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Whitestone REIT - Quarter Report: 2020 March (Form 10-Q)


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

FORM 10-Q
 
(Mark One)
[x]
QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2020

OR

[ ]
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from ____________ to ____________

Commission File Number 001-34855
WHITESTONE REIT
(Exact Name of Registrant as Specified in Its Charter)
 
Maryland
 
76-0594970
(State or Other Jurisdiction of
Incorporation or Organization)
 
(I.R.S. Employer
Identification No.)

2600 South Gessner, Suite 500
Houston, Texas
 
77063
(Address of Principal Executive Offices)
 
(Zip Code)

(713) 827-9595
(Registrant’s Telephone Number, Including Area Code)
 
N/A
(Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)

Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
Common Shares of Beneficial Interest, par value $0.001 per share
WSR
New York Stock Exchange

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

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).  ýYes    ¨No

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

Emerging growth company ¨

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

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

As of May 8, 2020, there were 42,135,972 common shares of beneficial interest, $0.001 par value per share, outstanding.






PART I - FINANCIAL INFORMATION


PART II - OTHER INFORMATION




PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
Whitestone REIT and Subsidiaries
CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share data)

 
 
March 31, 2020
 
December 31, 2019
 
 
(unaudited)
 
 
ASSETS
Real estate assets, at cost
 
 
 
 
Property
 
$
1,101,118

 
$
1,099,955

Accumulated depreciation
 
(144,316
)
 
(137,933
)
Total real estate assets
 
956,802

 
962,022

Investment in real estate partnership
 
34,289

 
34,097

Cash and cash equivalents
 
36,774

 
15,530

Restricted cash
 
105

 
113

Escrows and acquisition deposits
 
6,320

 
8,388

Accrued rents and accounts receivable, net of allowance for doubtful accounts
 
22,896

 
22,854

Receivable due from related party
 
896

 
477

Unamortized lease commissions, legal fees and loan costs
 
8,775

 
8,960

Prepaid expenses and other assets(1)
 
4,469

 
3,819

Total assets
 
$
1,071,326

 
$
1,056,260

 
 
 
 
 
LIABILITIES AND EQUITY
Liabilities:
 
 
 
 
Notes payable
 
$
675,409

 
$
644,699

Accounts payable and accrued expenses(2)
 
43,073

 
39,336

Payable due to related party
 
451

 
307

Tenants' security deposits
 
6,756

 
6,617

Dividends and distributions payable
 
4,519

 
12,203

Total liabilities
 
730,208

 
703,162

Commitments and contingencies:
 
—

 
—

Equity:
 
 
 
 
Preferred shares, $0.001 par value per share; 50,000,000 shares authorized; none issued and outstanding as of March 31, 2020 and December 31, 2019
 
—

 
—

Common shares, $0.001 par value per share; 400,000,000 shares authorized; 42,135,048 and 41,492,117 issued and outstanding as of March 31, 2020 and December 31, 2019, respectively
 
41

 
41

Additional paid-in capital
 
556,729

 
554,816

Accumulated deficit
 
(206,886
)
 
(204,049
)
Accumulated other comprehensive loss
 
(16,212
)
 
(5,491
)
Total Whitestone REIT shareholders' equity
 
333,672

 
345,317

Noncontrolling interest in subsidiary
 
7,446

 
7,781

Total equity
 
341,118

 
353,098

Total liabilities and equity
 
$
1,071,326

 
$
1,056,260


See accompanying notes to Consolidated Financial Statements.

1

Whitestone REIT and Subsidiaries
CONSOLIDATED BALANCE SHEETS
(in thousands)


 
 
March 31, 2020
 
December 31, 2019
 
 
(unaudited)
 
 
(1) Operating lease right of use assets (net) (related to adoption of Topic 842)
 
$
1,105

 
$
1,328


(2) Operating lease liabilities (related to adoption of Topic 842)
 
$
1,108

 
$
1,331




See accompanying notes to Consolidated Financial Statements.



