have on its future financial condition, results of operations and cash flows due to numerous uncertainties including, but not limited to, the duration and spread of the pandemic, its severity in the Company's markets and elsewhere, governmental actions to contain the spread of the pandemic and respond to the reduction in global economic activity, and how quickly and to what extent normal economic and operating conditions can resume. As of the date of this Annual Report on Form 10-K, as a result of the impact of the COVID-19 pandemic, we have received payments of approximately 95% of contractual base rent and common area maintenance reimbursable expenses billed for the fourth quarter of 2020. As of December 31, 2020 we had two tenants on a deferred payment plan.
Unamortized Lease Commissions and Loan Costs. Leasing commissions are amortized using the straight-line method over the terms of the related lease agreements. Loan costs are amortized on the straight-line method over the terms of the loans, which approximates the interest method. Costs allocated to in-place leases whose terms differ from market terms related to acquired properties are amortized over the remaining life of the respective leases.
Prepaids and Other assets. Prepaids and other assets include escrows established pursuant to certain mortgage financing arrangements for real estate taxes and insurance.
Noncontrolling Interests. Noncontrolling interests are the portion of equity in a subsidiary not attributable to a parent. Accordingly, we have reported noncontrolling interest in equity on the consolidated balance sheets but separate from Pillarstone’s equity. On the consolidated statements of operations, subsidiaries are reported at the consolidated amount, including both the amount attributable to Pillarstone and noncontrolling interest.
Revenue recognition. All leases on our properties are classified as operating leases, and the related rental income is recognized on a straight-line basis over the terms of the related leases. For the year ending December 31, 2020, we recognized a straight-line rent reserve adjustment decreasing rental revenue by approximately $51,000 for the conversion of four tenants to cash basis revenue as a result of our COVID-19 collectability analysis. For the year ending December 31, 2019, we did not recognize a straight-line rent reserve adjustment. Differences between rental income earned and amounts due per the respective lease agreements are capitalized or charged, as applicable, to accrued rents and accounts receivable. Recoveries from tenants for taxes, insurance, and other operating expenses are recognized as revenues in the period the corresponding costs are incurred. We combine lease and nonlease components in lease contracts, which includes combining base rent and recoveries into a single line item, Rental, within the consolidated statements of operations.
We recognize lease termination fees in the year that the lease is terminated and collection of the fee is reasonably assured. Additionally, we may have tenants who pay real estate taxes directly to the taxing authority.
Notes to Consolidated Financial Statements
December 31, 2020
Stock-based compensation. The Company accounts for stock-based compensation in accordance with ASC No. 718, "Compensation - Stock Compensation," which addresses the accounting for stock-based payment transactions in which an enterprise receives employee services in exchange for (a) equity instruments of the enterprise or (b) liabilities that are based on the fair value of the enterprise’s equity instruments or that may be settled by the issuance of such equity instruments. ASC No.718 generally requires that these transactions be accounted for using a fair-value-based method. The Company uses the Black-Scholes option-pricing model to determine the fair-value of stock-based awards.
Income taxes. Because we have not elected to be taxed as a REIT for federal income tax purposes, we account for income taxes using the asset and liability method under which deferred tax assets and liabilities are determined based on differences between the financial reporting and tax bases of assets and liabilities using enacted tax rates in effect for the period in which the differences are expected to affect taxable income. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized. We are also subject to certain state and local income, excise and franchise taxes. The provision for state and local taxes has been reflected in provision for income taxes in the consolidated statements of operations and has not been separately stated due to its insignificance.
The Company evaluates potential uncertain tax positions on an annual basis in conjunction with the board of trustees and its tax accountants. Authoritative literature provides a two-step approach to recognize and measure tax benefits when realization of the benefits is uncertain. The first step is to determine whether the benefit meets the more-likely-than-not condition for recognition and the second step is to determine the amount to be recognized based on the cumulative probability that exceeds 50%.
Embedded in the effective tax rate for the years ended December 31, 2020 and December 31, 2019 are the tax effects of the Company's operating activities. For the year ended December 31, 2020, the Company's effective tax rate applied to its income before income taxes decreased in relation to the statutory rate as a result of income allocated to noncontrolling interest and increased in relation to the statutory rate primarily as a result of state income tax. For the year ended December 31, 2019, the Company's effective tax rate applied to its income before income taxes decreased in relation to the statutory tax rate primarily as a result of a change in the treatment of the gain on certain Real Estate Asset sales described below and income allocated to noncontrolling interest. Please refer to Note 15 (Income Taxes) to the accompanying consolidated financial statements for more information regarding the effective tax rate.
As of December 31, 2020, we did not have a net operating loss carry-forward and as of December 31, 2020 and December 31, 2019, we had net deferred tax liabilities of $82,000 and $96,000, respectively.
On December 9, 2016, Whitestone OP contributed 14 real estate assets ("Real Estate Assets") to Pillarstone OP in exchange for operating partnership units of Pillarstone OP. The contribution of these assets in exchange for Pillarstone OP units resulted in a "built in tax gain" in the Pillarstone OP units owned by Whitestone OP. The amount of the "built in tax gain" represented the difference between the contribution amount and Whitestone OP's tax basis in the properties. On December 27, 2018, Pillarstone OP sold three of the 14 contributed Real Estate Assets, and on October 8, 2019, Pillarstone OP sold an additional three Real Estate Assets.
As a result of new information and facts obtained, and changes in circumstances that occurred in the year ended December 31, 2019, including but not limited to, new contracts entered into for property sales and the expected timing of the Company's potential REIT status election, the Company changed its tax strategy regarding the recognition of the "built in tax gain" by the Company. Under Internal Revenue Code Section 704(c), the Company adopted a method in which it allocates all tax gains from the sale of the contributed properties to Whitestone OP until the full amount of the "built in tax gain" has been depleted. The original tax position which determined the Company's accounting estimates recorded in prior periods was taken before the Company had knowledge of additional information and facts, and changes in circumstances that occurred in the year ended December 31, 2019.
The impact of these changes resulted in a decrease in tax expense for the year ended December 31, 2019 of $426,000, which increased our reported net income by $426,000 or $0.14 per diluted share for the year ended December 31, 2019.
Fair Value of Financial Instruments. Our financial instruments consist primarily of cash, cash equivalents, accounts receivable, accounts and notes payable. The carrying value of cash, cash equivalents, accounts receivable and accounts payable are representative of their respective fair values due to their short-term nature. The fair value of our long-term debt, consisting of a fixed rate secured note aggregates to approximately $15.8 million and $16.3 million as compared to the book value of approximately $15.3 million and $15.5 million as of December 31, 2020 and 2019, respectively. The fair value of our long-term debt is estimated on a Level 2 basis (as provided by ASC No. 820, “Fair Value Measurements and Disclosures”), using a discounted cash flow analysis based on the borrowing rates currently available to us for loans with similar terms and maturities,
Notes to Consolidated Financial Statements
December 31, 2020
discounting the future contractual interest and principal payments.
