-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, A/Z8bbw7fuNcTTatz1iEeOLXuuXCX6NN85pDaBxaWRAkWJ2ozo3HLh/d6u7shbHt 117FNXXcYKnvSy/1Ub2B3Q== 0000928790-98-000046.txt : 19980401 0000928790-98-000046.hdr.sgml : 19980401 ACCESSION NUMBER: 0000928790-98-000046 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 19971231 FILED AS OF DATE: 19980331 SROS: NONE FILER: COMPANY DATA: COMPANY CONFORMED NAME: HUTTON GSH COMMERCIAL PROPERTIES 3 CENTRAL INDEX KEY: 0000725767 STANDARD INDUSTRIAL CLASSIFICATION: REAL ESTATE [6500] IRS NUMBER: 112680561 STATE OF INCORPORATION: VA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-13341 FILM NUMBER: 98580684 BUSINESS ADDRESS: STREET 1: 388 GREENWICH ST CITY: NEW YORK STATE: NY ZIP: 10013 BUSINESS PHONE: 212-526-32 MAIL ADDRESS: STREET 1: 3 WORLD FINANCIAL CENTER STREET 2: 29TH FLOOR CITY: NEW YORK STATE: NY ZIP: 10285 10-K 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K [X] ANNUAL REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934. For the fiscal year ended December 31, 1997 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934. Commission file number: 0-13341 COMMERCIAL PROPERTIES 3, L.P. (formerly Hutton/GSH Commercial Properties 3) Exact name of registrant as specified in its charter Virginia 11-2680561 State or other jurisdiction of incorporation or organization I.R.S. Employer Identification No. 3 World Financial Center, 29th Floor 10285 New York, NY ATTN: Andre Anderson zip code Address of principal executive offices Registrant's telephone number, including area code: (212) 526-3237 Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: UNITS OF LIMITED PARTNERSHIP INTEREST Title of Class Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. X DOCUMENTS INCORPORATED BY REFERENCE: Portions of Prospectus of Registrant dated December 13, 1983 (included in Amendment No. 1 to Registration Statement No. 2-85936, of Registrant filed December 13, 1983) are incorporated by reference to Part III. Portions of Parts I, II and IV are incorporated by reference to the Partnership's Annual Report to Unitholders for the year ended December 31, 1997 filed as an exhibit under Item 14. PART I Item 1. Business (a) General Development of Business Commercial Properties 3, L.P. (the "Registrant" or the "Partnership") (formerly Hutton/GSH Commercial Properties 3), is a Virginia limited partnership formed on April 19, 1984, of which Real Estate Services VII, Inc. ("RE Services"), formerly Hutton Real Estate Services VII, Inc. (See Item 10. "Certain Matters Involving Affiliates"), and HS Advisors III, Ltd. ("HS Advisors"), are the general partners (the "General Partners"). Commencing December 13, 1983, the Registrant began offering through E.F. Hutton & Company Inc., a former affiliate of the Registrant, up to a maximum of 120,000 units of limited partnership interest (the "Units") at $500 per Unit. The Units were registered under the Securities Act of 1933, as amended (the "Act"), under Registration Statement No. 2-85936, which Registration Statement was declared effective on December 13, 1983. The offering of Units was terminated on August 9, 1984. Upon termination of the offering, the Registrant had accepted subscriptions for 109,378 Units for an aggregate of $54,689,000. After deducting offering costs and initial working capital reserves, approximately $46,000,000 was available for investment in real estate. Of such proceeds, $44,995,452 was invested in an office and light industrial complex, one limited partnership and two joint ventures, each of which owns a specific office building (the "Properties"), and $1,093,780 of uncommitted funds were distributed to the Limited Partners as a return of capital on May 15, 1986. The Registrant also distributed $437,512 in 1986 and $218,756 in 1985 to the Limited Partners as a return of capital, which sums represented the excess of the initial working capital reserves set aside for present and future operating requirements. To the extent that funds committed for investment or held as a working capital reserve have not been expended (and have not otherwise been distributed to the Limited Partners as a return of capital), the Registrant has invested such funds in bank certificates of deposit, unaffiliated money market funds or other highly liquid short-term investments where there is appropriate safety of principal, in accordance with the Registrant's investment objectives and policies. (b) Financial Information About Industry Segment The Registrant's sole business is the ownership and operation of the Properties. All of the Registrant's revenues, operating profit or losses and assets relate solely to such industry segment. (c) Narrative Description of Business Incorporated by reference to Note 1 "Organization" of the Notes to the Consolidated Financial Statements in the Partnership's Annual Report to Unitholders for the year ended December 31, 1997 filed as an exhibit under Item 14. The Registrant's principal investment objectives with respect to the Properties (in no particular order of priority) are: Capital appreciation. Distributions of net cash from operations attributable to rental income. Preservation and protection of capital. Equity build-up through principal reduction of mortgage loans, if any, on the Properties. Distributions of net cash from operations will be the Registrant's objective during its operational phase, while the preservation and appreciation of capital will be the Registrant's long-term objective. Future distributions will be made from rental operations with respect to the Registrant's investment in the Properties, as well as from interest on short-term investments and return of capital. The attainment of the Registrant's investment objectives will depend on many factors, including future economic conditions in the United States as a whole and, in particular, in the localities in which the Registrant's Properties are located, especially with regard to achievement of capital appreciation. The Registrant expects to sell its Properties at such time or times as it deems appropriate (see Item 7), taking into consideration such factors as market conditions for these types of properties, leasing conditions, property cash flow and the possible risks of continued ownership. No Property will be sold, financed or refinanced by the Registrant without agreement of both General Partners. Proceeds from any future sale, financing or refinancing of the Properties will not be reinvested but will be distributed to the Limited Partners as a return of capital, so that the Registrant, in effect, will be self-liquidating. As partial payment for Properties sold, the Registrant may receive purchase money obligations collateralized by mortgages or deeds of trust. In such cases, the amount of such obligations will not be included in net proceeds from sale or refinancing (distributable to the Limited Partners) until and to the extent the obligations are realized in cash, sold or otherwise liquidated. (d) Competition The Properties are subject to competition from similar types of properties located in the same vicinity. The business of owning and operating commercial office buildings in the area where the Properties are located is highly competitive, and the Partnership competes with a number of established companies, some of which have greater resources than the Partnership. For a discussion of current commercial real estate market conditions in Little Rock, Arkansas; Dallas, Texas; Fort Lauderdale and Fort Myers, Florida, see the section entitled "Property Profiles & Leasing Update" in the Partnership's Annual Report to Unitholders for the year ended December 31, 1997 filed as an exhibit under Item 14. (e) Employees The Registrant has no employees. Item 2. Properties Description of Properties and material leases incorporated by reference to the section entitled "Property Profiles & Leasing Update" and Note 5 "Rental Income Under Operating Leases" of the Notes to the Consolidated Financial Statements in the Partnership's Annual Report to Unitholders for the year ended December 31, 1997 filed as an exhibit under Item 14. Item 3. Legal Proceedings The Registrant is presently appealing a $200,000 default judgment in connection with a legal dispute with a former tenant at the Quorum II Office Building in Dallas. Although the Registrant is confident that the Texas Court of Appeals will dismiss the judgment, the Registrant was forced to purchase a security bond for the entire amount and if the appeal is not successful then the Registrant may be forced to pay $200,000 to the tenant in order to satisfy the judgment. Item 4. Submission of Matters to a Vote of Security Holders No matter was submitted to a vote of Unitholders during the fourth quarter of 1997. PART II Item 5. Market for Registrant's Limited Partnership Units and Related Unitholder Matters (a) Market Information No established public trading market has developed for the Units, and it is not anticipated that such a market will develop in the future. (b) Holders As of December 31, 1997, the number of holders of Units was 5,181. (c) Distributions Cash distributions paid to the Limited Partners for the two years ended December 31, 1997 and December 31, 1996 are incorporated by reference to the section entitled "Message to Investors" in the Partnership's Annual Report to Unitholders for the year ended December 31, 1997 filed as an exhibit under Item 14. Item 6. Selected Financial Data Incorporated by reference to the section entitled "Financial Highlights" in the Partnership's Annual Report to Unitholders for the year ended December 31, 1997, which is filed as an exhibit under Item 14. Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations Liquidity and Capital Resources The General Partners have commenced marketing the properties for sale and are in the process of selecting real estate brokers to assist in their marketing efforts. There can be no assurance as to when the properties will be sold, or that any sale, if completed, will result in a particular price. The Partnership had cash and cash equivalents totaling $1,273,014 at December 31, 1997, largely unchanged from $1,228,502 at December 31, 1996. The Partnership also had restricted cash, which primarily consists of security deposits, of $222,883 at December 31, 1997, also largely unchanged from a year earlier. Deferred rent receivable totaled $152,030 at December 31, 1997, compared to $205,718 at December 31, 1996. The decrease is largely due to the amortization of deferred rent associated with older leases at all of the Partnership's properties. Prepaid leasing costs and other assets, net of accumulated amortization, totaled $704,043 at December 31, 1997, compared to $563,611 at December 31, 1996. The increase is largely due to the payment of leasing commissions in connection with new and renewal leases. Accounts payable and accrued expenses totaled $437,027 at December 31, 1997, compared with $249,517 at December 31, 1996. The increase is largely due to the timing of payments of real estate taxes for all four Properties, whereas the balance for year-end 1996 represents the accrual for Three Financial Centre only. Due to affiliates increased to $55,270 at December 31, 1997, from $5,941 at December 31, 1996, primarily reflecting the reimbursement of certain expenses incurred in servicing the Partnership, as described below under "Results of Operations." A discussion of material leases at the Partnership's Properties, is incorporated herein by reference to the section entitled "Property Profiles & Leasing Update" contained in the Partnership's Annual Report to Unitholders for the year ended December 31, 1997 filed as an exhibit under Item 14. The Partnership paid distributions of net cash from operations to the Limited Partners of $12.00 per Unit for the year ended December 31, 1997. Further details regarding cash distributions is incorporated herein by reference to the section entitled Message to Investors contained in the Partnership's Annual Report to Unitholders for the year ended December 31, 1997 filed as an exhibit under Item 14. Results of Operations 1997 vs 1996 Partnership operations resulted in net income of $42,860 for the year ended December 31, 1997, compared to $567,637 in 1996. The decrease in 1997 is primarily attributable to lower rental income and higher property operating and general and administrative expenses. Rental income totaled $5,031,723 for the year ended December 31, 1997, compared with $5,209,134 in 1996. The decrease is largely attributable to lower average occupancy at Fort Lauderdale Commerce Center and Metro Park Executive Center. Additionally, rental income was higher in 1996 due to the collection of a lease cancellation fee of $60,000 in 1996, and to the accounting for rental concessions associated with leasing activity at Three Financial Centre. Property operating expenses totaled $2,392,473 for the year ended December 31, 1997, compared with $2,291,679 in 1996. The increase is primarily due to various tenant and building improvements done at each of the Partnership's properties. Depreciation and amortization totaled $2,089,050 for year ended December 31, 1997, largely unchanged from $2,074,246 in 1996. General and administrative expenses for the year ended December 31, 1997, were $477,582 compared with $269,716 in 1996. As of January 1, 1997, certain expenses incurred by Real Estate Services VII, Inc., its affiliates, and an unaffiliated third party service provider in servicing the Partnership, which were voluntarily absorbed by affiliates of Real Estate Services VII, Inc. in prior periods, were reimbursable to Real Estate Services VII, Inc. and its affiliates. The increase is also due to higher legal costs relating to litigation with a tenant at Quorum II and higher postage and printing costs due to tender offer activity. As of December 31, 1997, lease levels at each of the Properties were as follows: Metro Park Executive Center - 86%; Fort Lauderdale Commerce Center - -82%; Three Financial Centre 95%; and Quorum II Office Building - 91%. 1996 vs. 1995 Partnership operations resulted in net income of $567,637 for the year ended December 31, 1996, compared to a net loss of $3,631,162 in 1995. The change from net loss in 1995 to net income in 1996 is primarily attributable to a $3,928,998 loss recognized in 1995 on the write down of the Quorum II Office Building to its estimated fair value pursuant to the requirements of FAS 121. Rental income totaled $5,209,134 for the year ended December 31, 1996 compared to $5,047,528 for the year ended December 31, 1995. The increase is due to rental rate increases at three of the Partnership's four properties. Interest income totaled $69,645 for the year ended December 31, 1996, compared to $110,529 for the year ended December 31, 1995. The decrease is due primarily to a lower average cash balance in 1996. Property operating expenses totaled $2,291,679 for the year ended December 31, 1996, relatively unchanged from $2,283,025 for the year ended December 31, 1995. Depreciation and amortization decreased to $2,074,246 for the year ended December 31, 1996 from $2,278,567 for the year ended December 31, 1995, primarily due to a lower depreciable asset base in 1996. The Partnership incurred bad debt expense of $33,361 for the year ended December 31, 1996 reflecting the uncollectibility of delinquent rent. The Partnership incurred no bad debt expense in 1995. For the year ended December 31, 1996, net income of $42,140 was allocated to the co-venturer of Quorum II Office Building. This allocation resulted from the property's net income, prior to depreciation expense, being in excess of net cash distributed from operations. As of December 31, 1996, lease levels at each of the properties were as follows: Metro Park Executive Center - 81%; Fort Lauderdale Commerce Center - 85%; Three Financial Centre - 94 %; Quorum II Office Building - 84%. Item 8. Financial Statements and Supplementary Data Incorporated by reference to the Partnership's Annual Report to Unitholders for the year ended December 31, 1997, which is filed as an exhibit under Item 14. Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure None. PART III Item 10. Directors and Executive Officers of the Registrant The Registrant has no officers and directors. RE Services and HS Advisors, the General Partners of the Registrant, jointly manage and control the affairs of the Registrant and have general responsibility and authority in all matters affecting its business. Real Estate Services VII, Inc. Real Estate Services VII, Inc., is a Delaware corporation formed on August 2, 1982 and is an affiliate of Lehman Brothers Inc. ("Lehman"). See the section captioned "Certain Matters Involving Hutton Affiliates" below for a description of the Hutton Group's acquisition by Shearson Lehman Brothers, Inc. ("Shearson") and the subsequent sale of certain of Shearson's domestic retail brokerage and asset management businesses to Smith Barney, Harris Upham & Co. Incorporated, which resulted in a change in the general partner's name. The names and ages of, as well as the positions held by, the directors and executive officers of RE Services are set forth below. There are no family relationships between any officer or director and any other officer or director. Certain officers and directors of RE Services are now serving (or in the past have served) as officers and directors of entities which act as general partners of a number of real estate limited partnerships which have sought protection under the provisions of the Federal Bankruptcy Code. The partnerships which have filed bankruptcy petitions own real estate which has been adversely affected by the economic conditions in the markets in which that real estate is