UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 1-K
ANNUAL REPORT
ANNUAL REPORT PURSUANT TO REGULATION A OF THE SECURITIES ACT OF 1933
For the fiscal year ended December 31, 2019
Hall Structured Finance II, LLC
(Exact name of registrant as specified in its charter)
Commission File Number: 024-10770
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Texas (State or other jurisdiction of |
75-2503042 (I.R.S. Employer |
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2323 Ross Avenue, Suite 200 Dallas, Texas |
75201 (Zip Code) |
(214) 269-9500
Registrant’s telephone number, including area code
Debentures
(Title of each class of securities issued pursuant to Regulation A)
TABLE OF CONTENTS
Part II.
STATEMENTS REGARDING FORWARD-LOOKING INFORMATION
We make statements in this Annual Report on Form 1-K (“Annual Report”) that are forward-looking statements within the meaning of the federal securities laws. The words “outlook,” “believe,” “estimate,” “potential,” “projected,” “expect,” “anticipate,” “intend,” “plan,” “seek,” “may,” “could” and similar expressions or statements regarding future periods are intended to identify forward-looking statements. These forward-looking statements involve known and unknown risks, uncertainties and other important factors that could cause our actual results, performance or achievements, or industry results, to differ materially from any predictions of future results, performance or achievements that we express or imply in this Annual Report or in the information incorporated by reference into this Annual Report.
The forward-looking statements included in this Annual Report are based upon our current expectations, plans, estimates, assumptions and beliefs that 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 which could have a material adverse effect on our operations and future prospects include, but are not limited to:
| · | unforeseen events beyond our control, such as terrorist attacks, health concerns, including pandemics and epidemics such as COVID-19, imposition of taxes and surcharges by regulatory authorities, travel related restrictions, accidents and unusual weather patterns, including natural disasters such as hurricanes, tornadoes or earthquakes; |
| · | changes in economic conditions generally and the real estate markets specifically; |
| · | intense competition in the real estate lending market that may limit our ability to make loans or otherwise deploy our capital; |
| · | increased interest rates and operating costs; |
| · | our failure to obtain necessary outside financing; |
| · | failure of loans to yield anticipated results; |
| · | risks associated with derivatives or hedging activity; |
| · | our level of debt and the terms and limitations imposed on us by our debt agreements; |
| · | our ability to retain our executive officers and other key personnel of our Manager and its affiliates; |
| · | expected rates of return provided to investors; |
| · | the ability of our Manager and its affiliates to source, originate and service our loans and the quality and performance of these loans; |
| · | our ability to retain and hire competent employees and appropriately staff our operations; |
| · | legislative or regulatory changes impacting our business or our assets (including changes in the Securities and Exchange Commission (“SEC”) guidance related to Regulation A (“Regulation A”) of the Securities Act of 1933, as amended (the “Securities Act”), or the Jumpstart Our Business Startups Act of 2012 (the “JOBS Act”)); |
| · | changes in business conditions and the market value of our loans, including changes in interest rates, prepayment risk, operator or borrower defaults or bankruptcy, and generally the increased risk of loss if our investments fail to perform as expected; |
| · | our ability to implement effective conflicts of interest policies and procedures among the various real estate investment opportunities sponsored by our Manager; |
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| · | our compliance with applicable local, state and federal laws, including the Investment Advisers Act of 1940, as amended (the “Advisers Act”), the Investment Company Act and other laws; and |
| · | changes to U.S. generally accepted accounting principles (“U.S. GAAP”). |
Any of the assumptions underlying forward-looking statements could be inaccurate. You are cautioned not to place undue reliance on any forward-looking statements included in this Annual Report. All forward-looking statements are made as of the date of this Annual Report and the risk that actual results will differ materially from the expectations expressed in this Annual Report will increase with the passage of time. Except as otherwise required by the federal securities laws, we undertake no obligation to publicly update or revise any forward-looking statements after the date of this Annual Report, whether as a result of new information, future events, changed circumstances or any other reason. In light of the significant uncertainties inherent in the forward-looking statements included in this Annual Report, including, without limitation, the risks described under “Risk Factors,” the inclusion of such forward-looking statements should not be regarded as a representation by us or any other person that the objectives and plans set forth in this Annual Report will be achieved.
| Item 1. | Business |
General
Hall Structured Finance II, LLC (“HSF” or the “Company”) is a direct private real estate lender engaged in providing acquisition, bridge, and construction financing (collectively, the “Loans” and each individually a “Loan”) on a value-add basis to unaffiliated borrowers (the “Borrowers”) for hotel, office, multifamily, condominium and mixed use and various other real estate projects (the “Projects”) located throughout the United States. We focus on debt financing opportunities that are underserved by banks and other institutional providers of debt. Our primary focus has been in providing first lien construction financing, that is non-recourse upon completion. Our loan programs are designed to provide financing options to real estate investors and developers in meeting their financing needs as an alternative to conventional lending program offered by banks and other institutional capital providers. We offer creative loan structures and efficient loan execution for ground-up construction, adaptive reuse, major asset repositioning and renovation projects. The Company intends to continue to pursue financing opportunities where its financial flexibility and real estate and capital market expertise adds value in facilitating the financing of commercial real estate transactions.
Historically, the company’s Loans have been outstanding approximately two to three years, although Loan terms have generally allowed for loans to be outstanding for up to five years, subject to certain conditions. Current outstanding Loan commitments range from $11,000,000 to $104,000,000, but we have the option to make larger loans. All outstanding Loans are structured as first lien mortgages secured by Projects at amounts that are generally between 55% and 75% of the total costs to develop the applicable Project. Current outstanding Loans are generally non-recourse to the Borrower, subject to standard carve out guarantees and completion guarantees on construction loans. Loans that are currently outstanding generally require interest only payments during the primary term and provide for 12 to 18-month yield protection payments from Project completion.
We believe that we have differentiated ourselves in the marketplace by using and drawing on our extensive real estate and finance expertise, which allows us to efficiently assess opportunities and underwrite a broad range of perspective loan opportunities, and to be more creative in structuring transactions that provide us the proper security and collateral while also addressing the needs of the Borrowers. Areas of emphasis in our underwriting of perspective Loan opportunities include (but may not be limited to):
| · | Overall quality of the real estate project; |
| · | Market fundamentals, and demand generators; |
| · | Asset potential and positioning within the market; |
| · | History and experience of the principals of the Borrower; |
| · | Project team, including the developer, general contractor and architect; |
| · | Overall financial and value-enhancement plans for the Project; and |
| · | The amount of equity and/or subordinated capital invested or arranged to be invested by the Borrower and its principals. |
Both in our current form and through our predecessors, we have operated on strong operating principles and the long-standing business experience of our owners and executives. The Company is managed (through HSF Holdings Management, LLC, our Manager) by senior executives with an average of more than 30 years of direct industry experience, knowledge of all real estate asset classes across a broad range of geographic market areas and experience with both institutional and smaller entrepreneurial investors. Additionally, the Company is part of an affiliated group of entities known as HALL Group, the origin of which began over 50 years ago by Craig Hall. HALL Group has expertise in real estate ownership, management, leasing, acquisition, disposition, and finance and has a broad range of other experience including vineyards and wineries, software development, commercial lending, and early stage venture capital. We can draw the HALL Group’s expertise should we so require.
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Other HALL Group operational areas and projects include: i) HALL Park, a 162 acre master planned development located in Frisco, Texas containing 15 commercial office buildings totaling 2,200,000 square foot, ii) HALL Arts, a three-phase, five-acre, mixed-use development located in the Dallas Arts District the first two phases containing a commercial office building, a luxury hotel, and for sale luxury residential tower have been completed and or are near completion in the case of the luxury residential tower; and HALL Art Collection, a collection of local and international art pieces located throughout HALL Group’s properties. Additionally, the the HALL Group maintains a significant investment in, HALL Wines of Napa, LP, which has two wineries located in St. Helena, Ca. and Rutherford, Ca., which produce highly rated Bordeaux varietal wines under the Hall brand (Cabernet Sauvignon, Merlot, Sauvignon Blanc), Pinot Noir and Chardonnay wine under the WALT Wine brand, and zinfandel and rose under the BACA brand. HALL Wines employs high-density plantings and small vine viticulture combined with two cutting-edge, gravity-flow wineries to produce the highest quality wines, and now has three 100-point, perfect score wines. Over the course of its 50 plus year history, the HALL Group has collectively owned, managed and/or developed more than 100,000 apartments, five million square feet of commercial office space, numerous hotels, retail centers, residential land, software businesses and numerous venture capital companies.
HSF provides the following financial attributes:
| · | Net equity as of December 31, 2019 of $102,944,946. |
| · | The Company generally secures loans from banks which are secured by the collateral assignment of each Loan (the “Bank Loans”). All Bank Loans have been paid in full since the inception of our direct lending program over 20 years ago. |
| · | As of December 31, 2019, HSF had $912 million in outstanding Loan commitments at a weighted average loan to cost (LTC) ratio of approximately 65% (with individual Loans ranging from a 49% LTC ratio to 78% LTC ratio) with over $400 million in borrower equity and/or other subordinated capital backing such Loans. All the Loans are secured by first lien mortgages. |
| · | HSF’s 20 plus year track record (the “Track Record”) includes over $1.5 billion in originations (over 90% represented by first mortgage loans). As of December 31, 2019, $537 million of HSF’s originations have full been paid off or otherwise retired. |
| · | The $537 million in Loans that had gone "full cycle" as of December 31, 2019 and which are included in HSF’s Track Record, consists of 48 individual Loans, which provided a 12.3% unleveraged internal rate of return (i.e. monthly compounded rate of return on each loan based on the return of principal plus interest, and prepayment and other fees), and a 29.3% internal rate of return on a leveraged basis (i.e. monthly compounded rate of return on each loan based on the return of principal plus interest, and prepayment and other fees net of the repayment of each applicable underlying Bank Loan, and after considering interest paid on such Bank Loans). |
| · | HSF has provided a loan covenant which restricts distributions being made to members of the Company if such distribution would cause the net equity of the Company and its subsidiaries to be less than $75 million after giving effect to such distribution. |
Market Positioning
Since the “great recession” of 2008, banks, insurance companies and other traditional lenders generally become more conservative in their underwriting of commercial real estate loans. This combined with new regulations on real estate lending imposed upon banks and other financial institutions through Dodd-Frank and Basel III particularly impacted the availability of, and willingness of such institutions to provide, construction loans. The result was that many banks and other financial institutions would largely originate construction loans only at very low leverage levels, with existing proven customers. We believe this trend was even more pronounced for commercial real estate loans under $100 million, and particularly loans under $50 million. As an example, prior to 2008, office developers could routinely obtain construction financing for office projects without preleasing in the 80% loan to construction cost range. Since 2008 only the strongest developers could obtain financing for such a project at greater than 50% loan to cost. Similar reductions have taken place on assets such as to-be-built hotels. This was notwithstanding the robust recovery that was occurring in the real estate industry, with real estate values far exceeding pre-recession levels.