Disclosure about fair value of financial instruments is based on pertinent information available to management as of December 31, 2020 and December 31, 2019. Although management is not aware of any factors that would significantly affect the fair value amounts, such amounts have not been comprehensively revalued for purposes of these consolidated financial statements since December 31, 2020 and current estimates of fair value may differ significantly from the amounts presented herein.
Concentration of Risk. Substantially all of our revenues are obtained from office and warehouse locations in the Dallas and Houston metropolitan areas. We maintain cash accounts in major U.S. financial institutions. The terms of these deposits are on demand to minimize risk. The balances of these accounts sometimes exceed the federally insured limits, although no losses have been incurred in connection with these deposits.
Recent accounting pronouncements. In April 2020, the Financial Accounting Standards Board ("FASB") issued guidance on the application of Topic 842, relating to concessions being made by lessors in response to the COVID-19 pandemic. The guidance notes that it would be acceptable for entities to make an election to account for lease concessions relating to the effects of the COVID-19 pandemic consistent with how those concessions would be accounted for under Topic 842 as though enforceable rights and obligations for those concessions existed, even if such enforceable rights and obligations are not explicitly contained in the lease contract. Thus, for concessions relating to COVID-19, an entity would not have to analyze each contract to determine whether enforceable rights and obligations for concessions exist in the contract, and would have the option to apply, or not to apply, the general lease modification guidance in Topic 842 as it stands. We have elected this option to account for lease concessions relating to the effects of the COVID-19 pandemic consistent with how those concessions would be accounted for under Topic 842 as though enforceable rights and obligations for those concessions existed. Therefore, such concessions are not accounted for as a lease modification under Topic 842.
In February 2016, the FASB issued an accounting standard update ("ASU") that provided the principles for the recognition, measurement, presentation, and disclosure of leases. Additional guidance and targeted improvements to the February 2016 ASU were made through the issue of supplementary ASUs in July 2018, December 2018 and March 2019.
Effective January 1, 2019, we adopted the new lease accounting guidance in Topic 842. As the lessee and lessor, we have elected the package of practical expedients permitted in Topic 842. Accordingly, we have accounted for our existing leases as operating leases under the new guidance, without reassessing (a) whether the contract contains a lease under Topic 842, (b) whether classification of the operating lease would be different in accordance with Topic 842, or (c) whether the unamortized initial direct costs before transition adjustments (as of December 31, 2018) would have met the definition of initial direct costs in Topic 842 at lease commencement. Additionally, as the lessee and lessor, we will use hindsight in determining the lease term and in assessing impairment of our right-of-use assets. As a result of the adoption of the new lease accounting guidance, as the lessee, we recognized on January 1, 2019 (a) a lease liability of approximately $21,000, which represents the present value of the remaining lease payments of approximately $22,000 discounted using our incremental borrowing rate of 4.5%, and (b) a right-of-use asset of approximately $21,000.
Upon adoption of Topic 842, lessees and lessors are required to apply a modified retrospective transition approach. Reporting entities are permitted to choose one of two methods to recognize and measure leases within the scope of Topic 842:
•Apply Topic 842 to each lease that existed at the beginning of the earliest comparative period presented in the financial statements as well as leases that commenced after that date. Under this method, prior comparative periods presented are adjusted. For leases that commenced prior to the beginning of the earliest comparative period presented, a cumulative-effect adjustment is recognized at that date.
•Apply the guidance to each lease that had commenced as of the beginning of the reporting period in which the entity first applies the lease standard with a cumulative-effect adjustment as of that date. Prior comparative periods would not be adjusted under this method.
We have elected an optional transition method that allows entities to initially apply Topic 842 at January 1, 2019, the date of adoption, and to recognize a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption. As the lessor, we have not assessed unamortized legal costs as part of the package of practical expedients, and we will not make any adjustment to retained earnings at the date of adoption to write off unamortized legal costs. We will continue to amortize unamortized legal costs as of December 31, 2019 over the life of the respective leases. We did not have a cumulative-effect adjustment as of the adoption date. Additionally, the optional transition method does not allow us to apply the new standard (including disclosure requirements) to comparative periods presented. Those periods can continue to be presented in accordance with prior generally accepted accounting principles.
Notes to Consolidated Financial Statements
December 31, 2020
Topic 842 requires lessors to account for leases using an approach that is substantially equivalent to existing guidance for sales-type leases and operating leases. Based on our election of the package of practical expedients, our existing commercial leases, where we are the lessor, continue to be accounted for as operating leases under the new standard. However, Topic 842 changed certain requirements regarding the classification of leases that could result in us recognizing certain long-term leases entered into or modified after January 1, 2019 as sales-type leases or finance leases, as opposed to operating leases. We will continue to monitor our leases following the adoption date to ensure that they are classified in accordance with the new lease standards.
We elected a practical expedient which allows lessors to not separate non-lease components from the lease component when the timing and pattern of transfer for the lease components and non-lease components are the same and if the lease component is classified as an operating lease. As a result, we now present all rentals and reimbursements from tenants as a single line item, Rental, within the consolidated financial statements of operations. For the year ended December 31, 2020, we had rental revenues of approximately $8,752,000, and rental reimbursements of approximately $1,108,000 compared to rental
revenues of approximately $12,244,000 and rental reimbursements of approximately $2,116,000 for the year ended December 31, 2019.
We review the collectability of charges under our tenant operating leases on a regular basis, taking into consideration changes in factors such as the tenants' payment history, the financial condition of the tenant, business conditions in the industry in which the tenant operates and economic conditions in the area where the property is located, including the impact of the COVID-19 pandemic on tenant's business and financial condition. Each tenant is included in one of several portfolios and an allowance is calculated using the calculation methodology for the respective portfolio. With the adoption of Topic 842, we will recognize an adjustment to rental revenue if we deem it probable that the receivable will not be collected. Our review of collectability under our operating leases includes any accrued rental revenues related to the straight-line method of reporting rental revenue.