2

Whitestone REIT and Subsidiaries
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
(Unaudited)
(in thousands)
 
 
 
 
 
Three Months Ended March 31,
 
 
2020
 
2019
Revenues
 
 
 
 
Rental(1)
 
$
30,196

 
$
29,033

Management, transaction, and other fees
 
388

 
661

Total revenues
 
30,584

 
29,694

 
 
 
 
 
Operating expenses
 
 
 
 
Depreciation and amortization
 
6,971

 
6,464

Operating and maintenance
 
5,597

 
4,428

Real estate taxes
 
4,536

 
4,045

General and administrative
 
5,100

 
6,002

Total operating expenses
 
22,204

 
20,939

 
 
 
 
 
Other expenses (income)
 
 
 
 
Interest expense
 
6,693

 
6,533

Gain on sale of properties
 
(46
)
 
—

Loss on sale or disposal of assets
 
253

 
2

Interest, dividend and other investment income
 
(62
)
 
(245
)
Total other expense
 
6,838

 
6,290

 
 
 
 
 
Income before equity investments in real estate partnerships and income tax
 
1,542

 
2,465

 
 
 
 
 
Equity in earnings of real estate partnership
 
192

 
492

Provision for income tax
 
(87
)
 
(118
)
 
 
 
 
 
Net income
 
1,647

 
2,839

 
 
 
 
 
Less: Net income attributable to noncontrolling interests
 
35

 
65

 
 
 
 
 
Net income attributable to Whitestone REIT
 
$
1,612

 
$
2,774







See accompanying notes to Consolidated Financial Statements.

3

Whitestone REIT and Subsidiaries
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
(Unaudited)
(in thousands, except per share data)

 
 
 
 
 
 
 
 
Three Months Ended March 31,
 
 
2020
 
2019
Basic Earnings Per Share:
 
 
 
 
Net income attributable to common shareholders, excluding amounts attributable to unvested restricted shares
 
$
0.04

 
$
0.07

Diluted Earnings Per Share:
 
 
 
 
Net income attributable to common shareholders, excluding amounts attributable to unvested restricted shares
 
$
0.04

 
$
0.07

 
 
 
 
 
Weighted average number of common shares outstanding:
 
 
 
 
Basic
 
42,048

 
39,649

Diluted
 
43,009

 
40,626

 
 
 
 
 
Consolidated Statements of Comprehensive Loss
 
 
 
 
 
 
 
 
 
Net income
 
$
1,647

 
$
2,839

 
 
 
 
 
Other comprehensive loss
 
 
 
 
 
 
 
 
 
Unrealized loss on cash flow hedging activities
 
(10,952
)
 
(3,470
)
 
 
 
 
 
Comprehensive loss
 
(9,305
)
 
(631
)
 
 
 
 
 
Less: Net income attributable to noncontrolling interests
 
35

 
65

Less: Comprehensive loss attributable to noncontrolling interests
 
(231
)
 
(80
)
 
 
 
 
 
Comprehensive loss attributable to Whitestone REIT
 
$
(9,109
)
 
$
(616
)




See accompanying notes to Consolidated Financial Statements.

4

Whitestone REIT and Subsidiaries
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
(Unaudited)
(in thousands)



 
 
Three Months Ended March 31,
 
 
2020
 
2019
    (1) Rental
 
 
 
 
Rental revenues
 
$
22,077

 
$
21,751

Recoveries
 
8,963

 
7,554

Bad debt
 
(844
)
 
(272
)
Total rental
 
$
30,196

 
$
29,033



See accompanying notes to Consolidated Financial Statements.





5

Whitestone REIT and Subsidiaries
CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY
(Unaudited)
(in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Accumulated
 
 
 
 
 
 
 
 
 
 
Additional
 
 
 
Other
 
Total
 
Noncontrolling
 
 
 
 
Common Shares
 
Paid-In
 
Accumulated
 
Comprehensive
 
Shareholders’
 
Interests
 
Total
 
 
Shares
 
Amount
 
Capital
 
Deficit
 
Gain (Loss)
 
Equity
 
Units
 
Dollars
 
Equity
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balance, December 31, 2019
 
41,492

 
$
41

41

$
554,816

 
$
(204,049
)
 
$
(5,491
)
 