We identified this gap in the real estate capital markets as an opportunity and the Company’s market presence, experience and reputation and the ability of our management team to underwrite a broad range of projects and structures, and flexibility allow us to take advantage of what we considered a favorable lending environment for our target loans. As a private lender, we are not required to adhere to the federal regulations imposed on the banking sector. While regulatory restraints limited the flexibility of many commercial lending institutions, we have been able to capitalize on those opportunities in offering construction and other types of real estate loans providing for what we considered moderately higher loan proceeds and leverage levels, the ability to be responsive to borrower needs in structuring individual loans, and close transactions faster than banks and other traditional financial institutions.
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We believe that our lending strategy and operating model distinguished us from other lenders providing similar loans.
| · | The Company has a proven over 20 plus year Track Record as a successful commercial real estate lender. |
| · | HSF’s Track Record has been established over a period of time that covers multiple economic cycles and various market conditions. |
| · | HSF is an outgrowth of a full service 50-year old real estate development, management and leasing company, providing support in underwriting, due diligence and asset management. |
| · | Able to underwrite and react to market opportunities across all types of real estate products. |
| · | The relative limited availability of selected areas of real estate financing from banks and other institutional parties resulting from increased regulatory restrictions and limitations gave rise to an increasing need for real estate centric direct private lenders like HSF who can underwrite a broad range of real estate financing opportunities. |
Business Activities
As of December 31, 2019, the Company, together with its predecessor operations, has originated approximately $1.5 billion of Loans under 76 separate loan transactions. As of December 31, 2019, HSF had outstanding first mortgage loans secured by 28 properties (the “Outstanding Loans”) representing approximately $912 million in outstanding loan commitment amounts. As of December 31, 2019, HSF had approximately $298 million due and outstanding on the Outstanding Loans.
Bank Loans that obtained by HSF or its subsidiaries are generally guaranteed by the Company, our subsidiaries, and/or other affiliated entities.
Recent Developments
Subsequent to year end, a pandemic related to coronavirus (or COVID-19) was declared. The spread of COVID-19 in the first quarter of 2020 has caused significant volatility in the U.S. and international debt and equity markets. The extent of the impact of the COVID-19 pandemic on the financial performance of the Company’s investments will depend on future developments, all of which are highly uncertain and cannot be predicted. Given that a large majority of the Company’s current Loan commitments are secured by hotels, the coronavirus pandemic and the resulting current restrictions on travel could adversely impact our operations, the payment of debt service on our Loans, the payoff at scheduled maturity of our Loans, and the number of attractive prospective new loan opportunities presented depending on the length of time those restrictions remain in place and the economic environment following the removal of such restrictions. The largest current impact of the COVID-19 pandemic to the hospitality industry is on operating hotels. Of note the large majority of Projects securing the Loans are currently under construction and not operating. As a result, the impact on Projects under construction to date has not been as direct. Albeit, in some cases construction has been temporarily halted or slowed as a result of local ordinances related to the coronavirus pandemic and/or related interruptions in supply chains providing materials and goods. As a result of the above, the Company has either entered into or is in the process of entering into forbearance agreements in connection with certain of its Loans. Forbearance agreements generally provide for a reduction in the current pay rate for a short period of time, and the deferral of interest equal to the difference between the original contract rate and the pay rate under the forbearance agreement. Two Loans are not current in the payment of their debt service in which the Company has not entered into or at this time is not in the process of entering into forbearance agreements, though discussions are ongoing relating to such matters with these Borrowers. There is one Loan in which the Company is in the process of negotiating a deed-in-lieu transaction, in which a subsidiary of the Company would take title to the underlying property securing the Loan. All other Loans are current in the payment of debt service.
Bank Loans
We have typically obtained Bank Loans to increase our funds available to make new Loans. Take for example a Project for which the total cost is $10 million, and the amount of our Bank Loan is $7.5 million. Currently, the interest rates on our Loans are typically between 7.00% and 9.50% over 30-day LIBOR (or between 7.99% and 10.49% at the 30-day LIBOR rate of 0.99% as of April 2020). Bank Loans are typically obtained in an amount equal to 70% to 80% of the amount of each of our Loans, which in our example would provide us with the capacity to lend an additional amount of between $25.0 million and $37.5 million assuming each new subsequent loan was financed in the same manner. Currently, the interest rates on our Bank Loans are typically between 2.95% and 3.75% over 30-day LIBOR (or between 3.94% and 4.74% at the 30-day LIBOR rate of 0.99% as of April 2020).
Bank Loans are generally secured by a collateral assignment of each Loan and a guarantee by the Company our subsidiaries, and/or other affiliated entities. As of December 31, 2019, the Company had outstanding Bank Loans of $208 million.
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Loan Origination and Underwriting Process
HSF believes that through its Manager it has a strong underwriting team which has remained highly selective in the perspective transactions it has recommended and has not deviated from its core underwriting principals. Our Manager has generally employed the following loan origination and underwriting process, although the process can vary significantly on a case by case basis:
1. A loan officer is assigned to a prospective new loan opportunity for initial review and discussions with the prospective Borrower. HSF seeks to originate loans on Projects with strong real estate fundamentals and to prospective Borrowers with sound business plans and capital structures.
2. Prospective Borrowers which appear to meet the Company’s underwriting standards are provided a loan application letter setting forth proposed Loan terms. The prospective Borrower (or its affiliate) will generally be required to (i) provide a due diligence deposit (typically not less than $25,000) and (ii) execute the application letter, which generally will provide for exclusivity to HSF to make the Loan for a designated period of time (typically 30 to 60 days). One or more associates are required to visit the site, meet with some or all of the principals representing the prospective Borrower, visit comparable properties as may be feasible, and complete preliminary due diligence.
3. If after initial due diligence the prospective Loan opportunity continues to appear to fit the Company’s financing program and underwriting criteria, a detailed underwriting memorandum is submitted to the loan committee (the “Loan Committee”), which currently consists of Craig Hall, Richard Hyman and Donald Braun, for preliminary approval. Upon submission of a prospective Loan the Loan Committee may approve the Loan subject to final due diligence, alter the prospective Loan terms, or deny the terms of the proposed Loan. If the prospective Loan is preliminarily approved by the Loan Committee, an additional deposit is typically required from the Borrower (typically in the amount of $25,000 or more). Prospective new loans may be submitted to the Loan Committee for approval one or more times.
4. Once preliminary Loan Committee approval is received; HSF then conducts its final due diligence review and loan documentation process which typically takes between 30 and 60 days. This includes an examination of the legal structure of the transaction, including Patriot Act due diligence as may be required, and credit, background and reference checks of the prospective Borrower and its key principals. HSF obtains a number of third-party reports from qualified firms in connection with performing certain underwriting criteria and items, including appraisals, environmental reports, title review, insurance analysis, and construction budget evaluation. HSF employs outside law firms in the closing and documentation of each Loan. Additional market analysis generally consists of visiting the location, visiting comparable and comparative properties, and/or communicating with appraisers, local brokers and/or other market participants.
5. During the final due diligence and loan documentation process, the HSF loan officer and other associates involved in the due diligence and closing process report any material deviations from the terms and conditions preliminarily approved by the Loan Committee in obtaining final approval by the Loan Committee and prior to the final Loan documents being executed.
General Loan Terms
The interest rate on 1st mortgage construction loans have generally been between 7.00% and 8.75% over 30-day LIBOR. Loans have typically been subject to an interest rate floor or minimum interest rate established at loan closing. Bank Loans secured by Loans are typically obtained sometime after the closing of a Loan. HSF has generally obtained Bank Loans at approximately 75% of the commitment amount of each Loan, resulting in an expected IRR return to HSF on the net equity in each Loan of in excess of 20%. Each Bank Loan is secured by the collateral assignment of a individual Loan, and guaranteed by HSF, subsidiaries of HSF, and/or other affiliated entities. HSF Loans generally provide for three year terms, and one to two year extension options subject to certain conditions being met by the borrower.
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Investment Limitations to Avoid Registration as an Investment Company
General
We conduct our operations so that neither we nor any of our subsidiaries will be required to register as an investment company under the Investment Company Act. Under the relevant provisions of Section 3(a)(1) of the Investment Company Act, we will not be deemed to be an "investment company" if:
| · | we are not engaged primarily, nor do we hold ourselves out as being engaged primarily, nor propose to engage primarily, in the business of investing, reinvesting or trading in securities, which criteria we refer to as the primarily engaged test; and |
| · | we are not engaged and do not propose to engage in the business of investing, reinvesting, owning, holding or trading in securities and do not own or propose to acquire "investment securities" having a value exceeding 40% of the value of our total assets on an unconsolidated basis, which criteria we refer to as the 40% test. "Investment securities" excludes U.S. government securities and securities of majority-owned subsidiaries that are not themselves investment companies and are not relying on the exception from the definition of investment company under Section 3(c)(1) or Section 3(c)(7) (relating to private investment companies). |
We believe that we and our subsidiaries satisfy both tests above. With respect to the 40% test, the entities through which we make our loans are wholly-owned subsidiaries that are not themselves investment companies and are not relying on the exceptions from the definition of investment company under Section 3(c)(1) or Section 3(c)(7) (relating to private investment companies).