4. VARIABLE INTEREST ENTITIES
On December 8, 2016, Pillarstone and Pillarstone OP, entered into a Contribution Agreement (the “Contribution Agreement”) with Whitestone REIT Operating Partnership, L.P. (“Whitestone OP”), a subsidiary and the operating partnership of Whitestone REIT, both of which are related parties to Pillarstone and Pillarstone OP. Pursuant to the terms of the Contribution Agreement, Whitestone OP contributed to Pillarstone OP all of the equity interests in four of its wholly-owned subsidiaries (the “Subsidiaries”): Whitestone CP Woodland Ph. 2, LLC, a Delaware limited liability company; Whitestone Industrial-Office, LLC, a Texas limited liability company; Whitestone Offices, LLC, a Texas limited liability company; and Whitestone Uptown Tower, LLC, a Delaware limited liability company (“Uptown Tower”) that owned 14 real estate assets (the “Real Estate Assets” and, together with the Subsidiaries (the “Property”), for aggregate consideration of approximately $84 million, consisting of (1) approximately $18.1 million of Class A units representing limited partnership interests in Pillarstone OP (“OP Units”), issued at a price of $1.331 per OP Unit; and (2) the assumption of approximately $65.9 million of liabilities by Pillarstone OP. Pursuant to the Contribution Agreement, Pillarstone became the general partner of Pillarstone OP with an equity ownership interest in Pillarstone OP totaling approximately a 18.6% valued at $4.1 million as of the date of the Contribution Agreement.
In connection with the Contribution Agreement, on December 8, 2016, the Company, as the general partner of Pillarstone OP, entered into an Amended and Restated Agreement of Limited Partnership of Pillarstone OP (as amended and restated (the “Amended and Restated Agreement of Limited Partnership”). Pursuant to the Amended and Restated Agreement of Limited Partnership, subject to certain protective rights of the limited partners described below, the general partner has full, exclusive and complete responsibility and discretion in the management and control of Pillarstone OP, including the ability to cause Pillarstone OP to enter into certain major transactions including a merger of Pillarstone OP or a sale of substantially all of the assets of Pillarstone OP. The limited partners have no power to remove the general partner without the general partner's consent. In addition, pursuant to the Amended and Restated Agreement of Limited Partnership, the general partner may not conduct any business without the consent of a majority of the limited partners other than in connection with certain actions described therein. The Company is deemed to exercise significant influence over Pillarstone OP as it has the power to direct the activities that most significantly impact Pillarstone OP's economic performance and the Company's right to receive benefits based on its ownership percentage in Pillarstone OP. Accordingly, the Company accounts for Pillarstone OP as a Variable Interest Entity.
Notes to Consolidated Financial Statements
December 31, 2020
The Amended and Restated Agreement of Limited Partnership designates two classes of units of limited partnership interest in Pillarstone OP: the OP Units and LTIP units. In general, LTIP units are similar to the OP Units and will receive the same quarterly per-unit profit distributions as the OP Units. The rights, privileges, and obligations related to each series of LTIP units will be established at the time the LTIP units are issued. As profits interests, LTIP units initially will not have full parity, on a per-unit basis, with OP Units with respect to liquidating distributions. Upon the occurrence of specified events, LTIP units can over time achieve full parity with the OP Units and therefore accrete to an economic value for the holder equivalent to OP Units. If such parity is achieved, vested LTIP units may be converted on a one-for-one basis into OP Units, which in turn are redeemable by the holder for cash or, at the Company’s election, exchangeable for Common Shares on a one-for-one basis.
The carrying amounts and classification of certain assets and liabilities for Pillarstone OP in our consolidated balance sheets as of December 31, 2020 and 2019 consists of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
2020
|
|
2019
|
Real estate assets, at cost
|
|
|
|
|
Property
|
|
$
|
56,290
|
|
|
$
|
55,857
|
|
Accumulated depreciation
|
|
(7,177)
|
|
|
(5,519)
|
|
Total real estate assets
|
|
49,113
|
|
|
50,338
|
|
Cash and cash equivalents
|
|
4,321
|
|
|
3,331
|
|
Escrows and utility deposits
|
|
1,449
|
|
|
566
|
|
Accrued rents and accounts receivable, net of allowance for doubtful accounts
|
|
1,201
|
|
|
1,360
|
|
Receivable due from related party (1)
|
|
132
|
|
|
184
|
|
Unamortized lease commissions and deferred legal cost, net
|
|
490
|
|
|
685
|
|
Prepaid expenses and other assets
|
|
37
|
|
|
35
|
|
Total assets
|
|
$
|
56,743
|
|
|
$
|
56,499
|
|
|
|
|
|
|
|
|
|
|
|
Notes payable
|
|
$
|
15,185
|
|
|
$
|
15,434
|
|
Accounts payable and accrued expenses
|
|
2,333
|
|
|
2,164
|
|
Payable due to related party
|
|
319
|
|
|
344
|
|
Accrued interest payable
|
|
63
|
|
|
67
|
|
Tenants' security deposits
|
|
825
|
|
|
881
|
|
Total liabilities
|
|
$
|
18,725
|
|
|
$
|
18,890
|
|
(1) Excludes approximately $0.03 million in accounts receivable due from Pillarstone that was eliminated in consolidation as of December 31, 2020 and approximately $0.5 million as of December 31, 2019.
5. REAL ESTATE
As of December 31, 2020, Pillarstone OP owned eight commercial properties in the Dallas and Houston metropolitan areas comprised of approximately 0.9 million square feet of gross leasable area.
On October 8, 2019, we completed the sale of Corporate Park West, Corporate Park Woodland and Plaza Park (the "2019 Real Estate Assets Sold", each located in Houston, Texas. Corporate Park West sold for $20.3 million, and we recorded a gain on sale of $6.9 million. Plaza Park sold for $7.3 million, and we recorded a gain on sale of $4.0 million. Corporate Park Woodland sold for $12.2 million, and we recorded a gain on sale of $6.1 million. We have not included the 2019 Real Estate Assets Sold in discontinued operations as they did not meet the definition of discontinued operations.
Notes to Consolidated Financial Statements
December 31, 2020
6. ACCRUED RENTS AND ACCOUNTS RECEIVABLE, NET
Accrued rents and accounts receivable, net consists of amounts accrued, billed and due from tenants, allowance for doubtful accounts and other receivables as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
2020
|
|
2019
|
Tenant receivables
|
|
$
|
558
|
|
|
$
|
271
|
|
Accrued rents and other recoveries
|
|
1,113
|
|
|
1,311
|
|
Allowance for doubtful accounts
|
|
(398)
|
|
|
(161)
|
|
Total
|
|
$
|
1,273
|
|
|
$
|
1,421
|
|
7. UNAMORTIZED LEASE COMMISSIONS AND DEFERRED LEGAL COSTS, NET
Costs which have been deferred consist of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
2020
|
|
2019
|
Leasing commissions
|
|
$
|
1,290
|
|
|
$
|
1,377
|
|
Deferred legal costs
|
|
12
|
|
|
18
|
|
Total cost
|
|
1,302
|
|
|
1,395
|
|
Less: leasing commissions accumulated amortization
|
|
(802)
|
|
|
(698)
|
|
Less: deferred legal costs accumulated amortization
|
|
(10)
|
|
|
(12)
|
|
Total cost, net of accumulated amortization
|
|
$
|
490
|
|
|
$
|
685
|
|
A summary of expected future amortization of deferred costs is as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
Leasing Commissions
|
|
Deferred Legal Costs
|
|
Total
|
2021
|
|
$
|
175
|
|
|
$
|
1
|
|
|
$
|
176
|
|
2022
|
|
121
|
|
|
1
|
|
|
122
|
|
2023
|
|
81
|
|
|
—
|
|
|
81
|
|
2024
|
|
49
|
|
|
—
|
|
|
49
|
|
2025
|
|
31
|
|
|
—
|
|
|
31
|
|
Thereafter
|
|
31
|
|
|
—
|
|
|
31
|
|
Total
|
|
$
|
488
|
|
|
$
|
2
|
|
|
$
|
490
|
|
Notes to Consolidated Financial Statements
December 31, 2020
8. LEASES
Effective January 1, 2019, we adopted the new lease accounting guidance in Topic 842. As the lessee and lessor, we have elected the package of practical expedients in Topic 842. See Note 3 for additional disclosure on Topic 842.