located and, consequently, the partnerships sought the protection of the bankruptcy laws to protect the partnership's assets from loss through foreclosure. Name Office Rocco F. Andriola Director Jeffrey C. Carter Director, President and Chief Financial Officer Michael T. Marron Vice President Rocco F. Andriola, 39, is a Managing Director of Lehman Brothers Inc. in its Diversified Asset Group and has held such position since October 1996. Since joining Lehman in 1986, Mr. Andriola has been involved in a wide range of restructuring and asset management activities involving real estate and other direct investment transactions. From June 1991 through September 1996, Mr. Andriola held the position of Senior Vice President in Lehman's Diversified Asset Group. From June 1989 through May 1991, Mr. Andriola held the position of First Vice President in Lehman's Capital Preservation and Restructuring Group. From 1986-89, Mr. Andriola served as a Vice President in the Corporate Transactions Group of Shearson Lehman Brothers' office of the general counsel. Prior to joining Lehman, Mr. Andriola practiced corporate and securities law at Donovan Leisure Newton & Irvine in New York. Mr. Andriola received a B.A. from Fordham University, a J.D. from New York University School of Law, and an LL.M in Corporate Law from New York University's Graduate School of Law. Jeffrey C. Carter, 52, is a Senior Vice President of Lehman Brothers in the Diversified Asset Group. Mr. Carter joined Lehman Brothers in September 1988. From 1972 to 1988, Mr. Carter held various positions with Helmsley-Spear Hospitality Services, Inc. and Stephen W. Brener Associates, Inc. including Director of Consulting Services at both firms. From 1982 through 1987, Mr. Carter was President of Keystone Hospitality Services, an independent hotel consulting and brokerage company. Mr. Carter received his B.S. degree in Hotel Administration from Cornell University and an M.B.A. degree from Columbia University. Michael T. Marron, 34, is a Vice President of Lehman Brothers and has been a member of the Diversified Asset Group since 1990 where he has actively managed and restructured a diverse portfolio of syndicated limited partnerships. Prior to joining Lehman Brothers, Mr. Marron was associated with Peat Marwick Mitchell & Co. serving in both its audit and tax divisions from 1985 to 1989. Mr. Marron received his B.S. degree from the State University of New York at Albany and an M.B.A. from Columbia University. HS Advisors III, Ltd. HS Advisors, a California limited partnership formed on August 11, 1982, the sole general partner of which is Hogan Stanton Investment, Inc. ("HS Inc."), a wholly-owned subsidiary of Goodman Segar Hogan, Inc. The names and ages of, as well as the positions held by, the directors and executive officers of HS Inc. are as set forth below. There are no family relationships between or among any officer and any other officer or director. Name Office Mark P. Mikuta President Jerry L. Moore Executive Vice President Julie R. Adie Vice President, Treasurer and Secretary Mark P. Mikuta, 44, is Senior Vice President of Goodman Segar Hogan, Inc. and is Vice President and Controller of Dominion Capital, Inc., a wholly- owned subsidiary of Dominion Resources. Mr. Mikuta joined Dominion Resources in 1987. Prior to joining Dominion Resources, he was an internal auditor with Virginia Commonwealth University in Richmond, Virginia from 1980 - 1987 and an accountant with Coopers & Lybrand from 1977 - 1980. Mr. Mikuta earned a bachelor of science degree in accounting from the University of Richmond in 1977. He is a Certified Public Accountant (CPA) and Certified Financial Planner (CFP) in the state of Virginia and a member of the American Institute of Certified Public Accountants. Jerry L. Moore, 48, is Chief Executive Officer of Goodman Segar Hogan Hoffler, L.P. ("GSHH"). GSHH currently has over 325 employees and offices in Washington, D.C., Richmond, Norfolk, Newport News, Raleigh/Durham and Atlanta. Mr. Moore is responsible for management of existing operations of the company and is charged with building GSHH's presence in existing and new markets. Prior to GSHH, Mr. Moore was Senior Vice President of Dominion Land Management Co., the real estate development unit of Dominion Capital, Inc. Dominion Capital is a wholly owned subsidiary of Dominion Resources, Inc. Mr. Moore received a B.A. degree from Austin College in 1971. He is a member of the Urban Land Institute Small Scale Development Council; is on the Executive Committee of GVA North Alliance; and is on the Board of Directors of the Hampton Roads Economic Development Alliance. Julie R. Adie, 43, is a Vice President of Goodman Segar Hogan, Inc. and Senior Vice President of Goodman Segar Hogan Hoffler, L.P. ("GSHH"). She is responsible for investment management of a commercial real estate portfolio for the company's Asset Management Division. Prior to GSHH, Ms. Adie was an asset manager with Aetna Real Estate Investors from 1986 to 1988. Ms. Adie practiced as an attorney from 1978 through 1984 and is currently a member of the Virginia Bar Association. She holds a B.A. Degree from Duke University, a Juris Doctor from University of Virginia and an M.B.A. from Dartmouth College. Certain Matters Involving Affiliates On July 31, 1993, Shearson Lehman Brothers Inc. sold certain of its domestic retail brokerage and asset management businesses to Smith Barney, Harris Upham & Co. Incorporated ("Smith Barney"). Subsequent to the sale, Shearson Lehman Brothers Inc. changed its name to Lehman Brothers Inc. The transaction did not affect the ownership of the General Partners. However, the assets acquired by Smith Barney included the name "Hutton." Consequently, Hutton Real Estate Services VII, Inc., a General Partner, changed its name to Real Estate Services VII Inc. Additionally, effective August 3, 1995, the Partnership changed its name to Commercial Properties 3, L.P., to delete any reference to "Hutton." On August 1, 1993, Goodman Segar Hogan ("GSH") transferred all of its leasing, management and sales operations to Goodman Segar Hogan Hoffler, L.P., a Virginia limited partnership ("GSHH"). On that date, the leasing, management and sales operations of a portfolio of properties owned by the principals of Armada/Hoffler ("HK") were also obtained by GSHH. The General Partner of GSHH is Goodman Segar Hogan Hoffler, Inc., a Virginia corporation ("GSHH Inc."), which has a one percent interest in GSHH. The stockholders of GSHH Inc. are GSH with a sixty-two percent stock interest and H.K. Associates, L.P., an affiliate of HK, with a thirty-eight percent stock interest. The remaining interests in GSHH are limited partnership interests owned by GSH, HK and 23 employees of GSHH. The transaction did not affect the ownership of the general partners. Item 11. Executive Compensation Neither of the General Partners nor any of their directors and officers received any compensation from the Registrant. See Item 13 below with respect to a description of certain transactions of the General Partners and their affiliates with the Registrant. Item 12. Security Ownership of Certain Beneficial Owners and Management (a) Security Ownership of Certain Beneficial Owners No person (including any "group" as that term is used in Section 13(d)(3) of the Securities Exchange Act of 1934) is known to the Registrant to be the beneficial owner of more than five percent of the outstanding Units as of December 31, 1997. (b) Security Ownership of Management No officer or director of the General Partners beneficially owned or owned of record directly or indirectly any Units of the Registrant as of December 31, 1997. (c) Changes In Control None. Item 13. Certain Relationships and Related Transactions Pursuant to the Certificate and Agreement of Limited Partnership of the Registrant, for the year ended December 31, 1997, $67,729 of the Registrant's income was allocated to the General Partners ($33,865.50 to RE Services and $33,865.50 to HS Advisors). For a description of the allocation of net cash from operations and the allocation of income and loss to which the General Partners are entitled, reference is made to the material contained on pages 45 through 48 of the Prospectus of Registrant dated December 13, 1983 (the "Prospectus"), contained in Amendment No. 1 to Registrant's Registration Statement No. 2-85936, under the section captioned "Distributions and Allocations," which section is incorporated herein by reference thereto. The Registrant may enter into one or more property management agreements with GSH pursuant to which GSH will provide certain property management services with respect to certain Properties owned by the Registrant or its joint ventures. For such services GSH will be entitled to receive a management fee as described under the section captioned "Investment Objectives and Policies - Management