Through our wholly owned subsidiaries, we engage in the non-investment company businesses of these subsidiaries. Although the SEC staff has issued little guidance with respect to the primarily engaged test, we are not aware of any court decisions or SEC staff interpretations finding a holding company that satisfies the 40% test to nevertheless be an investment company under the primarily engaged test.
We believe our subsidiaries may rely on Section 3(c)(5)(C) of the Investment Company Act for an exception from the definition of an investment company. The SEC staff’s position on Section 3(c)(5)(C) generally requires that an issuer maintain at least 55% of its assets in "mortgages and other liens on and interests in real estate," or qualifying assets; at least 80% of its assets in qualifying assets plus real estate-related assets; and no more than 20% of the value of its assets in other than qualifying assets and real estate-related assets, which we refer to as miscellaneous assets. We discuss below how we treat the investments of our subsidiaries that own them under the Investment Company Act.
Real Property. We treat an investment in real property as a qualifying asset.
Mortgage Loans. We treat a first mortgage loan as a qualifying asset provided that the loan is fully secured, i.e. the value of the real estate securing the loan is greater than the value of the note evidencing the loan. If the loan is not fully secured, the entire value of the loan is classified as a real estate-related asset if 55% of the fair market value of the loan is secured by real estate. We treat mortgage loans that are junior to a mortgage owned by another lender, or second mortgages, as qualifying assets if the real property fully secures the second mortgage. With respect to construction mortgage loans, we treat only the amount outstanding at any given time as a qualifying asset if the value of the underlying property securing the loan at that time exceeds the outstanding loan amount plus any amounts owed on loans senior or equal in priority to our construction loan.
Other Real Estate-Related Loans. We treat other real estate-related loans which are not directly secured by a mortgage encumbering real property, i.e. mezzanine loans and loans on leasehold interests, as qualifying assets if such loans are fully secured by the value of the real estate owned by the entity securing the loan in question.
Absence of No-Action Relief
If certain of our subsidiaries fail to own a sufficient amount of qualifying assets or real estate-related assets, we could be characterized as an investment company. We have not sought a no-action letter from the SEC staff regarding how our investment strategy fits within the exceptions from registration under the Investment Company Act on which we and our subsidiaries intend to rely. To the extent that the SEC’s Division of Investment Management provides more specific or different guidance regarding the treatment of assets as qualifying assets or real estate-related assets, we may be required to adjust our investment strategy accordingly. Any additional guidance from the SEC’s Division of Investment Management could provide additional flexibility to us, or it could further inhibit our ability to pursue the investment strategy we have chosen.
| Item 2. | Management’s Discussion and Analysis of Financial Condition and Results of Operations |
The following discussion of our financial condition and results of operations analysis should be read in conjunction with our financial statements and the related notes thereto as of December 31, 2019. The following discussion contains forward-looking statements that reflect our plans, estimates and beliefs. Our actual results could differ materially from those discussed in the forward-looking statements.
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Overview
Hall Structured Finance II, LLC is a direct private real estate lender engaged in providing acquisition, bridge, and construction financing on a value-add basis for hotel, office, multifamily, condominium, mixed use, and other commercial real estate projects located throughout the United States (collectively, the “Loans” and each individually a “Loan”). We focus on debt financing opportunities that are underserved by banks and other institutional providers of debt. Our primary focus has been in providing first lien construction financing, that is non-recourse upon completion. Our loan programs are designed to provide financing options to real estate investors and developers in meeting their financing needs as an alternative to conventional lending programs offered by banks and other institutional capital providers.
For a discussion of certain factors that may influence future results of operations, see “Trend Information” below.
Operating Results
Results of Continuing Operations — Year ended December 31, 2019 compared to year ended December 31, 2018.
| For the Years Ended | ||||||||||||
| December 31, | ||||||||||||
| 2019 | 2018 | Variance | ||||||||||
| Net interest income: | ||||||||||||
| Interest income | $ | 40,971,045 | 28,459,532 | 12,511,513 | ||||||||
| Interest expense | (16,326,880 | ) | (8,224,569 | ) | (8,102,311 | ) | ||||||
| Net interest income | 24,644,165 | 20,234,963 | 4,409,202 | |||||||||
| Noninterest income: | ||||||||||||
| Other income | - | 25 | (25 | ) | ||||||||
| Total noninterest income | - | 25 | (25 | ) | ||||||||
| Noninterest expense: | ||||||||||||
| Management fee | 4,903,291 | 3,010,875 | 1,892,416 | |||||||||
| General and administrative | 1,208,223 | 1,892,893 | (684,670 | ) | ||||||||
| Total noninterest expense | 6,111,514 | 4,903,768 | 1,207,746 | |||||||||
| Investment: | ||||||||||||
| Dividend income | 4,887 | 267,636 | (262,749 | ) | ||||||||
| Net realized gain on sales of marketable securities | (494,209 | ) | 33,507 | (527,716 | ) | |||||||
| Change in net unrealized loss of equity securities available for sale | 650,829 | (630,606 | ) | 1,281,435 | ||||||||
| Total investment and other | 161,507 | (329,463 | ) | 490,970 | ||||||||
| Net income, before noncontrolling interest | 18,694,158 | 15,001,757 | 3,692,401 | |||||||||
| Less net income attributable to noncontrolling interest | (1,303,751 | ) | (1,207,777 | ) | (95,974 | ) | ||||||
| Net income attributable to Hall Structured Finance II, LLC | $ | 17,390,407 | 13,793,980 | 3,596,427 | ||||||||
Interest Income — Interest income was $40,971,045 for the year ended December 31, 2019, an increase of $12,511,513 from the interest income for the year ended December 31, 2018. The increase in interest income was primarily attributable to an increase in the average outstanding balance of loan receivables.
Interest Expense — Interest expense was $16,326,880 for the year ended December 31, 2019, an increase of $8,102,311 from interest expense for the year ended December 31, 2018. The increase was primarily attributable to an increase in the average outstanding balance of loans payable.
Management Fee —The Management Fee for the year ended December 31, 2019 was $4,903,291, an increase of $1,892,416 for the year ended December 31, 2018. The increase is primarily related to the increase in new loan origination commitment amounts given the Management Fee is determined in part based on the total annual new loan origination commitment amounts. Refer to the Notes to the Financial Statements for more information. Effective January 1, 2017, the Company appointed the Manager, pursuant to the terms of a management agreement which provides for the Manager to receive a management fee in an amount that approximates certain general and administrative expenses attributable to the Company, which includes among other items payroll costs attributable to personnel engaged in the work and affairs of the Company either exclusively or on an allocated basis, rent, supplies, insurance, postage, for each given year plus a reasonable profit thereon; the Management Fee does not cover direct general and administrative expenses payable to unaffiliated 3rd parties which include among other items certain legal expenses, advertising, and accounting expenses.
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General and Administrative — General and administrative expenses were $1,208,223 for the year ended December 31, 2019, a decrease of $684,670 from general and administrative expenses for the year ended December 31, 2018. The decrease was primarily attributable to a decrease in direct marketing costs and legal expenses associated with loans.
Net Income Attributable to Noncontrolling Interest — The net income attributable to the noncontrolling interests was $1,303,751 for the year ended December 31, 2019, an increase of $95,974 from net income attributable to the noncontrolling interests for the year ended December 31, 2018. This increase was primarily attributable to an increase in net income.
Liquidity and Capital Resources
As of December 31, 2019, we had $207,522,876 of loans payable, of which $68,886,140 is due within the next year. The loans payable are secured by a collateral assignment of individual Loans, having an outstanding balance of $297,991,788 as of December 31, 2019, of which $92,448,194 is due within the next year.
As of December 31, 2019, we had $84,284,664 of cash and cash equivalents. We believe that the cash flow from the Loans will be sufficient to meet our normal operating expenses and other obligations during the next year.
Plan of Operations
We believe we have sufficient existing capital resources to fund our current lending obligations over the next 12 months under our current business model. The number of future projects that we will be able to finance will depend on, in part, the continuation of the availability of related debt financing. We expect existing sources of financing, together with new Bank Loans on those Loans which have not financed with to date, will be sufficient for us to implement our immediate business plan.
Subsequent to year end, a pandemic related to a novel strain of coronavirus (COVID-19) was declared. The spread of COVID-19 in the first quarter of 2020 has caused significant volatility in the U.S. and international debt and equity markets. The extent of the impact of the COVID-19 pandemic on the financial performance of the Company’s investments will depend on future developments, all of which are highly uncertain and cannot be predicted. The Company is continuing to actively manage our loan portfolio. As to those projects which secure loans that are under construction, for the most part, construction is continuing with some exceptions where there are temporary ordinances in place which restrict construction work. The Company is also working with some of our borrowers, particularly those with hotels that are completed, on short-term loan modifications which generally provide for partial deferral of monthly debt service.
Trend Information
HSF closed on new Loans in 2019 providing for $503.1 million in aggregate loan commitment amounts, as compared to $206.1 million in new Loan commitments closed during 2018.
For the years 2015 to 2019, the average size of our Loan commitments was approximately $31.3 million. For new Loans closed during 2019, the average loan size was just over $45.7 million.
| Item 3. | Directors and Officers |
Our Manager
HSF operates under the direction of our Manager, which is responsible for directing the management of our business and affairs, managing our day-to-day affairs, and implementing our investment strategy. We have established the Loan Committee that will make decisions with respect to all acquisitions and dispositions. See “Loan Committee of the Manager” below. Senior executives of our Manager are highly experienced real state lenders with each having more than 25 years of commercial real estate and financing expertise. Some of the members of management are not required to devote all of their time to our business and are only required to devote such time to our affairs as their duties require.
We will follow investment guidelines adopted by our Manager and the investment and borrowing policies set forth in this Annual Report unless they are modified by our Manager. Our Manager may establish further written policies on investments and borrowings and will monitor our administrative procedures, investment operations and performance to ensure that the policies are fulfilled. Our Manager may change our investment objectives at any time without approval of our members.