As a Lessor. All leases on our properties are classified as noncancelable operating leases, and the related rental income is recognized on a straight-line basis over the terms of the related leases. Differences between rental income earned and amounts due per the respective lease agreements are capitalized or charged, as applicable, to accrued rents and accounts receivable. Percentage rents, if applicable, are recognized as rental income when the tenants' sales exceed specified amounts in our leases. Recoveries from tenants for taxes, insurance, and other operating expenses are recognized as revenues in the period the corresponding costs are incurred. We combine lease and nonlease components in lease contracts, which includes combining base rent, recoveries, and percentage rents into a single line item, Rental, within the consolidated statements of operations.
A summary of minimum future rents to be received (exclusive of renewals, tenant reimbursements, contingent rents, and collectability adjustments under Topic 842) under noncancelable operating leases in existence as of December 31, 2020 is as follows (in thousands):
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
Minimum Future Rents (1)
|
2021
|
|
$
|
6,780
|
|
2022
|
|
4,516
|
|
2023
|
|
3,249
|
|
2024
|
|
1,925
|
|
2025
|
|
962
|
|
Thereafter
|
|
735
|
|
Total
|
|
$
|
18,167
|
|
(1) These amounts do not reflect future rental revenues from the renewal or replacement of existing leases and exclude reimbursements of operating expenses and rental increases that are not fixed.
As a Lessee. On February 1, 2017, Pillarstone signed a lease with Whitestone for the premises located at 2600 S. Gessner Road, Suite 555 Houston, Texas 77063. The lease term is three years and five months. The rentable area of the premises is approximately 678 square feet. Total rent expense for the year ended December 31, 2020 was approximately $12,328 compared to $11,785 for the year ended December 31, 2019. The weighted average incremental borrowing rate was 4.5% at December 31, 2020. The previous lease term expired on June 30, 2020 and a renewal lease was signed extending the term through June 30, 2021. The remaining lease term as of December 31, 2020 was six months.
The following table summarizes the fixed, future minimum rental payment, excluding variable costs, which are discounted by our weighted average incremental borrowing rates to calculate the lease liability for our operating lease in which we are the lessee as of December 31, 2020 (in thousands):
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
Minimum Future Rents
|
2021
|
|
$
|
7
|
|
Total undiscounted rental payments
|
|
7
|
|
Total lease liabilities (1)
|
|
$
|
7
|
|
(1) Imputed interest is immaterial and therefore not disclosed in the above table.
Notes to Consolidated Financial Statements
December 31, 2020
9. DEBT
Mortgages and other notes payable consist of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
Description
|
|
2020
|
|
2019
|
Fixed rate notes
|
|
|
|
|
$16.5 million 4.97% Note, due September 26, 2023
|
|
$
|
15,262
|
|
|
$
|
15,539
|
|
Total notes payable principal
|
|
15,262
|
|
|
15,539
|
|
Less deferred financing costs, net of accumulated amortization
|
|
(77)
|
|
|
(105)
|
|
Total notes payable
|
|
$
|
15,185
|
|
|
$
|
15,434
|
|
Our mortgage debt was collateralized by one operating property as of December 31, 2020 and December 31, 2019 with a net book value of $21.8 million and $22.3 million, respectively. Our loan contains restrictions that would require prepayment penalties for the acceleration of outstanding debt and is secured by a deed of trust on our property and the assignment of certain rents and leases associated with our property. As of December 31, 2020, we were in compliance with our loan covenants.
Scheduled maturities of notes payable as of December 31, 2020 were as follows, (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
Year
|
|
Amount Due
|
|
2021
|
|
$
|
292
|
|
|
2022
|
|
311
|
|
|
2023
|
|
14,659
|
|
|
Total
|
|
$
|
15,262
|
|
|
Notes to Consolidated Financial Statements
December 31, 2020
10. CONVERTIBLE NOTES PAYABLE - RELATED PARTIES
On November 20, 2015, five trustees on our board of trustees loaned $197,780 to the Company in exchange for convertible notes payable. The convertible notes payable accrue interest at 10% per annum and originally matured on November 20, 2018. In 2019, the Pillarstone board of trustees approved an extension of the maturity date to November 20, 2021. The convertible notes payable can be converted by the noteholders into Common Shares at the rate of $1.331 per Common Share at any time. At maturity or when the Company chooses to call the convertible notes payable, the noteholders have the option to receive cash plus accrued interest or convert the convertible notes payable into Common Shares at $1.331 per Common Share. Accrued interest on these related party convertible notes was approximately $101,000 as of December 31, 2020 compared with approximately $81,000 as of December 31, 2019.
11. SHAREHOLDERS' EQUITY
Operating partnership units. Substantially all of our business is conducted through Pillarstone OP and we are the sole general partner. As of December 31, 2020, we owned an 18.6% interest in Pillarstone OP. At any time on or after six months following the date of the initial issuance thereof, limited partners in Pillarstone OP holding OP Units have the right to convert their OP Units for cash, or at our option, Common Shares of Pillarstone. As of December 31, 2020, there were 16,688,167 OP Units outstanding.
The holders of our common shares, Class A Cumulative Preferred Shares ("Class A Preferred Shares") and Preferred Class C Convertible Preferred shares ("Class C Preferred Shares") approved changes to our declaration of trust, as amended and restated. We presently have authority to issue up to 450,000,000 shares of beneficial interest, $0.01 par value per share, of which 400,000,000 are classified as Common Shares of beneficial interest, $0.01 par value per share and 50,000,000 are classified as preferred shares of beneficial interest, $0.01 par value per share. Of the 50,000,000 preferred shares of beneficial interest, 1,518,000 shares are designated as Class A Preferred Shares and 300,000 shares are designated as Class C Preferred Shares.