$
345,317

 
909

 
$
7,781

 
$
353,098

Exchange of noncontrolling interest OP units for common shares
 
5

 
—

 
44

 
—

 
—

 
44

 
(5
)
 
(44
)
 
—

Issuance of common shares - ATM Program, net of offering costs
 
171

 
—

 
2,241

 
—

 
—

 
2,241

 
—

 
—

 
2,241

Exchange offer costs
 
—

 
—

 
(32
)
 
—

 
—

 
(32
)
 
—

 
—

 
(32
)
Issuance of shares under dividend reinvestment plan
 
4

 
—

 
42

 
—

 
—

 
42

 
—

 
—

 
42

Repurchase of common shares (1)
 
(153
)
 
—

 
(1,630
)
 
—

 
—

 
(1,630
)
 
—

 
—

 
(1,630
)
Share-based compensation
 
616

 
—

 
1,248

 
—

 
—

 
1,248

 
—

 
—

 
1,248

Distributions - $0.285 per common share / OP unit
 
—

 
—

 
—

 
(4,449
)
 
—

 
(4,449
)
 
—

 
(95
)
 
(4,544
)
Unrealized loss on change in value of cash flow hedge
 
—

 
—

 
—

 
—

 
(10,721
)
 
(10,721
)
 
—

 
(231
)
 
(10,952
)
Net income
 
—

 
—

 
—

 
1,612

 
—

 
1,612

 
—

 
35

 
1,647

Balance, March 31, 2020
 
42,135

 
$
41

 
$
556,729

 
$
(206,886
)
 
$
(16,212
)
 
$
333,672

 
904

 
$
7,446

 
$
341,118






See accompanying notes to Consolidated Financial Statements.
Whitestone REIT and Subsidiaries
CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY
(Unaudited)
(in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Accumulated
 
 
 
 
 
 
 
 
 
 
Additional
 
 
 
Other
 
Total
 
Noncontrolling
 
 
 
 
Common Shares
 
Paid-In
 
Accumulated
 
Comprehensive
 
Shareholders’
 
Interests
 
Total
 
 
Shares
 
Amount
 
Capital
 
Deficit
 
Gain (Loss)
 
Equity
 
Units
 
Dollars
 
Equity
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balance, December 31, 2018
 
39,778

 
$
39

 
$
527,662

 
$
(181,361
)
 
$
4,116

 
$
350,456

 
929

 
$
8,694

 
$
359,150

Exchange of noncontrolling interest OP units for common shares
 
1

 
—

 
5

 
—

 
—

 
5

 
(1
)
 
(5
)
 
—

Exchange offer costs
 
—

 
—

 
(6
)
 
—

 
—

 
(6
)
 
—

 
—

 
(6
)
Issuance of shares under dividend reinvestment plan
 
3

 
—

 
34

 
—

 
—

 
34

 
—

 
—

 
34

Repurchase of common shares (1)
 
(64
)
 
—

 
(762
)
 
—

 
—

 
(762
)
 
—

 
—

 
(762
)
Share-based compensation
 
111

 
1

 
1,882

 
—

 
—

 
1,883

 
—

 
—

 
1,883

Distributions - $0.285 per common share / OP unit
 
—

 
—

 
—

 
(11,351
)
 
—

 
(11,351
)
 
—

 
(264
)
 
(11,615
)
Unrealized loss on change in value of cash flow hedge
 
—

 
—

 
—

 
—

 
(3,390
)
 
(3,390
)
 
—

 
(80
)
 
(3,470
)
Net income
 
—

 
—

 
—

 
2,774

 
—

 
2,774

 
—

 
65

 
2,839

Balance, March 31, 2019
 
39,829

 
$
40

 
$
528,815

 
$
(189,938
)
 
$
726

 
$
339,643

 
928

 
$
8,410

 
$
348,053



(1) 
The Company acquired common shares held by employees who tendered owned common shares to satisfy the tax withholding on the lapse of certain restrictions on restricted common shares.



See accompanying notes to Consolidated Financial Statements.