Our Manager performs its duties and responsibilities pursuant to a management agreement. Our Manager maintains a contractual, as opposed to a fiduciary relationship, with us and our members. Furthermore, we have agreed to limit the liability of our Manager and to indemnify our Manager against certain liabilities.
8
Executive Officers and Key Individuals of Management
Donald L. Braun*, Manager, Executive Vice President and Secretary - See “Loan Committee—Loan Committee of our Manager” for Mr. Braun’s biography.
Michael J. Jaynes, President - Mr. Jaynes has over 30 years of commercial real estate experience. He is directly responsible for loan originations and the asset management of outstanding loans. Mr. Jaynes rejoined HALL Group affiliates in 2000. Prior to rejoining HALL Group affiliates, Mr. Jaynes worked more than 7 years at GE Capital Real Estate as vice president and program manager. At GE Capital Real Estate, Mr. Jaynes was responsible for the performance of equity and debt portfolios valued at more than $2 billion dollars consisting of over 240 multifamily, office, retail, and hotel assets located throughout the country. Mr. Jaynes is a graduate of the Ohio State University, with a BS in business administration and a concentration in real estate.
Matt Mitchell, Senior Vice President - Mr. Mitchell has over 15 years of experience in commercial real estate and finance. He is responsible for sourcing, originating, and underwriting new real estate loans. Previously, Mr. Mitchell held various management and analytical positions in the commercial real estate industry, including 5 years with Ernst & Young's Transaction Real Estate Practice where he participated in and managed various valuation, loan underwriting, and transaction due diligence projects related to commercial real estate transactions totaling over $5 billion. Mr. Mitchell is a graduate of Texas A&M University with a BS in Finance.
David Cain, Vice President - Mr. Cain focuses primarily on loan originations with an emphasis on underwriting, market analysis, and drafting internal recommendations to the Loan Committee. He has 15 years of diverse experience with HALL Group affiliates. Mr. Cain holds a Bachelor of Arts degree from the University of Southern California and a Masters of Business Administration (MBA) degree from the University of California - Davis.
Brad Ferguson, Vice President - Mr. Ferguson has over 10 years of combined experience in commercial real estate and portfolio management. As Production Manager for HSF, Mr. Ferguson's primary focus is new loan origination with an emphasis in underwriting, financial analysis and asset management. Prior to joining HSF, Mr. Ferguson held asset management roles with multiple companies over-seeing commercial real estate portfolios ranging from $100 million to $2 billion. Mr. Ferguson holds an MBA from Texas State University and a BBA in real estate and marketing from Baylor University.
Mike Canning, Vice President - Mr. Canning has 15 years of real estate and finance industry experience. He focuses primarily on screening new deals, underwriting and drafting internal recommendations for HSF's investment committee, as well as various other projects within HALL Group. Prior to joining HSF, Mr. Canning held various analytical and project management roles at GE Real Estate. Mr. Canning holds a BA in Economics and Business from Virginia Military Institute.
Rebecca Reitz, Vice President - Ms. Reitz joined HALL Group affiliates in 1988 and in 2006 was appointed to the position of Loan Compliance Manager. In her nearly 30 years with HALL Group affiliates she has excelled in a number of positions. Ms. Reitz is responsible for monitoring loan agreements and insuring the ongoing compliance of borrowers in such areas as financial reporting, insurance renewal and escrows, tax payments and escrows etc. Ms. Reitz also acts as a closing coordinator in managing and insuring compliance with the closing checklist by borrowers for each loan closing. Ms. Reitz serves as a board member on the Frisco YMCA.
Margaret Coughlin*, Controller - Ms. Coughlin brings more than 30 years of accounting and financial leadership experience to her role as the Controller for HALL Group. She has worked with both public and private organizations and has international experience in Aberdeen, Scotland and Istanbul, Turkey. In her current role, Ms. Coughlin oversees accounting functions for HALL Group. After graduating from Vanderbilt University with a bachelor’s degree in economics, Ms. Coughlin began her career with EDS and Sun Oil Company. She is also a Certified Public Accountant (CPA) and a member of the American Institute of CPA’s and the Texas Society of CPA’s.
Mark Blocher*, Vice President of Investor and Broker Relations - Mr. Blocher joined HALL Group in 1984. He has more than 30 years of experience in investor and broker relations. Mr. Blocher has been directing investor relations for HALL Group entities for the past 25 years and most recently has been heading the private placement investment department, raising funds for various HALL Group development projects. Mr. Blocher has a Bachelor of Business Administration from the University of Michigan.
Whitney Jacobson*, Vice President of Investments - Ms. Jacobson has more than 25 years of experience with investment, strategic and communications leadership within the political, business and wine industries and has been with Hall Group affiliates since 1997. She provides overall guidance for all HALL and WALT Wines investor relations, communications, brand and charitable investment functions. Before joining HALL & WALT Wines in 2006, Ms. Jacobson worked at the White House in several capacities. From 1995-1997, she oversaw the Office of Personnel as Deputy Director under the Bill Clinton Administration. Then in 1997, Ms. Jacobson was appointed Chief of Staff for United States Ambassador to Austria, Kathryn Hall. She holds a Bachelor of Arts from Georgetown University and an MBA from DePaul University.
9
Stephanie Byrd*, General Counsel for HALL Group - Ms. Byrd has 20 years of legal experience. She directs the legal affairs and oversees risk management for HALL Group affiliated companies. Ms. Byrd’s legal career began with a downtown Dallas law firm, where she represented clients in a wide range of practice areas both in litigation and commercial transactions. After several years, she moved to California where she joined an AmLaw 200 firm and expanded her legal background to include risk management and insurance coverage. Ms. Byrd holds a Bachelor of Business Administration in finance from the University of Texas at Austin and a Juris doctorate from Baylor School of Law.
Kymberley Scalia*, Vice President of Marketing for the Hall Group - Mrs. Scalia has 15 years of marketing and PR experience. Prior to joining HALL Group, Scalia held the position of Director of Corporate Marketing for over three years at Trademark Property Co. Prior to that, she was Vice President, Corporate Marketing for Coyote Management for twelve years. Previously she has held the positions of Regional Specialty Leasing Manager for Zamias Services, Inc., and Marketing Director/Specialty Leasing Manager for the WestEnd Market Place in Downtown Dallas. Ms. Scalia has a BA in Marketing from Western Michigan University and an AA in Fashion Merchandising and holds the CRX, CMD designation from the ICSC.
The majority of the individuals noted above work exclusively on matters involving HSF; however, where an * is indicated, services are provided for other affiliated entities in HALL Group as well.
Loan Committee
General
The Loan Committee is a standing committee, established to assist our Manager in fulfilling its oversight responsibilities by (1) considering and approving each of the Loans made, (2) establishing underwriting guidelines and overseeing the outstanding Loans, (3) establishing policies for any loan amendments or modifications, and (4) overseeing the activities of subsidiaries. The Loan Committee will consist of at least three members, each of whom will be appointed by our Manager, who will serve until such time as such Loan Committee member resigns or is replaced by our Manager, in its sole and absolute discretion. The Loan Committee currently consists of Craig Hall, Donald Braun and Richard Hyman. The Loan Committee generally meets weekly and more frequently as business conditions require.
Loan Committee of our Manager
Craig Hall - Mr. Hall is Chairman and Founder of the HALL Group. Mr. Hall has successfully grown the HALL Group from an entrepreneurial start-up to a real estate and finance industry leader. He formed HALL Group in 1968 at age 18 with $4,000. Today, his diversified business interests include real estate ownership, real estate development and management; commercial real estate lending; vineyards and wineries; venture capital and private equity, and oil and gas.
Previously, Mr. Hall was a part owner of the Dallas Cowboys; formed one of the first stock savings and loans in Michigan; founded one of the first for-profit HMOs in the country; and participated, along with Time, Inc., in growing the nation's largest chain of health and sports clubs. He has received numerous prestigious awards and, most recently was named a member of the Horatio Alger Association for Distinguished Americans. Mr. Hall has authored six books, four of which are on real estate and real estate investing including Timing the Real Estate Market and The Responsible Entrepreneur. His most recent book A Perfect Score, co-authored with his wife Ambassador Kathryn Hall, was released in September 2016 and reached the New York Times non-fiction bestseller list.
Donald Braun - Mr. Braun is President of various HALL Group entities and is Executive Vice President/Secretary of the Company. Mr. Braun oversees the management of HALL Group's core business activities. Mr. Braun has been with HALL Group companies since 1980 and has extensive experience obtained over more than 35 years in the real estate finance markets working with and structuring debt and equity financing across a broad spectrum of international and domestic capital market sources. Mr. Braun has served as a board member of numerous private companies across a broad range of industries and has served on the boards of various nonprofit organizations which currently include the Fairview Economic Development Corporation, and the Collin County Business Alliance. Mr. Braun holds a bachelor's degree in economics from Albion College and has a certified public accountant designation (CPA).
Richard Hyman - Mr. Hyman has been active as a principal in various commercial transactions and debt ventures for over 25 years. Triquest Financial Services, founded by Mr. Hyman, is a real estate investment and advisory firm. It was one of the first commercial loan conduits in the CMBS industry, and it originated or participated in transactions involving over a $1 billion. Mr. Hyman is a 1975 Phi Beta Kappa graduate of the University of Wisconsin at Madison. Mr. Hyman has worked closely with HALL Group for many years and has been a member of the Loan Committee for all investments which were made by HSF and its predecessors in interest dating back to 2001.