of Properties" in the Prospectus, which section is incorporated herein by reference thereto. Pursuant to Section 12(g) of the Registrant's Certificate and Agreement of Limited Partnership, the General Partners and certain affiliates may be reimbursed by the Registrant for certain costs as described on page 16 of the Prospectus, which description is incorporated herein by reference thereto. Effective as of January 1, 1997, the Partnership began reimbursing certain expenses incurred by Real Estate Services VII, Inc. and its affiliates in servicing the Partnership to the extent permitted by the Partnership Agreement In prior years, affiliates of Real Estate Services VII, Inc. had voluntarily absorbed these expenses. Disclosure relating to amounts paid to the General Partners or their affiliates during the past three years is incorporated by reference to Note 6 "Transactions With the General Partners and Affiliates" of Notes to the Consolidated Financial Statements contained in the Partnership's Annual Report to Unitholders for the year ended December 31, 1997 filed as an exhibit under Item 14. PART IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K (a) The following documents are filed as part of this report: Page Number (1) Financial Statements: Report of Independent Auditors (1) Consolidated Balance Sheets - At December 31, 1997 and 1996 (1) Consolidated Statements of Partners' Capital (Deficit) - For the years ended December 31, 1997, 1996 and 1995 (1) Consolidated Statements of Operations - For the years ended December 31, 1997, 1996 and 1995 (1) Consolidated Statements of Cash Flows - For the years ended December 31, 1997, 1996 and 1995 (1) Notes to the Consolidated Financial Statements (1) (2) Financial Statement Schedule: Schedule III - Real Estate and Accumulated Depreciation F-1 All other schedules for which provision is made in the applicable accounting regulation of the Securities and Exchange Commission are not required under the related instructions or are inapplicable, and therefore have been omitted. (1) Incorporated by reference to the Partnership's Annual Report to Unitholders for the year ended December 31, 1997, which is filed as exhibit 13. (b) Reports on Form 8-K filed in the fourth quarter of calendar year 1997: None. (c) See Exhibit Index contained herein. EXHIBIT INDEX Exhibit No. (4) (A) Certificate and Agreement of Limited Partnership (included as, and incorporated herein by reference to, Exhibit A to the Prospectus of Registrant dated December 13, 1983 (the "Prospectus"), contained in Amendment No. 1 to Registration Statement, No. 2-85936, of the Registrant filed December 13, 1983 (the "Registration Statement")). (B) First Amendment to Certificate and Agreement of Limited Partnership (included as, and incorporated herein by reference to, Exhibit 4(B) of the Registrant's Annual Report on Form 10-K for the fiscal year ended November 30, 1984 (the "1984 Annual Report"). (C) Subscription Agreement and Signature Page (included as, and incorporated herein by reference to, Exhibit 3.1 to the 1983 Registration Statement). (10) (A) Agreements relating to Quorum II Office Building (included as, and incorporated herein by reference to, Exhibit (10)(A) to the 1984 Annual Report). (B) Agreements relating to Three Financial Centre Office Building (included as,and incorporated herein by reference to, Exhibit (10)(B) to the 1984 Annual Report). (C) Agreements relating to Fort Lauderdale Commerce Center (included as, and incorporated herein by reference to, Exhibit (10)(C) to the 1984 Annual Report). (D) Agreements relating to Metro Park Executive Center (included as, and incorporated herein by reference to, Exhibit (10)(D) to the 1984 Annual Report). (13) Annual report to the Unitholders for the year ended December 31, 1997. (23) Consent of Independent Auditors. (27) Financial Data Schedule. (28) Portions of Prospectus of Registrant dated December 13, 1983. SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. COMMERCIAL PROPERTIES 3, L.P. BY: HS Advisors III, Ltd. General Partner Hogan Stanton Investment, Inc. General Partner Dated: March 26, 1998 BY: /s/Mark P. Mikuta Name: Mark P. Mikuta Title: President BY: Real Estate Services VII, Inc. General Partner Dated: March 26, 1998 BY: /s/Jeffrey C. Carter Name: Jeffrey C. Carter Title: Director, President and Chief Financial Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant in the capabilities and on the dates indicated. REAL ESTATE SERVICES VII, INC. A General Partner Dated: March 26, 1998 BY: /s/Rocco F. Andriola Name: Rocco F. Andriola Title: Director Dated: March 26, 1998 BY: /s/Jeffrey C. Carter Name: Jeffrey C. Carter Title: Director, President and Chief Financial Officer Dated: March 26, 1998 BY: /s/Michael T. Marron Name: Michael T. Marron Title: Vice President Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant in the capabilities and on the dates indicated. HS ADVISORS III, LTD. A General Partner Dated: March 26, 1998 BY: /s/Mark P. Mikuta Mark P. Mikuta President of Hogan Stanton Investment, Inc., as general partner of HS Advisors III, Ltd. Dated: March 26, 1998 BY: /s/Jerry L. Moore Jerry Moore Executive Vice President of Hogan Stanton Investment, Inc., as general partner of HS Advisors III, Ltd. Dated: March 26, 1998 BY: /s/Julie R. Adie Julie R. Adie Vice President, Secretary and Treasurer of Hogan Stanton Investments, Inc. as general partner of HS Advisors III, Ltd. EX-13 2 1997 ANNUAL REPORT TO UNITHOLDERS EXHIBIT 13 Commercial Properties 3, L.P. 1997 Annual Report to Unitholders Commercial Properties 3, L.P. Commercial Properties 3, L.P. (the "Partnership"), is a limited partnership formed in 1984 to acquire, operate and hold for investment commercial real estate properties. The Partnership's investments are comprised of a combined office/warehouse and office/ showroom property located in Fort Lauderdale, Florida and three office buildings located in Dallas, Texas; Little Rock, Arkansas and Fort Myers, Florida. Provided below is a comparison of lease levels at the properties as of December 31, 1997 and 1996. Percentage Leased Property Location 1997 1996 Metro Park Executive Center Fort Myers, FL 86% 81% Fort Lauderdale Commerce Center Fort Lauderdale, FL 82% 85% Three Financial Centre Little Rock, AR 95% 94% Quorum II Office Building Dallas, TX 91% 84% Contents 1 Message to Investors 3 Property Profiles & Leasing Update 5 Financial Highlights 6 Consolidated Financial Statements 9 Notes to the Consolidated Financial Statements 14 Report of Independent Auditors 15 Net Asset Valuation Administrative Inquiries Performance Inquiries/Form 10-Ks Address Changes/Transfers First Data Investor Services Group P.O. Box 1527 2424 South 130th Circle Boston, Massachusetts 02104-1527 Omaha, Nebraska 68144-2596 Attn: Financial Communications 800-223-3464 800-223-3464 Message to Investors We are pleased to present the 1997 Annual Report for Commercial Properties 3, L.P. (the "Partnership"). Included in this report is a review of national market conditions, an update of Partnership operations, and financial highlights for the year. Please refer to the Property Profiles & Leasing Update section of this report for additional information regarding local market conditions for each of the Partnership's properties, as well as their operating performance and lease levels at December 31, 1997. Market Overview The commercial office market continued to improve during 1997, with a strong economy increasing demand for office space in most areas of the country. Vacancy rates for office properties nationwide declined to 11.4% at year-end 1997, compared with 13.1% a year earlier. Lease rates and property values also showed steady improvement in many areas, including the areas where the Partnership's properties are located. These favorable operating conditions, however, have encouraged new development, and construction has increased in many areas. Permitting activity is particularly high in the Dallas and Fort Lauderdale markets where two of the Partnership's properties are located. Competition for tenants will likely intensify in the future as these development projects are completed, however, it is expected that operating conditions and property values will remain stable in the near term. In consideration of these strong operating conditions, the General Partners have decided to begin marketing the properties for sale and are currently in the process of selecting brokers to assist with their marketing efforts. In addition, the Partnership continues to make capital improvements to better position the properties in their respective markets. To fund these improvements and maintain adequate cash reserves, it may be necessary to suspend distributions in the future. It is important to note, however, that as the properties are sold, the net sales proceeds will be distributed to the partners. Cash