Preferred shares. The Company has outstanding 256,636 Class A Preferred Shares of which 95,226 Class A Preferred Shares were issued to the public. The Class A Preferred Shares bear a liquidation value of $10.00 per share. The Class A Preferred Shares are each convertible into 0.046 Common Shares subject to certain formulas. We have the right to redeem the Class A Preferred Shares.
Effective June 30, 2003, we issued 696,078 Class A Preferred Shares valued at approximately $2.4 million to James C. Mastandrea, our Chairman, Chief Executive Officer and President, and John J. Dee, our Chief Financial Officer and Senior Vice President, pursuant to separate restricted share agreements. Under each restricted share agreement, the restricted shares vest upon the later of the following dates:
•the date our gross assets exceed $50 million, or
•50% of the restricted shares on March 4, 2004; 25% of the shares on March 4, 2005 and the remaining 25% of the shares on March 4, 2006.
The Company has not vested any of the above shares. While the Company's gross assets exceed $50 million, when considering its 18.6% ownership of Pillarstone OP, its effective ownership of gross assets is less than $50 million.
In conjunction with a one-time incentive exchange offer for Class A Preferred shareholders, Messrs. Mastandrea and Dee exchanged 534,668 of these restricted Class A Preferred Shares into 163,116 restricted Common Shares. The restrictions described above are also applicable to their Common Shares. The remaining 161,410 restricted Class A Preferred Shares held by Messrs. Mastandrea and Dee can each be converted into 0.305 restricted Common Shares. The market value of 161,410 restricted Class A Preferred Shares and 163,116 restricted Common Shares is approximately $478,000 at December 31, 2020 and there is limited trading volume of the Common Shares on OTC Bulletin Board.
The number of Common Shares and the conversion factor have been revised to reflect the 1-for-75 reverse split of the Common Shares that occurred in July 2006.
During 2020 and 2019, no Class A Preferred Shares were converted into Common Shares.
Notes to Consolidated Financial Statements
December 31, 2020
Effective September 29, 2006, Pillarstone filed articles supplementary to its Declaration of Trust, as amended, restated and supplemented with the State Department of Assessment and Taxation of Maryland designating 300,000 Class C Preferred Shares. The Class C Preferred Shares have voting rights equal to the number of Common Shares into which they are convertible. Each Class C Preferred Share is convertible into Common Shares by dividing the sum of $10.00 and any accrued but unpaid dividends on the Class C Preferred Shares by the conversion price of $1.00. The Class C Preferred Shares have a liquidation preference of $10.00 per share, plus any accrued but unpaid dividends, and can be redeemed by the board of trustees at any time, with notice, at the same price per share.
Effective September 29, 2006, three independent trustees of Pillarstone signed subscription agreements to purchase 125,000 Class C Preferred Shares for an aggregate contribution of $500,000 to maintain Pillarstone as a corporate shell current in its SEC filings.
In addition, on September 29, 2006, Mr. Mastandrea signed a subscription agreement to purchase 44,444 restricted shares of Class C Preferred Shares. The consideration for the purchase was Mr. Mastandrea’s services as an officer of Pillarstone for the period beginning September 29, 2006 and ending September 29, 2008. The Class C Preferred Shares are subject to forfeiture and are restricted from being sold by Mr. Mastandrea until the latest to occur of a public offering by Pillarstone sufficient to liquidate the Class C Preferred Shares, an exchange of Pillarstone’s existing shares for new shares, or September 29, 2008. These shares were fully amortized by the original date in 2008.
Each of the trustees of Pillarstone, who were members of the board of trustees in September 2006, signed a restricted share agreement with Pillarstone, dated September 29, 2006, to receive a total of 12,500 restricted Class C Preferred Shares in lieu of receiving fees in cash for service as a trustee for the two years ending September 29, 2008. The restrictions on the Class C Preferred Shares were to be removed upon the latest to occur of a public offering by Pillarstone sufficient to liquidate the Class C Preferred Shares, an exchange of Pillarstone's existing shares for new shares, or September 29, 2008. These shares were fully amortized by the original date in 2008. On October 22, 2018, Daryl Carter, one of the trustees, forfeited his Class C Preferred Shares as a result of his resignation from our board of trustees.
Shares held in treasury. On October 1, 2003, we completed the sale of our 92.9% general partnership interest in our four commercial properties. A portion of the proceeds from the sale was paid in 38,130 of our Common Shares at an average closing price for the 30 calendar days prior to June 27, 2003 of $21.00 or approximately $801,000. These shares are recorded at cost in the accompanying consolidated balance sheets under treasury shares.
Restricted Common Shares. The following table summarizes the activity of our unvested restricted Common Shares for the years ended December 31, 2020 and 2019:
|
|
|
|
|
|
|
|
|
|
|
|
|
Unvested Restricted Common Shares
|
|
|
|
Weighted-Average
|
|
Number of
|
|
Grant-Date
|
|
Shares
|
|
Fair Value
|
|
|
|
|
Unvested at December 31, 2018
|
168,449
|
|
$11.44
|
Vested
|
—
|
|
—
|
Unvested at December 31, 2019
|
168,449
|
|
$11.44
|
Vested
|
—
|
|
—
|
Unvested at December 31, 2020
|
168,449
|
|
$11.44
|
In the above table, 163,116 restricted shares vest upon meeting performance goals as discussed under “Preferred Shares.” Since the grant date, we have determined that meeting these performance goals is not probable, and no compensation expense has been recognized related to this grant. The grant date fair value of $1,847,000 would be recognized at the point we deem it probable that we would meet the performance goals. The balance of 5,333 restricted shares had grant date fair values totaling $79,000, which was recognized in prior periods though the restrictions remain on the shares.
On June 30, 2003, our shareholders approved the issuance of an agreement to issue additional Common Shares to Paragon Real Estate Development, LLC of which Mr. Mastandrea is the managing member, and Mr. Dee is a member. In September 2006, Pillarstone amended this agreement to include each of the trustees to the agreement so that if a trustee brings a new transaction to Pillarstone, he would receive additional Common Shares of Pillarstone in accordance with a formula in the agreement. In January 2016, the non-employee trustees and Mr. Mastandrea agreed to make this agreement for only non-
Notes to Consolidated Financial Statements
December 31, 2020
employee trustees. The agreement is intended to serve as an incentive for our trustees to increase the asset base, net operating income, funds from operations, and share value of Pillarstone. The exact number of Common Shares that would be issued will be calculated in accordance with a formula in the agreement based on future acquisition, development or redevelopment transactions. Any of these transactions would be subject to approval by the members of our board of trustees who are not receiving the additional Common Shares. We would issue our Common Shares only upon the closing of a transaction. The maximum number of Common Shares a trustee may receive under the additional contribution agreement is limited to a total value of $26 million based on the average closing price of our Common Shares for 30 calendar days preceding the closing of any acquisition transaction. The Common Shares will be restricted until we achieve the five years-year pro forma income target for the acquisition, as approved by the board of trustees, and an increase of 5% in Pillarstone's net operating income and funds from operations. The restricted shares would vest immediately upon any “shift in ownership,” as defined in the agreement. In 2020, the non-employee trustees decided not to participate in the agreement.