10
Management Compensation
The investment activities of HSF are managed by an affiliate, HSF Holdings Management, LLC (the “Manager”), pursuant to the terms of a management agreement (“the Management Agreement”). The Management Agreement provides for the Manager to receive an annual management fee (the “Management Fee”), payable monthly, in an amount that approximates the general and administrative expenses attributable to the Company, which may include but not be limited to payroll costs attributable to personnel engaged in the work and affairs of HSF either exclusively or on an allocated basis, rent, supplies, insurance, postage, for each given year on a properly and fairly allocated basis plus a reasonable profit thereon (but which shall exclude direct expenses which are 100% attributable to the Company and payable by the Company to unaffiliated third parties for items that may include but are not limited to legal expenses, advertising, accounting expenses (the “HSF Direct Costs”)). The Manager and the Company will from time to time, but no less frequently than semi-annually, evaluate the general and administrative costs attributable to the Company (excluding HSF Direct Costs) and adjust the Management Fee accordingly. While it is anticipated that the amount of the Management Fee may vary from year to year depending on the level of activity in HSF and the management support provided, in no event, however, shall the Management Fee payable by the Company to the Manager for any given year exceed the greater of (1) 1.5% of the commitment amount on new Loans originated during such calendar year, or (2) 1% of the principal payments received by the Company on existing Loans during such calendar year. The Management Agreement also obligates the Company pay directly, or reimburse the Manager, for all of the costs and expenses of the Company’s operations, including, without limitation, (1) all organization and offering expenses, (2) all costs of borrowed money, taxes and assessments on any property owned by the Company, as well as other taxes applicable to the Company, (3) legal, accounting, audit, brokerage and other fees, (4) all expenses incurred with the maintenance of Company books and records, the preparation and dissemination of reports, tax returns or other information to the holders of the Debentures and the making of payments or distributions to such holders, (5) expenses incurred in preparing and filing reports or other information with appropriate regulatory agencies, (6) insurance expenses and (7) all other costs and expenses incurred in connection with the Company’s business.
| Item 4. | Security Ownership of Management and Certain Securityholders |
Hall Phoenix/Inwood Ltd. is the 100% beneficial owner of the Company's 1,000 membership interests, as of the date of this Annual Report.
Hall Phoenix/Inwood Ltd. has an address in care of our principal executive offices at 2323 Ross Avenue, Suite 200, Dallas, Texas 75201.
| Item 5. | Interest of Management and Others in Certain Transactions |
For further details, please see Note 6, “Related-party Transactions,” in Item 7, Consolidated Financial Statements.
| Item 6. | Other Information |
None
| Item 7. | Consolidated Financial Statements |
11
HALL
STRUCTURED FINANCE II, LLC
AND SUBSIDIARIES
Consolidated Financial Statements
December 31, 2019 and 2018
(With Independent Auditors’ Report Thereon)
12
HALL STRUCTURED FINANCE II, LLC AND SUBSIDIARIES
Table of Contents
13
KPMG LLP
Suite 1400
2323 Ross Avenue
Dallas, TX 75201-2721
The Member
Hall Structured Finance II, LLC and its subsidiaries:
We have audited the accompanying consolidated financial statements of Hall Structured Finance II, LLC and its subsidiaries, which comprise the consolidated balance sheets as of December 31, 2019 and 2018, and the related consolidated statements of comprehensive income, changes in member’s capital, and cash flows for the years then ended, and the related notes to the consolidated financial statements.
Management’s Responsibility for the Financial Statements
Management is responsible for the preparation and fair presentation of these consolidated financial statements in accordance with U.S. generally accepted accounting principles; this includes the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of consolidated financial statements that are free from material misstatement, whether due to fraud or error.
Auditors’ Responsibility
Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free from material misstatement.
An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the consolidated financial statements. The procedures selected depend on the auditors’ judgment, including the assessment of the risks of material misstatement of the consolidated financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity’s preparation and fair presentation of the consolidated financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity’s internal control. Accordingly, we express no such opinion. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements.
We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion.
Opinion
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Hall Structured Finance II, LLC and its subsidiaries as of December 31, 2019 and 2018, and the results of their operations and their cash flows for the years then ended in accordance with U.S. generally accepted accounting principles.
Dallas, Texas
April 29, 2020
KPMG LLP is a Delaware limited liability partnership and the U.S. member
firm of the KPMG network of independent member firms affiliated with
KPMG International Cooperative (“KPMG International”), a Swiss entity.
14
HALL STRUCTURED FINANCE II, LLC AND SUBSIDIARIES
Years ended December 31, 2019 and 2018
| 2019 | 2018 | |||||||
| Assets | ||||||||
| Current assets: | ||||||||
| Cash and cash equivalents | $ | 84,284,664 | 59,022,363 | |||||
| Restricted cash | 1,241,056 | 1,040,550 | ||||||
| Marketable securities at fair value (note 2) | — | 17,314,781 | ||||||
| Accounts receivable | 3,247 | 179,023 | ||||||
| Interest receivable | 2,240,914 | 1,973,555 | ||||||
| Other current assets | 150,679 | 150,000 | ||||||
| Mortgage loans receivable, current (note 3) | 92,448,194 | 63,610,000 | ||||||
| Total current assets | 180,368,754 | 143,290,272 | ||||||
| Mortgage loans receivable, net – long-term (note 3) | 192,808,696 | 163,447,175 | ||||||
| Total assets | $ | 373,177,450 | 306,737,447 | |||||
| Liabilities and Member’s Capital | ||||||||
| Current liabilities: | ||||||||
| Escrows payable | $ | 1,449,877 | 1,120,323 | |||||
| Accounts payable and other current liabilities | 3,656,638 | 2,317,329 | ||||||
| Loans payable, current (note 4) | 68,886,140 | 30,390,000 | ||||||
| Total current liabilities | 73,992,655 | 33,827,652 | ||||||
| Loans payable, net - long-term (note 4) | 135,861,669 | 102,324,716 | ||||||
| Debenture notes, net (note 5) | 48,192,261 | 47,390,843 | ||||||
| Affiliated note payable (note 7) | 9,085,919 | — | ||||||
| Note payable - other (note 5) | 3,100,000 | — | ||||||
| Total liabilities | 270,232,504 | 183,543,211 | ||||||
| Commitments and contingencies (note 8) | ||||||||
| Total capital attributable to Hall Structured Finance II, LLC | 97,133,655 | 118,543,248 | ||||||
| Accumulated other comprehensive loss | — | (80,048 | ) | |||||
| Total Hall Structured Finance II, LLC capital | 97,133,655 | 118,463,200 | ||||||
| Noncontrolling interest | 5,811,291 | 4,731,036 | ||||||
| Total member's capital | 102,944,946 | 123,194,236 | ||||||
| Total liabilities and member's capital | $ | 373,177,450 | 306,737,447 | |||||
See accompanying notes to consolidated financial statements.
15
HALL STRUCTURED FINANCE II, LLC AND SUBSIDIARIES
Consolidated Statements of Comprehensive Income
Years ended December 31, 2019 and 2018
| 2019 | 2018 | |||||||
| Net interest income: | ||||||||
| Interest income | $ | 40,971,045 | 28,459,532 | |||||
| Interest expense | (16,326,880 | ) | (8,224,569 | ) | ||||
| Net interest income | 24,644,165 | 20,234,963 | ||||||
| Noninterest income: | ||||||||
| Other income | - | 25 | ||||||
| Total noninterest income | - | 25 | ||||||
| Noninterest expense: | ||||||||
| Management fee | 4,903,291 | 3,010,875 | ||||||
| General and administrative | 1,208,223 | 1,892,893 | ||||||
| Total noninterest expense | 6,111,514 | 4,903,768 | ||||||
| Investment: | ||||||||
| Dividend income | 4,887 | 267,636 | ||||||
| Net realized gain (loss) on sales of marketable securities | (494,209 | ) | 33,507 | |||||
| Change in net unrealized loss of equity securities available for sale | 650,829 | (630,606 | ) | |||||
| Total investment and other | 161,507 | (329,463 | ) | |||||
| Net income, before noncontrolling interest | 18,694,158 | 15,001,757 | ||||||
| Less net income attributable to noncontrolling interest | (1,303,751 | ) | (1,207,777 | ) | ||||
| Net income attributable to Hall Structured Finance II, LLC | 17,390,407 | 13,793,980 | ||||||
| Other comprehensive income (loss): | ||||||||
| Change in net unrealized loss on corporate debt securities available for sale | 80,048 | 47,733 | ||||||
| Comprehensive Income | $ | 17,470,455 | 13,841,713 | |||||
See accompanying notes to consolidated financial statements.
16
HALL STRUCTURED FINANCE II, LLC AND SUBSIDIARIES
Consolidated Statements of Changes in Member’s Capital
Years ended December 31, 2019 and 2018
| Total capital attributable to Hall Structured Finance II, LLC | Accumulated Other Comprehensive Loss | Total Hall Structured Finance II, LLC capital | Noncontrolling Interest | Total Member's Capital | ||||||||||||||||
| Balances – December 31, 2017 | $ | 104,769,491 | (148,004 | ) | 104,621,487 | 4,010,864 | 108,632,351 | |||||||||||||
| Adoption of ASU 2016-01 (note 1(h)) | (20,223 | ) | 20,223 | - | - | - | ||||||||||||||
| Contributions | - | - | - | 1,190,000 | 1,190,000 | |||||||||||||||
| Distributions | - | - | - | (1,677,605 | ) | (1,677,605 | ) | |||||||||||||
| Change in net unrealized loss on corporate debt securities available for sale | - | 47,733 | 47,733 | - | 47,733 | |||||||||||||||
| Net income | 13,793,980 | - | 13,793,980 | 1,207,777 | 15,001,757 | |||||||||||||||
| Balances – December 31, 2018 | $ | 118,543,248 | (80,048 | ) | 118,463,200 | 4,731,036 | 123,194,236 | |||||||||||||
| Contributions | $ | - | - | - | 1,895,000 | 1,895,000 | ||||||||||||||
| Distributions | (38,800,000 | ) | - | (38,800,000 | ) | (2,073,402 | ) | (40,873,402 | ) | |||||||||||
| Sale of investment in Hall Palm Springs, LLC | - | - | - | (45,094 | ) | (45,094 | ) | |||||||||||||
| Change in net unrealized loss on corporate debt securities available for sale | - | 80,048 | 80,048 | - | 80,048 | |||||||||||||||
| Net income | 17,390,407 | - | 17,390,407 | 1,303,751 | 18,694,158 | |||||||||||||||
| Balances – December 31, 2019 | $ | 97,133,655 | - | 97,133,655 | 5,811,291 | 102,944,946 | ||||||||||||||
See accompanying notes to consolidated financial statements.