Distributions The Partnership paid cash distributions to limited partners totaling $12.00 per Unit for the year ended December 31, 1997, including a fourth quarter cash distribution of $3.00 per Unit that was either credited to your brokerage account or sent to you on February 25, 1998. Since inception, the Partnership has paid total cash distributions of $173.81 per original $500 Unit, including $16.00 per Unit in return of capital payments which have reduced the Unit size from $500 to $484. Cash Distributions Per Limited Partnership Unit First Second Third Fourth Quarter Quarter Quarter Quarter Total 1996 $16.30* $3.00 $3.00 $3.00 $25.30 1997 $3.00 $3.00 $3.00 $3.00 $12.00 * Includes a special cash distribution of $13.30 per Unit paid on March 29, 1996. General Information As you are probably aware, several third parties have commenced partial tender offers to purchase units of the Partnership at prices which are below the Partnership's net asset value. In response to these offers, we have recommended that limited partners reject these offers because they do not reflect the underlying value of the Partnership's assets. According to published industry sources, most investors who hold units of limited partnerships similar to the Partnership have rejected these types of tender offers due to their inadequacy. Summary We will continue our efforts to sell the Partnership's properties, distribute the net sales proceeds to the partners and subsequently dissolve the Partnership. In the interim, we will continue to focus on leasing the vacant space at all of the properties. We will keep you apprised of our progress in these endeavors and other significant developments affecting your investment in future reports. Very truly yours, Real Estate Services VII, Inc. Hogan Stanton Investment, Inc. General Partner Ltd. General Partner of HS Advisors III, /s/ Jeffrey C. Carter /s/ Mark P. Mikuta Jeffrey C. Carter Mark P. Mikuta President President March 26, 1998 Property Profiles & Leasing Update METRO PARK EXECUTIVE CENTER Fort Myers, Florida The Metro Park Executive Center is situated in a suburban office park just east of the Fort Myers central business district in the Edison Central submarket. The property, contains 60,597 leasable square feet of commercial office space and is one of five class "A" commercial office buildings located within the office park. Leasing Update The General Partners executed three new leases representing 1,856 square feet and three lease renewals during 1997, including a renewal for 16,517 square feet that was schedule to expire at year end. In addition, a tenant occupying 725 square feet vacated its space. As a result, the property was 86% leased at December 31, 1997 compared with 81% at year-end 1996. Three leases totaling 7,812 square feet or approximately 13% of the property's space are scheduled to expire during 1998. Fort Myers Market Update The Fort Myers commercial office market remained competitive during 1997. Vacancy rates for the Edison Central submarket, which had been declining for the past three years, increased during the year to 14% at year-end 1997, compared with 11.9% at year-end 1996. Still recovering from the 1995 relocation of several large tenants to another market, the area experienced negative absorption in 1997, and rental rates declined slightly from the previous year. Although there has been no new speculative construction since the late 1980s and none planned in the near future, conditions are likely to remain competitive in 1998. FORT LAUDERDALE COMMERCE CENTER Fort Lauderdale, Florida The Fort Lauderdale Commerce Center is located in the Central Broward submarket of Broward County, approximately five miles north of the central business district of Fort Lauderdale. The property contains 186,884 leasable square feet of office/showroom and office/warehouse space. Leasing Update The General Partners executed four new leases representing 28,354 square feet and one lease renewal totaling 6,484 square feet during the year. Four tenants, leasing a total of 26,621 square feet, vacated their space in 1997. As a result, the property was 82% leased at year-end 1997 compared with 85% at year-end 1996. During 1998, one lease representing 2,620 square feet or approximately 1% of the property's leasable space, is scheduled to expire. Fort Lauderdale Market Update The Broward County office market showed notable improvement from 1996 as vacancies declined and rental rates rose, reflecting the strong influx of new businesses to the area. Vacancy for the Central Broward submarket decreased from 10.7% in the third quarter of 1996 to 8.5% in the third quarter of 1997. Vacancy rates are expected to decrease even further in the coming year. These healthy conditions have given rise to an increase in new office construction; the Central Broward submarket gained 156,000 square feet in 1997, and Broward County as a whole currently has 1.3 million square feet under construction. Much of the new construction, however, is pre-leased or sold, and conditions are expected to remain strong through 1998. THREE FINANCIAL CENTRE Little Rock, Arkansas Three Financial Centre affords easy access to downtown Little Rock, two interstate highways, I-630 and I-430 and the Little Rock Regional Airport. The property is a 123,833 leasable square foot, eight-story brick office building situated in the Financial Centre Complex located in west Little Rock. Leasing Update During the year, one tenant leasing 2,541 square feet expanded its lease to a total of 3,569 square feet. Additionally, a lease which was scheduled to expire on December 31, 1997, was renewed on a month-to-month basis, and one tenant leasing 4,747 square feet vacated its space. At December 31, 1997, the property's lease level was 95%, up slightly from 94% a year earlier. Eight leases representing 38,727 square feet are scheduled to expire during 1998, representing 31% of the property's leasable area. Market Update Although market conditions in Little Rock remained stable during 1997, the west Little Rock submarket continued to recover from the construction of three new commercial office buildings which were completed in late 1996 and early 1997. The area's overall vacancy rate for office properties climbed to 10.1% at year-end 1997 compared with 8% a year earlier. Until the new space is leased, competition for tenants in the area is likely to remain strong. QUORUM II OFFICE BUILDING Dallas, Texas Quorum II Office Building contains 84,094 leasable square feet of commercial office space and is located in the Quorum Business Park in the Far North Dallas submarket of Dallas. The property affords easy access to Loop 635, the Dallas North Tollway and Inwood Road. Leasing Update During 1997, the General Partners executed two new leases totaling 27,895 square feet. Additionally, one tenant leasing a total of 6,740 square feet, whose lease was to expire during the year, renewed and expanded it's leasable space to 9,687 square feet. One tenant occupying 970 square feet renewed their lease for an additional two years. However, four tenants leasing 44,604 square feet vacated their space during 1997. As a result, the property was 91% leased at December 31, 1997 compared with 84% at December 31, 1996. Five leases representing 27,552 square feet or approximately 33% of the property's leasable area are scheduled to expire in 1998. Dallas Market Update The Dallas commercial real estate market remained strong in 1997, as the healthy business climate and low tax rates continued to attract businesses to the area. The Far North Dallas submarket, where Quorum II is located, exemplifies these favorable conditions, as reflected in its 9.4% vacancy rate at year-end 1997 and a significant increase in average rental rates. As a result of these strong conditions, construction is moderate with approximately 2.5 million square feet under construction. Financial Highlights For The Years Ended December 31, (dollars in thousands except per Unit data) 1997 1996 1995 1994 1993 Total income $ 5,109 $ 5,279 $ 5,158 $ 4,691 $ 4,211 Net income (loss) 43 568 (3,631) (332) (910) Total assets 24,464 25,364 27,842 32,837 33,454 Net cash from operations 2,194 2,560 2,168 1,859 1,536 Net income (loss) per Unit (.23) 4.09 (32.87) (3.00) (8.24) Cash distributions per 1 Limited Partnership Unit 12.00 25.30 13.25 5.50 4.00 1 Includes a special cash distribution of $13.30 per Unit paid on March 29, 1996. The above selected financial data should be read in conjunction with the consolidated financial statements and related notes included in this report. The decrease in total income reflects lower rental income due to lower average occupancy at Quorum II Office Building. Additionally, rental income was higher in 1996 due to the collection of lease cancellation fees at Three Financial Centre. The decrease in net income and net cash from operations is primarily