Options. On November 16, 1998, we adopted the 1998 Share Option Plan. In 2004 the board of trustees unanimously recommended and the shareholders approved amendments to our 1998 Share Option Plan to increase the number of shares available for grant from 42,222 to 46,666 and to conform with then current tax regulations (“2004 Plan”). The 2004 Plan expired in 2014; the one outstanding grant of 667 options remains effective until 90 days after the term ends of the individual trustee. As of December 31, 2020 and 2019, there was no remaining unrecognized cost related to stock options.
The following table summarizes the activity for outstanding stock options:
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options Outstanding
|
|
|
|
|
|
Weighted-Average
|
|
|
|
|
|
Weighted-Average
|
|
Remaining
|
|
|
|
Number of
|
|
Exercise
|
|
Contractual Term
|
|
Aggregate
|
|
Shares
|
|
Price
|
|
(in years)
|
|
Intrinsic Value (1)
|
|
|
|
|
|
|
|
|
Balance at December 31, 2018
|
667
|
|
|
$
|
33.75
|
|
|
1.25
|
|
$
|
—
|
|
Granted
|
—
|
|
|
—
|
|
|
|
|
|
Exercised
|
—
|
|
|
—
|
|
|
|
|
|
Canceled / forfeited / expired
|
—
|
|
|
$
|
—
|
|
|
|
|
|
Balance at December 31, 2019
|
667
|
|
|
$
|
33.75
|
|
|
1.25
|
|
$
|
—
|
|
Granted
|
—
|
|
|
—
|
|
|
|
|
|
Exercised
|
—
|
|
|
—
|
|
|
|
|
|
Canceled / forfeited / expired
|
—
|
|
|
—
|
|
|
|
|
|
Balance at December 31, 2020
|
667
|
|
|
$
|
33.75
|
|
|
1.25
|
|
$
|
—
|
|
Vested and exercisable as of December 31, 2020
|
—
|
|
|
$
|
—
|
|
|
—
|
|
|
$
|
—
|
|
(1) The aggregate intrinsic value is calculated as approximately the difference between the weighted average exercise price of the underlying awards and the Company’s estimated current fair market value at December 31, 2020. Because the weighted average exercise price exceeds fair market value at December 31, 2020, there is no aggregate intrinsic value for the options.
12. INCENTIVE EQUITY PLAN
At the 2016 Annual Meeting of Shareholders, our shareholders approved the 2016 Equity Plan (“2016 Plan”).
The 2016 Plan provides that awards may be made in Common Shares of the Company or units in the Company’s operating partnership, which may be converted into Common Shares. Subject to adjustment as provided by the terms of the 2016 Plan, the maximum aggregate number of Common Shares with respect to which awards may be granted under the 2016 Plan will be increased based on future issuances of Common Shares and units of the operating partnership, including issuances pursuant to the 2016 Plan, so that at any time the maximum number of shares that may be issued under the 2016 Plan shall equal 12.5% of the aggregate number of Common Shares and units of the operating partnership issued and outstanding (other than treasury shares and/or units issued to or held by the Company).
Notes to Consolidated Financial Statements
December 31, 2020
The Management, Organization and Compensation Committee (the “Committee”) administers the 2016 Plan, except with respect to awards to non-employee trustees, for which the 2016 Plan is administered by the board of trustees. Subject to the terms of the 2016 Plan, the Committee is authorized to select participants, determine the type and number of awards to be granted, determine and later amend (subject to certain limitations) the terms and conditions of any award, interpret and specify the rules and regulations relating to the 2016 Plan, and make all other determinations which may be necessary or desirable for the administration of the 2016 Plan. The 2016 Plan includes the types of awards for grants and the types of financial performance measures.
On July 1, 2019, the Committee approved the grant of 45,031 Restricted Common Share Units (the "Units") subject to the restrictions, terms and conditions set forth in the Restricted Unit Award Agreement (the "Award"). These Units are time-based shares that vest each year over the next three years and will be fully vested on July 1, 2022.
On July 1, 2019, the Committee approved the grant of 45,031 Units subject to the restrictions and terms and conditions set forth in the Award. These Units are performance-based shares linked to five specific goals set forth in the Award. If the Company does not attain the performance goals before July 1, 2022, the Units still subject to restriction will be forfeited to the Company.
On August 7, 2020, the Committee approved the grant of 122,665 Common Share Units to three independent members of the Company's board of trustees. These Common Share Units were issued on August 12, 2020 and vested immediately.
On December 17, 2020, the Committee approved the grant of 56,607 Common Share Units to three independent members of the Company's board of trustees. These Common Share Units were issued on December 17, 2020 and vested immediately.
As of December 31, 2020, the maximum number of Common Shares or OP Units available to be granted is 2,073,686. During the year ended December 31, 2020, the following shares were granted:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Description
|
|
Shares
|
|
Weighted-Average Grant Date Fair Value (1)
|
Non-vested at January 1, 2020
|
|
90,062
|
|
|
$
|
2.18
|
|
Granted
|
|
179,272
|
|
|
$
|
1.29
|
|
Vested
|
|
(194,282)
|
|
|
$
|
1.36
|
|
Non-vested at December 31, 2020
|
|
75,052
|
|
|
$
|
2.18
|
|
Available for grant at December 31, 2020
|
|
2,073,686
|
|
|
(1) The fair value of the shares granted on July 1, 2019 were determined based on the share activity from the date of the three property sales on December 27, 2018 until the grant date July 1, 2019. The fair value of the shares issued on August 12, 2020 and December 17, 2020 were determined by the market price on the dates of issuance.
As of December 31, 2020, per the Award, the Company has determined that the time-based shares and the performance-based shares will vest by July 1, 2022. The time-based shares granted on July 1, 2019 are amortized over their respective amortization periods. The performance-based shares granted on July 1, 2019 will be amortized for three years. Performance-based shares that have not been achieved as of July 1, 2022 will be forfeited to the Company.
The total value of the time-based and performance-based shares granted on July 1, 2019 is approximately $196,000. The Company recognized approximately $68,000 and $56,000 in share-based compensation expense for the years ended December 31, 2020 and 2019, respectively. For the year ended December 31, 2020, the Company had approximately $73,000 in unrecognized share-based compensation expense.
The total value of the Company's board of trustee's shares granted on August 7, 2020 and December 17, 2020 is approximately $166,000 and $65,000, respectively. The Company recognized approximately $231,000 in share-based compensation expense for the year ended December 31, 2020. No share-based compensation expense for trustee compensation was recognized for the year ended December 31, 2019.