17
HALL STRUCTURED FINANCE II, LLC AND SUBSIDIARIES
Consolidated Statements of Cash Flows
Years ended December 31, 2019 and 2018
| 2019 | 2018 | |||||||
| Cash flows from operating activities: | ||||||||
| Net income | $ | 18,694,158 | 15,001,757 | |||||
| Adjustments to reconcile net income to net cash provided by operating activities: | ||||||||
| Accretion of loan commitment fees | (5,155,628 | ) | (4,391,215 | ) | ||||
| (Accretion) amortization of premium/discount included in interest income | (32,761 | ) | (20,134 | ) | ||||
| Net realized gain from sale of marketable securities | 494,209 | (33,507 | ) | |||||
| Change in fair value of equity securities available for sale | (650,829 | ) | 630,606 | |||||
| Amortization of deferred loan costs | 1,531,214 | 857,817 | ||||||
| Amortization of debenture costs | 542,827 | 290,614 | ||||||
| Change in assets and liabilities: | ||||||||
| Accounts receivable | 175,776 | (3,056 | ) | |||||
| Due from affiliate | - | 252,950 | ||||||
| Interest receivable | (434,736 | ) | (1,068,754 | ) | ||||
| Other current assets | (679 | ) | (147,764 | ) | ||||
| Escrows payable | 329,554 | 1,105,859 | ||||||
| Accounts payable and other current liabilities | 1,343,614 | 1,409,319 | ||||||
| Net cash provided by operating activities | 16,836,719 | 13,884,492 | ||||||
| Cash flows from investing activities: | ||||||||
| Purchase of marketable securities | - | (14,965,570 | ) | |||||
| Sales of marketable securities | 17,584,210 | 18,116,779 | ||||||
| Receipt of loan commitment fees | 10,982,043 | 5,229,693 | ||||||
| Repayment of mortgage loans receivable | 124,763,816 | 56,999,067 | ||||||
| Increase in mortgage loans receivable | (220,665,808 | ) | (160,243,552 | ) | ||||
| Sale of investment in Hall Palm Spring, LLC | 31,993,840 | - | ||||||
| Net cash used in investing activities | (35,341,899 | ) | (94,863,583 | |||||
| Cash flows from financing activities: | ||||||||
| Proceeds from loans payable | 163,352,333 | 110,378,416 | ||||||
| Repayment of loans payable | (90,676,506 | ) | (59,152,104 | ) | ||||
| Proceeds from debenture notes | 450,000 | 49,527,095 | ||||||
| Repayment of debentures | (155,000 | ) | - | |||||
| Payment of deferred debenture costs | (36,409 | ) | (2,302,898 | ) | ||||
| Payment of deferred loan costs | (2,173,948 | ) | (2,451,334 | ) | ||||
| Proceeds from affiliated notes payable | 9,085,919 | - | ||||||
| Proceeds from note payable other | 3,100,000 | - | ||||||
| Capital contributions | 1,895,000 | 1,190,000 | ||||||
| Capital distributions | (40,873,402 | ) | (1,677,605 | ) | ||||
| Net cash provided by financing activities | 43,967,987 | 95,511,570 | ||||||
| Net increase in cash, cash equivalents and restricted cash | 25,462,807 | 14,532,479 | ||||||
| Cash, cash equivalents and restricted cash at beginning of year | 60,062,913 | 45,530,434 | ||||||
| Cash, cash equivalents and restricted cash at end of year | $ | 85,525,720 | 60,062,913 | |||||
| Supplemental disclosures: | ||||||||
| Interest paid | $ | 13,727,986 | 5,864,332 | |||||
| Change in net unrealized loss on corporate debt securities available for sale | 80,048 | 47,733 | ||||||
| Reduction in interest receivable via sale of Hall Palm Springs, LLC | 167,377 | - | ||||||
| Reduction in mortgage loans receivable via sale of Hall Palm Springs, LLC | 31,875,862 | - | ||||||
| Reduction in accounts payable and other current liabilities via sale of Hall Palm Springs, LLC | (4,305 | ) | - | |||||
| Reduction in noncontrolling interest via sale of Hall Palm Springs, LLC | (45,094 | ) | - | |||||
See accompanying notes to consolidated financial statements.
18
HALL STRUCTURED FINANCE II, LLC AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2019 and 2018
| (1) | Organization and Summary of Significant Accounting Policies |
| (a) | Organization |
Hall Structured Finance II, LLC (HSF II) was formed on January 14, 2013 by Hall Phoenix/Inwood, Ltd. (HPI), its sole member. HSF II and its subsidiaries are collectively referred to herein as the Company. The Company was formed for the purpose of providing financing and capital, directly or through subsidiaries in which it maintains a controlling interest, to unaffiliated third-party parties. Loans and capital provided by the Company are primarily secured by 1st mortgage deed of trusts and mortgages encumbering income producing commercial real estate projects. In certain instances, the Company has provided second lien mortgage loans, mezzanine loans, and preferred equity.
| (b) | Basis of Accounting |
The accompanying consolidated financial statements include the accounts of HSF II and the accounts of the entities in which HSF II has a controlling interest (collectively, the Company), and have been prepared on the accrual basis of accounting and conform to U.S. generally accepted accounting principles (U.S. GAAP) and the instructions to 1-SA of Regulation A. The Company considers ownership interests, and the extent of control it exerts, when determining whether or not to consolidate investments. All significant intercompany accounts and transactions have been eliminated in consolidation.
In the opinion of management, all adjustments considered necessary for fair presentation have been included and are of a normal recurring nature. Operating results for the year ended December 31, 2019 are not necessarily indicative of the results that may be expected for future periods.
| (c) | Noncontrolling Interest |
Noncontrolling interests represent the noncontrolling interest holders’ share of the equity of certain subsidiaries that are consolidated. Net income is allocated to the noncontrolling interest holders in accordance with the respective subsidiaries’ governing agreements.
| (d) | Use of Estimates |
The preparation of the consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
| (e) | Fair Value of Financial Instruments |
Cash and cash equivalents, restricted cash, accounts receivable, interest receivable, other current assets, escrows payable, and accounts payable and other current liabilities are recorded at cost, which approximate their fair value due to the current nature of these assets and liabilities. The carrying values of mortgage loans receivable, loans payable, debenture notes, affiliated note payable and note payable-other approximate their fair values based on interest rates and terms currently available for similar instruments.
| (f) | Fair Value Measurements |
The Company utilizes valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs to the extent possible. The Company determines fair value based on assumptions that market participants would use in pricing an asset or liability in the principal or most advantageous market. When considering market participant assumptions in fair value measurements, the following fair value hierarchy distinguishes between observable and unobservable inputs, which are categorized in one of the following levels:
| · | Level 1 Inputs: Unadjusted quoted prices in active markets for identical assets or liabilities accessible to the reporting entity at the measurement date. |
19
HALL STRUCTURED FINANCE II, LLC AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2019 and 2018
| · | Level 2 Inputs: Other than quoted prices included in Level 1 inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the asset or liability. |
| · | Level 3 Inputs: Unobservable inputs for the asset or liability used to measure fair value to the extent that observable inputs are not available, thereby allowing for situations in which there is little, if any, market activity for the asset or liability at measurement date. |
| (g) | Cash and Cash Equivalents and Restricted Cash |
The Company considers all highly liquid investments purchased with an original maturity date of three months or less to be cash equivalents. Restricted cash represents cash held in escrow for the benefit of borrowers for the payment of future taxes, insurance, and/or deferred maintenance on properties.
The Company maintains cash and cash equivalent balances in bank deposit accounts that, at times, may exceed federally insured limits. The Company has not experienced any losses in such accounts. The Company believes it is not exposed to any significant credit risk on cash and cash equivalents.
| (h) | Marketable Securities |
Marketable securities consist of corporate debt and equity securities. The Company classifies its debt and equity securities as available-for-sale (AFS), as they do not meet the criterion to be classified as held-to-maturity or trading based on management’s intent. The Company’s marketable securities have readily determinable fair values and are recorded at fair value using quoted market prices at the reporting date multiplied by the quantity held.
In January 2016, the FASB issued ASU No. 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities, which makes targeted improvements to the accounting for, and presentation and disclosure of, financial instruments. ASU No. 2016-01 requires that most equity investments be measured at fair value, with subsequent changes in fair value recognized in net income. ASU No. 2016-01 does not affect the accounting for investments that would otherwise be consolidated or accounted for under the equity method. The provisions of ASU No. 2016-01 are effective for the Company for annual periods in fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. The Company applied the standard using a cumulative-effect adjustment to the member’s capital as of the beginning of the fiscal year of adoption for the year ended December 31, 2018.
The change in unrealized holding gains and losses on AFS equity securities are included in change in unrealized loss on equity securities available for sale on the statement of comprehensive income. The change in unrealized holding gains and losses on AFS debt securities are excluded from earnings and are reported as a separate component of accumulated other comprehensive income (loss) until realized. Realized gains and losses from the sale of AFS securities are determined on a specific-identification basis.
Premiums and discounts on debt securities are amortized or accreted over the life of the related AFS security as an adjustment to yield on a straight-line basis, which approximates the effective-interest method. Such amortization and accretion are included in the “interest income” line item in the consolidated statements of comprehensive income. Dividend and interest income are recognized when earned.