attributable to lower overall occupancy and higher property operating and general and administrative expenses. Consolidated Balance Sheets At December 31, 1997 At December 31, 1996 Assets Property: Land $5,808,694 $5,808,694 Buildings, building improvements and equipment 31,133,800 30,831,532 36,942,494 36,640,226 Less accumulated depreciation (14,910,677) (13,546,913) 22,031,817 23,093,313 Cash and cash equivalents 1,273,014 1,228,502 Restricted cash 222,883 232,330 Accounts and rent receivable, net of allowance for doubtful accounts of $5,444 in 1997 and 1996 80,601 40,090 Deferred rent receivable 152,030 205,718 Prepaid leasing costs and other assets, net of accumulated amortization of $664,496 in 1997 and $805,502 in 1996 704,043 563,611 Total Assets $24,464,388 $25,363,564 Liabilities and Partners' Capital (Deficit) Liabilities: Accounts payable and accrued expenses $437,027 $249,517 Due to affiliates 55,270 5,941 Distributions payable 338,282 338,282 Prepaid rent 58,937 _ Security deposits payable 222,883 215,026 Total Liabilities 1,112,399 808,766 Minority Interest 370,936 263,477 Partners' Capital (Deficit): General Partners (340,932) (368,069) Limited Partners (109,378 units outstanding) 23,321,985 24,659,390 Total Partners' Capital 22,981,053 24,291,321 Total Liabilities and Partners' Capital $24,464,388 $25,363,564 Consolidated Statements of Partners' Capital (Deficit) For the years ended December 31, 1997, 1996 and 1995 General Limited Partners Partners Total Balance at December 31, 1994 $(321,732) $32,023,787 $31,702,055 Net Loss (36,312) (3,594,850) (3,631,162) Distributions (44,822) (1,449,259) (1,494,081) Balance at December 31, 1995 (402,866) 26,979,678 26,576,812 Net Income 120,389 447,248 567,637 Distributions (85,592) (2,767,536) (2,853,128) Balance at December 31, 1996 (368,069) 24,659,390 24,291,321 Net Income (Loss) 67,729 (24,869) 42,860 Distributions (40,592) (1,312,536) (1,353,128) Balance at December 31, 1997 $(340,932) $23,321,985 $22,981,053 Consolidated Statements of Operations For the years ended December 31, 1997 1996 1995 Income Rental $5,031,723 $5,209,134 $ 5,047,528 Interest 77,701 69,645 110,529 Total Income 5,109,424 5,278,779 5,158,057 Expenses Property operating 2,392,473 2,291,679 2,283,025 Loss on write-down of real estate _ _ 3,928,998 Depreciation and amortization 2,089,050 2,074,246 2,278,567 General and administrative 477,582 269,716 248,607 Bad debt _ 33,361 _ Total Expenses 4,959,105 4,669,002 8,739,197 Net income (loss) before minority interest 150,319 609,777 (3,581,140) Minority interest (107,459) (42,140) (50,022) Net Income (Loss) $ 42,860 $567,637 $(3,631,162) Net Income (Loss) Allocated: To the General Partners $ 67,729 $ 120,389 $ (36,312) To the Limited Partners (24,869) 447,248 (3,594,850) $ 42,860 $ 567,637 $(3,631,162) Per limited partnership unit (109,378 outstanding) $ (.23) $ 4.09 $ (32.87) Consolidated Statements of Cash Flows For the years ended December 31, 1997 1996 1995 Cash Flows From Operating Activities Net Income (Loss) $ 42,860 $567,637 $(3,631,162) Adjustments to reconcile net income (loss) to net cash provided by operating activities: Minority interest 107,459 42,140 50,022 Loss on write-down of real estate _ _ 3,928,998 Depreciation 1,858,297 1,834,784 2,062,083 Amortization 230,753 239,462 216,484 Increase (decrease) in cash arising from changes in operating assets and liabilities: Restricted cash 9,447 5,236 (21,487) Accounts and rent receivable, net (40,511) 24,526 (36,290) Deferred rent receivable 53,688 24,908 4,620 Prepaid leasing costs and other assets (371,185) (169,597) (203,967) Accounts payable and accrued expenses 187,510 (7,668) (210,984) Due to affiliates 49,329 (2,538) (696) Prepaid rent 58,937 _ _ Security deposits payable 7,857 638 9,923 Net cash provided by operating activities 2,194,441 2,559,528 2,167,544 Cash Flows From Investing Activities Additions to real estate (796,801) (386,746) (458,496) Net cash used for investing activities (796,801) (386,746) (458,496) Cash Flows From Financing Activities Cash distributions (1,353,128) (3,078,650) (1,212,179) Net cash used for financing activities (1,353,128) (3,078,650) (1,212,179) Net increase (decrease) in cash and cash equivalents 44,512 (905,868) 496,869 Cash and cash equivalents, beginning of period 1,228,502 2,134,370 1,637,501 Cash and cash equivalents, end of period $1,273,014 $1,228,502 $2,134,370 Notes to the Consolidated Financial Statements December 31, 1997, 1996 and 1995 1. Organization Commercial Properties 3, L.P. (the "Partnership") was organized as a limited partnership under the laws of the Commonwealth of Virginia pursuant to a Certificate and Agreement of Limited Partnership dated and filed April 19, 1984 (the "Partnership Agreement"). The Partnership was formed for the purpose of acquiring and operating certain types of commercial real estate. The General Partners of the Partnership are Real Estate Services VII, Inc. ("Real Estate Services"), formerly Hutton Real Estate Services VII, Inc. , which is an affiliate of Lehman Brothers Inc. ("Lehman Brothers") and HS Advisors III, Ltd. ("HS Advisors"), which is an affiliate of Goodman Segar Hogan, Inc. The Partnership will continue until December 31, 2010, unless terminated sooner in accordance with the terms of the Partnership Agreement. On July 31, 1993, Shearson Lehman Brothers Inc. sold certain of its domestic retail brokerage and asset management businesses to Smith Barney, Harris Upham & Co. incorporated ("Smith Barney"). Subsequent to the sale, Shearson Lehman Brothers Inc. changed its name to Lehman Brothers Inc. The transaction did not affect the ownership of the General Partners. However, the assets acquired by Smith Barney included the name "Hutton." Consequently, effective October 22, 1993, the Hutton Real Estate Services VII, Inc. General Partner changed its name to delete any reference to Hutton. Additionally, effective August 3, 1995, the Partnership changed its name to Commercial Properties 3, L.P., to delete any reference to "Hutton." 2. Significant Accounting Policies Basis of Accounting - The accompanying financial statements have been prepared on the accrual basis of accounting in accordance with generally accepted accounting principles. Revenues are recognized as earned and expenses are recorded as obligations are incurred. Consolidation - The consolidated financial statements include the accounts of the Partnership and its ventures, Metro Park Associates Joint Venture ("Metro Park"), Three Financial Centre Joint Venture ("Three Financial Centre"), and 14850 Quorum Associates, Ltd. ("Quorum"). Intercompany accounts and transactions between the Partnership and the ventures are eliminated in consolidation. Real Estate Investments - Real estate investments, which consist of commercial buildings and capital improvements (the "Properties"), are recorded at cost, which includes the initial purchase price of the property plus closing costs, acquisition and legal fees and other miscellaneous acquisition costs. Depreciation is computed using the straight-line method based upon the estimated useful lives of 3 to 25 years except for tenant improvements which are depreciated over the terms of the respective leases. Accounting for Impairment - In March 1995, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" ("FAS 121") which requires impairment losses to be recorded on long-lived assets used in operations when indicators of impairment are present and the undiscounted cash flows estimated to be generated by those assets are less than the assets' carrying amount. FAS 121 also addresses the accounting for long- lived assets that are expected to be disposed of. Pursuant to this issuance, the Partnership implemented FAS 121 in the fourth quarter of 1995. The effect of the adoption was the recognition of an impairment loss on the Partnership's investments in real estate in 1995 in the amount of $3,928,998 (see note 4). Cash Equivalents - Cash equivalents consist of short-term highly liquid investments which have maturities of three months or less from the date of purchase. The carrying amount approximates fair value because of the short maturity of these instruments. Restricted Cash - Restricted cash consists of amounts held for tenant security deposits. Concentration of Credit Risk - Financial instruments which potentially subject the Partnership to a concentration of credit risk principally consist of cash in excess of the financial institution's insurance limits. The Partnership invests available cash with high credit quality financial institutions. Deferred Rent Receivable - Deferred rent receivable consists of rental income which is recognized on a straight-line basis over the terms of the respective leases even though rent is not received until later periods as a result of rental escalation's. Prepaid Leasing Costs - Leases are accounted