Notes to Consolidated Financial Statements
December 31, 2020
13. EARNINGS PER SHARE
The Company applies the guidance of ASC No. 260, "Earnings Per Share," for all periods presented herein. Net earnings per weighted average Common Share outstanding, basic and diluted, is computed based on the weighted average number of Common Shares outstanding for the period. The following table shows the weighted average number of Common Shares outstanding and reconciles the numerator and denominator of earnings per Common Share calculations for the years ended December 31, 2020 and 2019.
For the year ended December 31, 2020, Class A Preferred Shares, Class C Preferred Shares and Restricted Common Shares awarded pursuant to the 2016 Plan (defined in Note 11 above) were not included in net loss per weighted average Common Share outstanding-diluted, because the effect of the conversion would be anti-dilutive. For the year ended December 31, 2019, Class A Preferred Shares, Class C Preferred Shares and Restricted Common Shares awarded pursuant to the 2016 Plan were included in net income per weighted average Common Share outstanding-diluted. During the years ended December 31, 2020 and 2019, the Company had $197,780 of convertible notes payable as discussed in Note 10. The convertible notes payable were not included in the computation of diluted loss per share in 2020 but were included in the computation of diluted earnings per share in 2019.
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Year Ended December 31,
|
(in thousands, except share and per share data)
|
2020
|
|
2019
|
|
|
|
|
Numerator:
|
|
|
|
Net income (loss) available to common shareholders
|
$
|
(371)
|
|
|
$
|
3,067
|
|
Dilutive effect of interest from convertible notes payable
|
—
|
|
|
20
|
|
Net income (loss) available to common shareholders with assumed conversion
|
$
|
(371)
|
|
|
$
|
3,087
|
|
|
|
|
|
Denominator:
|
|
|
|
Weighted average number of common shares - basic
|
460,389
|
|
|
405,169
|
|
Effect of dilutive securities:
|
|
|
|
Dilutive effect of restricted common shares
|
—
|
|
|
45,031
|
|
Assumed conversion of Class A Preferred Shares
|
—
|
|
|
53,610
|
|
Assumed conversion of Class C Preferred Shares
|
—
|
|
|
2,319,440
|
|
Assumed conversion of convertible notes payable
|
—
|
|
|
202,306
|
|
Weighted average number of common shares - dilutive
|
460,389
|
|
|
3,025,556
|
|
|
|
|
|
Earnings (Loss) Per Share:
|
|
|
|
Basic income (loss) per Common Share:
|
|
|
|
Net income (loss) available to Common Shareholders
|
$
|
(0.81)
|
|
|
$
|
7.57
|
|
Diluted income (loss) per Common Share:
|
|
|
|
Net income (loss) available to Common Shareholders
|
$
|
(0.81)
|
|
|
$
|
1.02
|
|
14. DIVIDENDS AND DISTRIBUTIONS
No cash distributions were declared during 2020 and 2019 with respect to common or preferred shares.
15. INCOME TAXES
The Company follows the provisions of ASC Topic 740 which provides for recognition of deferred tax assets and liabilities for deductible temporary timing differences, net of a valuation allowance for any asset for which it is more-likely-than-not will not be realized in the Company’s tax return.
Notes to Consolidated Financial Statements
December 31, 2020
Income tax benefit (provision) was $35,000 and $(280,000) for the years ended December 31, 2020 and 2019, respectively.
The income tax benefit (provision) included in the consolidated statements of operations for the years ended December 31, 2020 and 2019 was comprised of the following components (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Year Ended December 31,
|
|
2020
|
|
2019
|
Federal:
|
|
|
|
Current
|
$
|
72
|
|
|
$
|
57
|
|
Deferred
|
14
|
|
|
(295)
|
|
Change in valuation allowance
|
—
|
|
|
199
|
|
|
$
|
86
|
|
|
$
|
(39)
|
|
|
|
|
|
State:
|
|
|
|
Current
|
$
|
(51)
|
|
|
$
|
(241)
|
|
|
$
|
(51)
|
|
|
$
|
(241)
|
|
|
|
|
|
Total tax benefit (provision)
|
$
|
35
|
|
|
$
|
(280)
|
|
The items accounting for the difference between income taxes computed at the Federal statutory rate and our effective rate were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Year Ended December 31,
|
|
2020
|
|
2019
|
Federal statutory rate
|
21
|
%
|
|
21
|
%
|
Effect of:
|
|
|
|
Noncontrolling interest
|
(35)
|
%
|
|
(17)
|
%
|
State income tax, net of Federal tax effect
|
6
|
%
|
|
1
|
%
|
Permanent difference
|
2
|
%
|
|
—
|
%
|
Change in deferred valuations
|
—
|
%
|
|
(2)
|
%
|
Change in valuation allowance
|
—
|
%
|
|
(1)
|
%
|
Effective rate
|
(6)
|
%
|
|
2
|
%
|
Deferred tax assets and liabilities consist of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
2020
|
|
2019
|
Deferred tax assets and (liabilities):
|
|
|
|
Depreciation and amortization
|
$
|
(137)
|
|
|
$
|
(121)
|
|
Acquisition and organizational costs
|
56
|
|
|
61
|
|
Accruals and others
|
(1)
|
|
|
(36)
|
|
Total deferred tax assets and (liabilities)
|
$
|
(82)
|
|
|
$
|
(96)
|
|
The Company had deferred tax liabilities of $82,000 and $96,000 as of December 31, 2020 and December 31, 2019, respectively. Deferred tax liabilities are accounted for on the accounts payable and accrued expenses line item on the Company's balance sheet. As of December 31, 2020, the Company had no net operating loss carry-forwards available to be carried to future periods.
Notes to Consolidated Financial Statements
December 31, 2020
16. RELATED PARTY TRANSACTIONS
On December 8, 2016, the Company entered into the Contribution Agreement with Pillarstone OP and Whitestone OP, both of which are related parties, resulting in the contribution of an equity ownership interest in Pillarstone OP to the Company valued at $4,121,312 and representing approximately 18.6% of the outstanding equity in Pillarstone OP. The terms of the Contribution Agreement were determined through arm's-length negotiations and were recommended to the board of trustees by a special committee of the board of trustees consisting solely of disinterested trustees of the Company and approved by the full board.
Mr. James C. Mastandrea, the Chairman and Chief Executive Officer of Whitestone REIT, also serves as the Chairman and Chief Executive Officer of Pillarstone Capital REIT and beneficially owns approximately 78.2% of the outstanding equity in Pillarstone Capital REIT (when calculated in accordance with Rule 13d-3(d)(1) under the Exchange Act of 1934, as amended (the “Exchange Act”)). Mr. John J. Dee, the Chief Operating Officer and Corporate Secretary of Whitestone REIT, also serves as the Senior Vice President and Chief Financial Officer of Pillarstone Capital REIT and beneficially owns approximately 27.0% of the outstanding equity in Pillarstone Capital REIT (when calculated in accordance with Rule 13d-3(d)(1) under the Exchange Act). In addition, Mr. Paul T. Lambert, a Trustee of Whitestone REIT, also serves as a Trustee of Pillarstone Capital REIT.