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HALL STRUCTURED FINANCE II, LLC AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2019 and 2018
For AFS debt securities that management has no intent to sell and believes that it more likely than-not will not be required to sell prior to recovery, only the credit loss component of the impairment is recognized in earnings, while the rest of the fair value loss is recognized in accumulated other comprehensive income (loss). A decline in the market value of any AFS security below cost that is deemed to be other-than-temporary results in an impairment to reduce the carrying amount to fair value. To determine whether an impairment is other-than-temporary, the Company considers all available information relevant to the collectability of the security, including past events, current conditions, and reasonable and supportable forecasts when developing estimate of cash flows expected to be collected. Evidence considered in this assessment includes the reasons for the impairment, the severity and duration of the impairment, changes in value subsequent to year-end, forecasted performance of the investee, and the general market condition in the geographic area or industry the investee operates in. For AFS equity securities, management considers the various factors described above, including its intent and ability to hold the equity security for a period of time sufficient for recovery to amortized cost. Where management lacks that intent or ability, the security’s decline in fair value is deemed to be other-than-temporary and is recorded in earnings. No other-than-temporary impairment was recorded during the years ended December 31, 2019 and 2018. Management reviews its investment portfolio on a semi-annual basis to determine whether any event or economic circumstance has occurred to indicate if any security is impaired. An unrealized loss exists when the current fair value of a security is less than its amortized cost. Any security with an unrealized loss could result in an impairment. If the Company has made a decision to sell an impaired security or if it is more likely than not that the Company will be required to sell an impaired security, then an other-than-temporary impairment loss would be recorded through income.
| (i) |
Mortgage Loans Receivable |
Mortgage loans receivable are classified as held-for-investment based on management’s intentions and ability to hold the loans until maturity. The mortgage loans receivable are stated at the amount of unpaid principal, net of unamortized loan commitment and modification fees, and adjusted for any charge-offs or allowance for loan losses. The Company’s mortgage loans receivable are primarily loans provided in connection with the construction and development of commercial income producing real estate projects. All of the Company’s mortgage loans receivable as of December 31, 2019 are secured by a first lien deed of trusts and/or mortgages on each borrower’s underlying real estate assets. The repayment of the Company’s mortgage loans receivable are ultimately dependent on the sale of the property securing each loan, the availability of capital to allow the borrower to refinance and/or recapitalize the property, and/or the successful operation of the borrower’s business and the sufficiency of the collateral. Risks related to the Company’s mortgage loans receivable include concentration of principal in a limited number of loans and borrowers, concentration as to Loans in a limited number of different markets, as to those loans which are secured by projects under construction their timely completion within the allowable budget and means of the borrower in accordance with the project specifications, and as to those loan which are secured by projects which are completed the ultimate performance of the property in a manner that supports the value of the property at an amount that exceeds the mortgage loans receivable.
| (j) | Impairment and Allowance for Loan Losses |
At December 31, 2019 and 2018, management determined no mortgage loans receivable were considered impaired, and all mortgage loan receivables were determined to have collateral with a fair value, less the estimated costs to sell, in excess of their respective outstanding loan balances. As a result, at December 31, 2019 and 2018, no mortgage loans receivable no charge offs were taken, and no loan loss provision or related allowance was recorded.
Mortgage loans receivable are considered “impaired” if, based on current information and/or events, it is probable the Company will be unable to collect all amounts due under the contractual terms of the loan agreement. Management assesses and measures mortgage loans receivable for impairment on an individual loan basis and determines the extent to which a specific valuation allowance is necessary by comparing the loan’s outstanding balance to either the fair value of the collateral, less the estimated cost to sell, or the present value of expected cash flows, discounted at the loan’s effective interest rate. Generally, when the fair value of the collateral, net of the estimated costs to sell, or the present value of the expected cash flows is less than the recorded investment in the loan, any shortfall is promptly charged off.
21
HALL STRUCTURED FINANCE II, LLC AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2019 and 2018
If applicable, an allowance for loan losses on mortgage loan receivables is established for shortfalls through a provision for loan losses charged against income and includes specific reserves for impaired loans. If any portion of a mortgage loan receivable is deemed to be uncollectible such amount is charged against the allowance when management believes that the collectability of the principal is unlikely and subsequent recoveries, if any, are credited to the allowance. Management’s periodic evaluation of the adequacy of the allowance is based on an assessment of the current loan portfolio, including known inherent risks, adverse situations that may affect the borrowers’ ability to repay, the estimated value of any underlying collateral, and current economic conditions.
In June 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses of Financial Instruments (“ASU No. 2016-13”). ASU No. 2016-13 affects entities holding financial assets and net investments in leases that are not accounted for at fair value through net income. The amendments in ASU No. 2016-13 require a financial asset (or a group of financial assets) measured at amortized cost basis to be presented at the net amount expected to be collected. Allowances for credit losses is a valuation account that is deducted from the amortized cost basis of the financial asset(s) to present the net carrying value at the amount expected to be collected on the financial asset. ASU No. 2016-13 also amends the impairment model for available-for-sale securities. An entity will recognize an allowance for credit losses on available-for-sale debt securities as a contra-account to the amortized cost basis rather than as a direct reduction of the amortized cost basis of the investment, as is currently required. ASU No. 2016-13 also requires new disclosures. For financial assets measured at amortized cost, an entity will be required to disclose information about how it developed its allowance for credit losses, including changes in the factors that influenced management’s estimate of expected credit losses and the reasons for those changes. For financing receivables and net investments in leases measured at amortized cost, an entity will be required to further disaggregate the information it currently discloses about the credit quality of these assets by year of the asset’s origination for as many as five annual periods. For available for sale securities, an entity will be required to provide a roll-forward of the allowance for credit losses and an aging analysis for securities that are past due. ASU No. 2016-13 is effective for annual periods beginning January 1, 2023. The Company is still evaluating the impact of adopting ASU No. 2016-13 on its financial statements.
| (k) | Deferred Loan Costs |
Deferred loan costs for both loans payable and debenture notes payable represent commitment and other fees paid relating to loan payables, and legal, and other third-party costs associated with the Company obtaining financing, which result in a closing of such financing. Deferred loan costs are amortized over the life of each applicable loan payable using the straight line method and are reflected as a direct deduction from the related debt liability in the accompanying consolidated balance sheets.
Amortization of deferred loan costs on loans payable totaled $1,531,214 and $857,817 for the years ended December 31, 2019 and 2018, respectively, which are included in interest expense in the accompanying consolidated statements of comprehensive income. At December 31, 2019 and 2018, the Company had $2,775,067 and $2,132,333, respectively, of unamortized deferred loan costs applicable to loans payable. Amortization of deferred loan costs on debenture notes payable totaled $542,827 and $290,614 for the years ended December 31, 2019 and 2018, respectively, which are included in interest expense in the accompanying consolidated statements of comprehensive income. At December 31, 2019 and 2018, the Company had $1,629,834 and $2,136,252, respectively, of unamortized deferred loan costs applicable to debenture notes payable.
| (l) | Revenue Recognition and Accounts Receivable |
Interest income on mortgage loans receivable is recognized using the interest method. Interest is accrued when earned in accordance with the terms of the loan agreement. Interest income is recognized to the extent paid or if the valuation analysis performed on the related receivables supports the collectability of the interest receivable. A loan is placed on nonaccrual when the future collectability of interest and principal is not expected, unless, in the determination of management, the principal and interest on the loan are well collateralized and in the process of collection. When classified as nonaccrual, accrued interest receivable on the loan is reversed and the future accrual of interest is suspended. Payments of contractual interest are recognized as income only to the extent that full recovery of the principal balance of the loan is reasonably certain. At December 31, 2019 and 2018, management determined that no loans met the nonaccrual classification.
22
HALL STRUCTURED FINANCE II, LLC AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2019 and 2018
Loan commitment and modification fees related to mortgage loan receivables are amortized over the life of each applicable loan receivable using the straight-line method and are reflected as a deduction from the related mortgage loans receivable in the accompanying consolidated balance sheets. Accretion of loan commitment and modification fees totaled $5,155,628 and $4,391,215 for the years ended December 31, 2019 and 2018, respectively, which are included in interest income in the accompanying consolidated statements of comprehensive income. At December 31, 2019 and 2018, the Company had $12,734,898 and $7,105,529, respectively, of unamortized deferred commitment fees related to mortgage loan receivables.
At December 31, 2019 and 2018, there was no allowance for doubtful account receivables. If applicable, accounts receivables are reduced by an allowance for estimated uncollectable amounts. The Company considers a number of factors, including if accounts receivable are past due and the length of time receivables are past due, the previous loss history of the Company, and condition of the general economy and the industry as a whole in determining allowances for doubtful account receivables. Account receivables are written off when it is determined the receivable will not be collected.
In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606), which requires an entity to recognize revenue for the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods and services. It includes a five-step process to assist an entity in achieving the main principles of revenue recognition under Topic 606. Because Topic 606 does not apply to revenue associated with financial instruments (including loans), it did not have a material impact on the Company’s consolidated financial statements. The Company adopted this standard as of January 1, 2018 using a modified retrospective approach. The adoption of the standard did not require any adjustments to the opening balance of member’s capital as of January 1, 2018.
| (m) | Income Taxes |
The Company is not a tax paying entity and, accordingly, no provision for federal or state income taxes has been included in the accompanying consolidated financial statements. All income and losses from the Company’s operations is allocated directly to HPI, its sole member, who is individually responsible for reporting its respective shares of the Company’s income or loss on its income tax return.
The Company recognizes the effect of income tax positions only if those positions are more likely than not of being sustained. Recognized income tax positions are measured at the largest amount that is greater than 50% likely of being realized. Changes in recognition or measurement are reflected in the period in which the change in judgment occurs. The Company records interest related to unrecognized tax benefits in interest expense, and penalties in general and administrative expenses. Management believes there are no uncertain tax positions at December 31, 2019 and 2018. The Company’s federal income tax returns for the years 2017 through 2018 are open under the normal three-year statute of limitations, and therefore, are subject to examination.
| (2) | Marketable Securities |
The carrying amount, gross unrealized holding gains, gross unrealized holding losses and fair value of the marketable securities, by major security type and class of security at December 31, 2018 were as follows:
| Gross | Gross | |||||||||||||||
| unrealized | unrealized | |||||||||||||||
| Aggregate | holding | holding | Aggregate | |||||||||||||
| cost basis | gains | (losses) | fair value | |||||||||||||
| At December 31, 2018 | ||||||||||||||||
| Corporate debt securities | $ | 12,246,428 | 51,830 | (131,878 | ) | 12,166,380 | ||||||||||
| Equity securities | 5,799,230 | - | (650,829 | ) | 5,148,401 | |||||||||||
| Total | $ | 18,045,658 | 51,830 | (782,707 | ) | 17,314,781 | ||||||||||
At December 31, 2018, the fair value of the marketable securities was $17,314,781, which is measured utilizing Level 1 inputs.