for as operating leases. Leasing commissions are amortized over the terms of the respective leases. Income Taxes - No provision for income taxes has been made in the financial statements of the Partnership since such taxes are the responsibility of the individual partners rather than of the Partnership. Fair Value of Financial Instruments - Statement of Financial Accounting Standards No. 107, "Disclosures about Fair Value of Financial Instruments" ("FAS 107"), requires that the Partnership disclose the estimated fair values of its financial instruments. Fair values generally represent estimates of amounts at which a financial instrument could be exchanged between willing parties in a current transaction other than in forced liquidation. Fair value estimates are subjective and are dependent on a number of significant assumptions based on management's judgment regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. In addition, FAS 107 allows a wide range of valuation techniques, therefore, comparisons between entities, however similar, may be difficult. Use of Estimates - The preparation of financial statements in conformity with generally accepted accounting principles 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 financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Reclassifications - Certain prior year amounts have been reclassified in order to conform to the current year's presentation. 3. Partnership Agreement The Partnership agreement provides that net cash from operations, as defined, will be distributed on a quarterly basis as follows: 97% to the Limited Partners and 3% to the General Partners until each Limited Partner has received a 9% annual noncumulative return on his adjusted capital investment, as defined. The net cash from operations will then be distributed to the General Partners until the General Partners have received 10% of the aggregate net cash from operations distributed to all partners. The balance of net cash from operations, if any, will then be distributed 90% to the Limited Partners and 10% to the General Partners. Net proceeds from sales or refinancings shall be distributed as follows: 99% to the Limited Partners and 1% to the General Partners until each Limited Partner has received an amount equal to his adjusted capital investment, as defined, and a 10% cumulative annual return thereon, reduced by any net cash from operations actually distributed to such Limited Partner. The balance of net proceeds, if any, will then be distributed 85% to the Limited Partners and 15% to the General Partners. Losses and all depreciation for any fiscal year shall be allocated 99% to the Limited Partners and 1% to the General Partners. If income exceeds the amount of net cash from operations distributable to the Partners for any fiscal year, the excess will be allocated (1) 100% to the General Partners in an amount equal to the excess, if any, of General Partners' deficit in their capital accounts, over an amount equal to 1% of the total capital contributions to the Partnership as reduced by the amount of the General Partners' capital contributions and (2) 99% to the Limited Partners and 1% to the General Partners. If income does not exceed the amount of net cash from operations distributable to the Partners for any fiscal year, income will be allocated 90% to the Limited Partners and 10% to the General Partners. Upon the dissolution of the Partnership, the General Partners shall contribute to the capital of the Partnership, an amount not to exceed 1% of the total capital contributions made by all the Partners, less any prior capital contributions made by the General Partners. In no event shall the General Partners be obligated to contribute an amount in excess of any negative balance in their respective capital accounts. If as a result of the dissolution of the Partnership, the sum of the Limited Partners' capital contribution plus an amount equal to a 6% cumulative annual return on each Limited Partner's adjusted capital value less any distributions made to each Limited Partner from net cash flow from operations, exceeds total distributions to the Limited Partners of net proceeds from a sale or refinancing, the General Partners will contribute to the Partnership for distribution to the Limited Partners an amount equal to the lesser of such excess or the aggregate distribution of net proceeds from a sale or refinancing distributed to the General Partners. 4. Real Estate Investments Since inception, the Partnership has acquired, directly or indirectly, the following three commercial office buildings and an office and light industrial complex. The purchase price amounts exclude acquisition fees and other closing costs. Net Leasable Square Date Type of Purchase Property Name Feet Location Acquired Ownership Price Metro Park Fort Myers, Joint Executive Center 60,597 Florida 1/17/85 Venture $5,136,504 Three Financial Little Rock, Joint Centre 123,833 Arkansas 1/22/85 Venture $10,452,005 Fort Lauderdale Fort Lauderdale, Fee Commerce Center 186,884 Florida 4/18/85 Simple $12,843,569 Quorum II Dallas, Office Building 84,094 Texas 6/12/85 (A) $12,995,384 (A) The Partnership is the General Partner in a Limited Partnership. The Joint Venture and Limited Partnership agreements substantially provide that: i. Net cash from operations will be distributed 100% to the Partnership until it has received an annual, noncumulative return on its adjusted capital balance, as defined, of 10.5% for Three Financial Centre, 12% for Metro Park, and 10% for Quorum. With regard to Three Financial Centre, net cash from operations will then be distributed 100% to the co-venturer until it has received an annual amount of $115,000. Thereafter, any remaining net cash from operations will be distributed 80% to the Partnership and 20% to the respective co- venturers. ii. Net proceeds from a refinancing or other interim capital transaction of the properties will be distributed 100% to the Partnership until it has received 115% of its capital contribution and a cumulative return of 10.5% for Three Financial Centre, 12% for Metro Park, and 10% for Quorum on its adjusted capital investment, as defined. With regard to Three Financial Centre, net proceeds will then be distributed 100% to the co- venturer until it has received $1,100,000. Thereafter, any remaining net proceeds will be distributed in amounts ranging from 75% to 80% to the Partnership and the balance to the respective co- venturers. iii. Net proceeds from a sale of the properties will generally be distributed to the venturers, pro rata in accordance with each venturer's capital account balance. iv. Income will be allocated in substantially the same manner as net cash from operations. For Three Financial Centre and Metro Park, net income in excess of net cash from operations distributed in such year shall be allocated 80% to the Partnership and 20% to the co-venturers. Losses and all depreciation will generally be allocated 100% to the Partnership. During the fourth quarter of 1995, management evaluated its plans for the Quorum II Office Building ("Quorum II"). At such time, management concluded that it may not hold Quorum II for a period sufficient for rental rates to improve and the Partnership to recover its December 31, 1995 carrying value. As a consequence of this decision, and pursuant to the requirements of FAS 121, the Partnership recognized an impairment loss of $3,928,998 to write down Quorum II to it estimated fair value of $4.6 million as of December 31, 1995. The loss is reflected as a loss on the write-down of real estate in the accompanying consolidated statement of operations. Fair value was determined using an independent appraisal of the operating property, which is consistent with that used to determine the Partnership's Net Asset Value. Such appraisals make use of a combination of certain generally accepted valuation techniques, including direct capitalization, discounted cash flows and comparative sales analysis. 5. Rental Income Under Operating Leases Future minimum rental income to be received on noncancellable operating leases as of December 31, 1997 is as follows: 1998 $3,761,848 1999 2,833,601 2000 2,107,372 2001 1,278,908 2002 868,526 Thereafter 766,762 $11,617,017 Generally, leases are for terms of 2 to 10 years and contain renewal options. The leases allow for increases in certain property operating costs to be passed on to the tenants. 