Pursuant to the Contribution Agreement, the Company agreed to file with the SEC on or prior to June 8, 2018, a shelf registration statement to register for sale under the Securities Act of 1933, as amended, the issuance of the common shares in the Company that may be issued upon redemption of the OP Units issued pursuant to the Contribution Agreement and the offer and resale of such common shares by the holders thereof. In addition, pursuant to the Contribution Agreement, in the event of a Change of Control (as defined therein) of Whitestone, Pillarstone OP shall have the right, but not the obligation, to repurchase the OP Units issued thereunder from Whitestone OP at their initial issue price of $1.331 per OP Unit. No Pillarstone OP units were purchased under the OP Unit Purchase Agreement. Pillarstone and Whitestone agreed to extend the filing of the shelf registration statement to the date that the Company closes a public equity offering.
In connection with the Contribution Agreement, on December 8, 2016, the Company and Pillarstone OP entered into a Tax Protection Agreement (the “Tax Protection Agreement”) with Whitestone OP pursuant to which Pillarstone OP agreed to indemnify Whitestone OP for certain tax liabilities resulting from its recognition of income or gain prior to December 8, 2021 if such liabilities result from a transaction involving a direct or indirect taxable disposition of all or a portion of the Property or if Pillarstone OP fails to maintain and allocate to Whitestone OP for taxation purposes minimum levels of liabilities as specified in the Tax Protection Agreement, the result of which causes such recognition of income or gain and Whitestone incurs taxes that must be paid to maintain its REIT status for federal tax purposes. In December 2018, Pillarstone OP sold three of the Real Estate Assets, which did not create additional tax liabilities for Whitestone OP. In addition, the sale of the 2019 Real Estate Assets Sold did not create additional tax liabilities for Whitestone OP.
During the ordinary course of business, we have transactions with Whitestone that include, but are not limited to, rental income, interest expense, general and administrative costs, commissions, management and asset management fees, and property expenses.
In connection with the Contribution Agreement, on December 8, 2016, the Company and Pillarstone OP entered into a Management Agreement (collectively, the “Management Agreements”) with Whitestone TRS, Inc., a subsidiary of Whitestone (“Whitestone TRS”). Pursuant to the Management Agreements with respect to each property, other than Uptown Tower, Whitestone TRS agreed to provide certain property management, leasing and day-to-day advisory and administrative services to such properties in exchange for (1) a monthly property management fee equal to 5.0% of the monthly revenues of each property and (2) a monthly asset management fee equal to 0.125% of GAV (as defined in each Management Agreement as, generally, the purchase price of the respective property based upon the purchase price allocations determined pursuant to the Contribution Agreement, excluding all indebtedness, liabilities or claims of any nature) of such property. Pursuant to the Management Agreement with respect to Uptown Tower, Whitestone TRS agreed to provide certain property management, leasing and day-to-day advisory and administrative services in exchange for (1) a monthly property management fee equal to 3.0% of the monthly revenues of Uptown Tower and (2) a monthly asset management fee equal to 0.125% of GAV of Uptown Tower.
Notes to Consolidated Financial Statements
December 31, 2020
The following table presents the revenue and expenses with Whitestone included in our consolidated statements of operations for the years ended December 31, 2020 and 2019 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Year Ended December 31,
|
|
|
Location of Revenue (Expense)
|
|
2020
|
|
2019
|
Rent
|
|
Rental
|
|
$
|
921
|
|
|
$
|
703
|
|
Property management fees
|
|
Management fees
|
|
(418)
|
|
(626)
|
|
Asset management fees
|
|
Management fees
|
|
(173)
|
|
(191)
|
|
Rent expense
|
|
Office expenses
|
|
(17)
|
|
(12)
|
|
Interest expense
|
|
Interest expense
|
|
—
|
|
(171)
|
|
Receivables due from and payables due to related parties consisted of the following as of December 31, 2020 and 2019 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
Location of Receivable (Payable)
|
|
2020
|
|
2019
|
Tenant receivables and other receivables
|
Receivable due from related party
|
|
$
|
132
|
|
|
$
|
184
|
|
Accrued interest due to related party
|
Accrued interest payable
|
|
(101)
|
|
|
(81)
|
|
Other payables due to related party
|
Payable due to related party
|
|
(335)
|
|
|
(346)
|
|
17. COMMITMENTS AND CONTINGENCIES
Employment Agreements
On April 3, 2006, the board of trustees authorized modifications to Mr. Mastandrea’s employment agreement. The modification agreement allows Mr. Mastandrea to devote time to other business and personal investments while performing his duties for Pillarstone. The original employment agreement with Mr. Mastandrea provides for an annual salary of $60,000 effective as of March 4, 2003. The initial term of Mr. Mastandrea’s employment is for two years and may be extended for terms of one year. Mr. Mastandrea’s base annual salary may be adjusted from time to time, except that the adjustment may not be lower than the preceding year’s base salary. The employment agreement provides that Mr. Mastandrea will be entitled to base salary and bonus at the rate in effect before any termination for a period of three years in the event that his employment is terminated without cause by us or for good reason by Mr. Mastandrea. Effective September 29, 2006, in lieu of an annual salary of $100,000 and to conserve cash, Mr. Mastandrea agreed to receive 44,444 Class C Preferred Shares for his services as an officer of Pillarstone through September 29, 2008. The shares were fully amortized by the original date in 2008.
Mr. Dee’s employment agreement was also modified on April 3, 2006 in a similar way to Mr. Mastandrea’s employment agreement as explained above, except Mr. Dee does not receive any Class C Preferred Shares for his services as an officer of Pillarstone. Mr. Dee’s base annual salary may be adjusted from time to time, except that the adjustment may not be lower than the preceding year’s base salary. The employment agreement provides that Mr. Dee will be entitled to base salary and bonus at the rate in effect before any termination for a period of three years in the event that his employment is terminated without cause by us or for good reason by Mr. Dee. On September 29, 2006, the board of trustees approved compensation to Mr. Dee of $125 per hour, up to a maximum of $5,000 per month. However, Mr. Dee has forgone receiving any cash compensation under this arrangement in order to preserve the Company’s cash.
18. SEGMENT INFORMATION
Our management historically has not differentiated by property types and therefore does not present segment information.
19. SUBSEQUENT EVENTS
Notes to Consolidated Financial Statements
December 31, 2020
Management has evaluated subsequent events through March 26, 2021, the date the consolidated financial statements were available to be issued and has determined that there are no subsequent events to be reported.