23
HALL STRUCTURED FINANCE II, LLC AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2019 and 2018
Proceeds from the sale of marketable securities were $17,584,210 and $18,116,779 during the years ended December 31, 2019 and 2018, respectively. Gross realized gains and gross realized losses from the sale of marketable securities, included in “net realized gains on sales of marketable securities,” were $85,640 and $579,849, respectively, during the year ended December 31, 2019. Gross realized gains and gross realized losses from the sale of marketable securities, included in “net realized gains on sales of marketable securities,” were $497,910 and $464,403, respectively, during the year ended December 31, 2018. The change in net unrealized loss on corporate debt securities available for sale of $80,048 and $47,733 is reported as other comprehensive loss for the years ended December 31, 2019 and 2018.
| (3) | Mortgage Loans Receivable, Net |
Mortgage loan receivables outstanding at December 31, 2019 and 2018 are as follows:
| December 31, | December 31, | |||||||
| 2019 | 2018 | |||||||
| Mortgage loans receivable, gross | $ | 297,991,788 | 234,162,704 | |||||
| Less current portion | (92,448,194 | ) | (63,610,000 | ) | ||||
| Mortgage loans receivable, net of current portion | 205,543,594 | 170,552,704 | ||||||
| Less deferred loan commitment fees | (12,734,898 | ) | (7,105,529 | ) | ||||
| Mortgage loans receivable, net - long-term | $ | 192,808,696 | 163,447,175 | |||||
The stated maturities of mortgage loans receivable, without consideration of payments received subsequent to December 31, 2019 and without consideration of various extension provisions provided for in the loans are as follows:
| Year ending December 31: | |||||
| 2020 | $ | 92,448,194 | |||
| 2021 | 138,575,891 | ||||
| 2022 | 62,754,629 | ||||
| 2023 and thereafter | 4,213,074 | ||||
| $ | 297,991,788 | ||||
| (4) | Loans Payable, Net |
Loans payable outstanding at December 31, 2019 and 2018 are as follows:
| December 31, | December 31, | |||||||
| 2019 | 2018 | |||||||
| Loans payable, gross | $ | 207,522,876 | 134,847,049 | |||||
| Less current portion | (68,886,140 | ) | (30,390,000 | ) | ||||
| Loans payable, net of current portion | 138,636,736 | 104,457,049 | ||||||
| Less deferred loan costs | (2,775,067 | ) | (2,132,333 | ) | ||||
| Loans payable, net - long-term | $ | 135,861,669 | 102,324,716 | |||||
24
HALL STRUCTURED FINANCE II, LLC AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2019 and 2018
The Company’s loans payable are secured by collateral assignment of the first lien deed of trusts and/or mortgages for the applicable project to the lender. The Company is subject to certain financial covenants under various loans payable. The Company was in compliance with all financial covenants at December 31, 2019 and 2018.
The stated maturities of the loans payable for the next five years, without regard to certain extension provisions provided for in such loan payables, are as follows:
| Year ending December 31: | |||||
| 2020 | $ | 68,886,140 | |||
| 2021 | 83,538,953 | ||||
| 2022 | 47,540,543 | ||||
| 2023 | 7,557,240 | ||||
| 2024 and thereafter | - | ||||
| $ | 207,522,876 | ||||
| (5) | Debenture notes, net |
| (a) | Debenture notes, net |
At December 31, 2019 and 2018, the Company had $48,192,261 and $47,390,843 in net debenture notes outstanding, respectfully (the “Debentures”). The Debentures provide for an interest rate of 8.0% per annum, paid quarterly in arrears. The maturity date for the Debentures is December 31, 2022 for debentures purchased before September 1, 2018 and June 30, 2023 for debentures purchased on or after September 1, 2018. The Company may redeem the Debentures, in whole or in part, at any time or from time to time, prior to the maturity date, after giving at least 30 days’ written notice to the holders of the Debentures.
| December 31, | December 31, | |||||||
| 2019 | 2018 | |||||||
| Debenture notes, gross | $ | 49,822,095 | 49,527,095 | |||||
| Less current portion | — | — | ||||||
| Debenture notes, net of current portion | 49,822,095 | 49,527,095 | ||||||
| Less deferred loan costs | (1,629,834 | ) | (2,136,252 | ) | ||||
| Debenture notes, net - long-term | $ | 48,192,261 | 47,390,843 | |||||
The stated maturities of the Debentures are as follows:
| Period ending: | ||||
| December 31, 2022 | $ | 33,195,095 | ||
| June 30, 2023 | 16,627,000 | |||
| $ | 49,822,095 | |||
| (b) | Note payable - other |
At December 31, 2019 and 2018, the Company had $3,100,000 and $0 in Note Payable – Other, resulting from a separate unsecured loan agreement providing for the same terms as the Debentures, described in footnote 5(a) above. The stated maturities of the notes are as follows:
| Period ending: | ||||
| December 31, 2023 | $ | 3,000,000 | ||
| July 31, 2024 | 100,000 | |||
| $ | 3,100,000 | |||
25
HALL STRUCTURED FINANCE II, LLC AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2019 and 2018
| (6) | Related-party Transactions |
| (a) | Management Fee |
The Company has entered into a management agreement (the “Management Agreement”) with HSF Holdings Management, LLC (the “Manager”), which provides for the Manager to provide general and administrative services to the Company, which includes, among other items, the personnel engaged in the work and affairs of the Company either exclusively or on an allocated basis, rent, supplies, insurance, postage, for each given year. The Manager receives a management fee of the greater of 1.5% of the new loan commitments closed by HSF in the calendar year or 1.0% of the principal payments received on existing financings during the calendar year. The management fee is intended to approximate the cost of providing the general and administrative services to the Company plus a reasonable profit thereon. The Management Agreement does not cover direct general and administrative expenses payable to 3rd parties which are unaffiliated with the Company and Manager which include, among other items, certain legal expenses, advertising, and accounting expense, which the Company pays directly. As of December 31, 2019 and 2018, the Company incurred $4,903,291 and 3,010,875, respectively, in management fees, of which $847,498 and $0 are included in accounts payable and other current liabilities on the consolidated balance sheets as of December 2019 and 2018.
| (b) | Guarantees |
Affiliates of the Company guarantee certain loans payable of the Company.
| (c) | Sale of Interest in Hall Palm Spring, LLCs to HPI |
HSF II sold its controlling interest in Hall Palm Springs, LLC in December 2019 to HPI for $31,993,840, which represented the carrying basis of HSF II’s net investment in Hall Palm Springs, LLC on the transaction date. In connection with the sale, Hall Palm Springs, LLC was de-consolidated by the Company, which resulted in a $45,094 reduction in noncontrolling interest.
| (7) | Affiliated Note Payable |
On November 15, 2018, Hall Structured Finance III, LLC (“HSF III”), a consolidated subsidiary of HPI, offered up to $10,000,000 in unsecured debentures (the “HSF III Debentures”). The HSF III Debentures provide for the payment of interest on a quarterly basis, in arrears, at a rate of 8% per annum. The maturity date for the HSF III Debentures issued on or before March 31, 2019 is December 31, 2023 and for HSF III Debentures issued on or after April 1, 2019 is June 30, 2024.
HSF III has used net proceeds from the HSF III Debentures during 2019 to make loans to the Company (the “HSF III Company Loan”). The HSF III Company Loan provides for borrowings up to $12,000,000, at an interest rate of 2.49%. As of December 31, 2019 and 2018, $9,085,919 and $0 respectively were outstanding under the HSF III Company Loan, of which $159,919 and $0, respectively, relates to interest expense.
| (8) | Commitments and Contingencies |
As of December 31, 2019, the Company has commitments of $912 million to fund loan amounts to third-party borrowers under its existing loan agreements. The Company anticipates funding the loan commitments from proceeds received from third-party banks and other capital sources, from existing capital resources, and/or internally generated capital resources. The Company has historically obtained bank loans on a loan-by-loan basis either directly or indirectly through a subsidiary, with payment of such bank loans guaranteed directly by the Company and/or its affiliates.
The Company believes that there are currently no pending legal matters that would materially affect the Company’s financial position, results of operations, or liquidity.
26
HALL STRUCTURED FINANCE II, LLC AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2019 and 2018
| (9) | Subsequent Events |
Subsequent to year end, a pandemic related to a novel strain of coronavirus (COVID-19) was declared. The spread of COVID-19 in the first quarter of 2020 has caused significant volatility in the U.S. and international debt and equity markets. The extent of the impact of the COVID-19 pandemic on the financial performance of the Company’s investments will depend on future developments, all of which are highly uncertain and cannot be predicted. The Company is continuing to actively manage its loan portfolio. As to those projects which secure loans that are under construction, for the most part, construction is continuing with some exceptions where there are temporary ordinances in place which restrict construction work. The Company is also working with some of our borrowers, particularly those with hotels that are completed, on short-term loan modifications which generally provide for partial deferral of monthly debt service.
Other than the matters disclosed within the notes to the consolidated financial statements, no matters or circumstances have arisen through and including April 29, 2020 that require further recognition or disclosure.
27
| Item 8. | Exhibits |
* Previously filed
** Filed herewith
28
SIGNATURES
Pursuant to the requirements of Regulation A, the issuer has duly caused this Annual Report to be signed on its behalf by the undersigned, thereto duly authorized, in Dallas, Texas on April 29, 2020.
| Hall Structured Finance II, LLC | ||
| By: | /s/ Michael J. Jaynes | |
| Name: Michael J. Jaynes | ||
| Title: President | ||
Pursuant to the requirements of Regulation A, this Annual Report has been signed below by the following persons on behalf of the issuer in the capacities and on the dates indicated.
| Signature | Title | Date | ||
| /s/ Michael J. Jaynes | President | |||
| Michael J. Jaynes | (Principal Executive Officer) | April 29, 2020 | ||
| /s/ Donald J. Braun | Manager, Executive Vice President and | |||
| Donald J. Braun | Secretary | April 29, 2020 |