6. Transactions with General Partners and Affiliates The following is a summary of amounts earned by, or reimbursed to, the General Partners and their affiliates for property management fees and out-of-pocket expenses during the years ended December 31, 1997, 1996 and 1995: Unpaid at December 31, Earned 1997 1997 1996 1995 Real Estate Services and affiliates Out-of-pocket expenses $ _ $ _ $12,895 $ _ Salary reimbursement 52,480 111,862 _ _ HS Advisors and affiliates Out of pocket expenses _ 3,196 6,039 _ Property management fees (GSH) 2,790 37,995 32,219 31,815 $ 55,270 $153,053 $51,153 $31,815 Effective as of January 1, 1997, the Partnership began reimbursing certain expenses incurred by Real Estate Services VII, Inc. and its affiliates in servicing the Partnership to the extent permitted by the partnership agreement. In prior years, affiliates of the Real Estate Services VII, Inc. general partner had voluntarily absorbed these expenses. 7. Reconciliation of Financial Statement Net Loss to Federal Income Tax Basis Net Income (Loss): Years Ended December 31, 1997 1996 1995 Financial statement net income (loss) $ 42,860 $ 567,637 $(3,631,162) Tax basis depreciation over financial statement depreciation (203,613) (224,715) (8,921) Write-down of real estate _ _ 3,928,998 Deferred rent 53,688 212 23,757 Minority interest adjustment 107,459 (12,041) 3,343 Prepaid rent _ _ (47,283) Bad debt expense _ (42) _ Federal income tax basis net income (loss) $ 394 $ 331,051 $ 268,732 Report of Independent Auditors The Partners Commercial Properties 3, L.P. and Consolidated Ventures We have audited the accompanying consolidated balance sheets of Commercial Properties 3, L.P. and Consolidated Ventures as of December 31, 1997 and 1996, and the related consolidated statements of operations, partners' capital (deficit) and cash flows for each of the three years in the period ended December 31, 1997. These financial statements are the responsibility of the Partnership's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above represent fairly, in all material respects, the consolidated financial position of Commercial Properties 3, L.P. and Consolidated Ventures at December 31, 1997 and 1996, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1997, in conformity with generally accepting accounting principles. As discussed in Note 2 to the financial statements, in 1995 the Partnership changed its method of accounting for impairment of long-lived assets. ERNST & YOUNG LLP Boston, Massachusetts February 3, 1998 Net Asset Valuation Comparison of Acquisition Costs to Appraised Value and Determination of Net Asset Value Per $484 Unit at December 31, 1997 (Unaudited) Date of Acquisition 1997 Appraised Property Acquisition Cost (1) Value (2) Metro Park Executive Center 01-17-85 $5,543,159 $3,400,000 Three Financial Centre 01-22-85 11,378,512 11,600,000 Fort Lauderdale Commerce Center 04-18-85 14,125,050 11,550,000 Quorum II Office Building 06-12-85 13,939,093 7,250,000 $44,985,814 $33,800,000 Cash and cash equivalents 1,273,014 Accounts and rent receivable 80,601 35,153,615 Less: Accounts payable and accrued expenses (437,027) Due to affiliates (55,270) Prepaid rent (58,937) Minority Interest (370,936) Partnership Net Asset Value (3) $34,231,445 Net Asset Value Allocated: Limited Partners $33,889,131 General Partners 342,314 $34,231,445 Net Asset Value Per Unit (109,378 units outstanding) $ 309.83 (1) The acquisition cost of each property is comprised of fundings made through December 31, 1997, the acquisition fee paid to the General Partners and an amount estimated to fund the completion of tenant improvements. (2) This represents the Partnership's share of the December 31, 1997 Appraised Values which were determined by an independent property appraisal firm. The Partnership's share of the December 31, 1997 Appraised Values takes into account the allocation provisions of the Joint Venture and Limited Partnership Agreements governing the distribution of sales proceeds for each of the above properties. (3) The Net Asset Value assumes a hypothetical sale at December 31, 1997 of all Partnership properties at their appraised values and the distribution of the proceeds of such sales, together with the Partnership's cash and the proceeds from temporary investments, to the Partners. Real estate brokerage commissions payable to the General Partners or others are not determinable at this time and have not been included in the determination. Since the Partnership would incur real estate brokerage commissions and other selling expenses in connection with the sale of its properties and other assets, cash available for distribution to the Partners would be less than the appraised Net Asset Value. Limited Partners should note that appraisals are only estimates of current value and actual values realizable upon sale may be significantly different. A significant factor in establishing an appraised value is the actual selling price for properties which the appraiser believes are comparable. Further, the appraised value does not reflect the actual costs which would be incurred in selling the property. As a result of these factors and the illiquid nature of an investment in Units of the Partnership, the variation between the appraised value of the Partnership's properties and the price at which Units of the Partnership could be sold is likely to be significant. Fiduciaries of Limited Partners which are subject to ERISA or other provisions of law requiring valuation of Units should consider all relevant factors, including, but not limited to Net Asset Value per Unit, in determining the fair market value of the investment in the Partnership for such purposes. Schedule III - Real Estate and Accumulated Depreciation December 31, 1997 Fort Lauderdale Three Consolidated Ventures: Commerce Center Financial Centre Location Ft. Lauderdale, FL Little Rock, AR Construction date 1985 1984 Aquisition date 04-18-85 01-22-85 Life on which depreciation is computed 1-25 yrs 1-25 yrs Encumbrances _ _ Initial cost to Partnership: Land $ 2,741,551 $ 1,018,332 Buildings and improvements 12,613,916 10,419,160 Cost capitalized subsequent to aquisition Land, buildings and improvements (289,578) (262,490) Gross amount at which carried at close of period(1): Land $ 2,741,551 $ 1,018,332 Buildings and improvements 12,226,730 10,174,626 14,968,281 11,192,958 Accumulated depreciation (2) $ 6,263,209 $ 5,431,736 (1) For Federal income tax purposes, the basis of land, building and improvements is $49,181,397. (2) For Federal income tax purposes, the amount of accumulated depreciation is $28,456,087. Consolidated Ventures: Metro Park Quorum II Total Executive Center Office Building Location Fort Myers, FL Dallas, TX na Construction date 1984 1985 na Aquisition date 01-07-85 06-12-85 na Life on which depreciation is computed 1-25 yrs 1-25 yrs na Encumbrances _ _ _ Initial cost to Partnership: Land $ 548,643 $1,500,168 $ 5,808,694 Buildings and improvements 5,315,077 3,098,584 31,446,737 Cost capitalized subsequent to aquisition Land, buildings and improvements (197,249) 134,112 (615,205) Gross amount at which carried at close of period(1): Land $ 548,643 $1,500,168 $ 5,808,694 Buildings and improvements 5,131,910 3,600,534 31,133,800 5,680,553 5,100,702 36,942,494 Accumulated depreciation (2) $ 2,591,642 624,090 $14,910,677 (1) For Federal income tax purposes, the basis of land, building and improvements is $49,181,397. (2) For Federal income tax purposes, the amount of accumulated depreciation is $28,456,087. A reconciliation of the carrying amount of real estate and accumulated depreciation for the years ended December 31, 1997, 1996, and 1995 follows: 1997 1996 1995 Real estate investments: Beginning of year $36,640,226 $37,255,431 $46,187,232 Additions 796,801 386,746 458,496 Write-down _ _ (8,936,000) Deletions (494,533) (1,001,951) (454,297) End of year $36,942,494 $36,640,226 $37,255,431 Accumulated depreciation: Beginning of year $13,546,913 $12,714,080 $16,113,296 Depreciation expense 1,858,297 1,834,784 2,062,083 Deletions (494,533) (1,001,951) (454,297) Write-down _ _ (5,007,002) End of year $14,910,677 $13,546,913 $12,714,080 EX-23 3 CONSENT OF INDEPENDENT AUDITORS EXHIBIT 23 Consent of Independent Auditors We consent to the incorporation by reference in this Annual Report (Form 10-K) of Commercial Properties 3, L.P. of our report dated February 3, 1998, included in the 1997 Annual Report to Shareholders of Commercial Properties 3, L.P. and Consolidated Ventures. Our audit also included the financial statement schedule of Commercial Properties 3, L.P. and Consolidated Ventures listed in Item 14(a). This schedule is the responsibility of the Partnership's management. Our responsibility is to express an opinion based on our audits. In our opinion, the financial statement schedule referred to above, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein. ERNST & YOUNG LLP Boston, Massachusetts February 3, 1998 EX-27 4 FINANCIAL DATA SCHEDULE FOR 1997 FORM 10-K COMMERCIAL PROPERTIES 3, L.P.
5 12-mos Dec-31-1997 Dec-31-1997 1,273,014 000 80,601 5,444 000 1,576,498 36,942,494 14,910,677 24,464,388 1,112,399 000 000 000 000 22,981,053 24,464,388 000 5,109,424 000 000 4,959,105 000 000 42,860 000 42,860 000 000 000 42,860 .23 .23
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