6


Whitestone REIT and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(in thousands)
 
 
Three Months Ended
 
 
March 31,
 
 
2020
 
2019
Cash flows from operating activities:
 
 
 
 
  Net income
 
$
1,647

 
$
2,839

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
 
Depreciation and amortization
 
6,971

 
6,464

Amortization of deferred loan costs
 
282

 
237

Loss on sale or disposal of assets and properties
 
207

 
2

Bad debt
 
844

 
272

Share-based compensation
 
1,248

 
1,883

Equity in earnings of real estate partnership
 
(192
)
 
(492
)
Changes in operating assets and liabilities:
 
 
 
 
Escrows and acquisition deposits
 
2,068

 
1,825

Accrued rents and accounts receivable
 
(886
)
 
(1,376
)
Receivable due from related party
 
(419
)
 
(571
)
Distributions from real estate partnership
 
—

 
301

Unamortized lease commissions, legal fees and loan costs
 
(423
)
 
775

Prepaid expenses and other assets
 
(10,154
)
 
(2,245
)
Accounts payable and accrued expenses
 
3,737

 
(4,078
)
Payable due to related party
 
144

 
146

Tenants' security deposits
 
139

 
83

Net cash provided by operating activities
 
5,213

 
6,065

Cash flows from investing activities:
 
 
 
 
Additions to real estate
 
(1,593
)
 
(2,455
)
Net cash used in investing activities
 
(1,593
)
 
(2,455
)
Cash flows from financing activities:
 
 
 
 
Distributions paid to common shareholders
 
(11,928
)
 
(11,301
)
Distributions paid to OP unit holders
 
(258
)
 
(264
)
Proceeds from issuance of common shares, net of offering costs
 
2,241

 
—

Payments of exchange offer costs
 
(32
)
 
(6
)
Proceeds from bonds payable
 
—

 
100,000

Net proceeds from (payments of) credit facility
 
30,000

 
(90,200
)
Repayments of notes payable
 
(777
)
 
(6,202
)
Payments of loan origination costs
 
—

 
(3,981
)
Repurchase of common shares
 
(1,630
)
 
(762
)
Net cash provided by (used in) financing activities
 
17,616

 
(12,716
)
Net increase (decrease) in cash, cash equivalents and restricted cash
 
21,236

 
(9,106
)
Cash, cash equivalents and restricted cash at beginning of period
 
15,643

 
13,786

Cash, cash equivalents and restricted cash at end of period (1)
 
$
36,879

 
$
4,680

(1)  
For a reconciliation of cash, cash equivalents and restricted cash, see supplemental disclosures below.

See accompanying notes to Consolidated Financial Statements.

7

Whitestone REIT and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(in thousands)

 
 
Three Months Ended
 
 
March 31,
 
 
2020
 
2019
Supplemental disclosure of cash flow information:
 
 
 
 
Cash paid for interest
 
$
6,461

 
$
6,268

Non cash investing and financing activities:
 
 
 
 
Disposal of fully depreciated real estate
 
$
24

 
$
89

Financed insurance premiums
 
$
1,431

 
$
1,238

Value of shares issued under dividend reinvestment plan
 
$
42

 
$
34

Value of common shares exchanged for OP units
 
$
44

 
$
5

Change in fair value of cash flow hedge
 
$
(10,952
)
 
$
(3,470
)

 
 
March 31,
 
 
2020
 
2019
Cash, cash equivalents and restricted cash
 
 
 
 
Cash and cash equivalents
 
$
36,774

 
$
4,580

Restricted cash
 
105

 
100

Total cash, cash equivalents and restricted cash
 
$
36,879

 
$
4,680




See accompanying notes to Consolidated Financial Statements.


8
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

The use of the words “we,” “us,” “our,” “Company” or “Whitestone” refers to Whitestone REIT and our consolidated subsidiaries, except where the context otherwise requires.

1.  INTERIM FINANCIAL STATEMENTS
 
The consolidated financial statements included in this report are unaudited; however, amounts presented in the consolidated balance sheet as of December 31, 2019 are derived from our audited consolidated financial statements as of that date.  The unaudited consolidated financial statements as of and for the period ended March 31, 2020 have been prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”) for interim financial information on a basis consistent with the annual audited consolidated financial statements and with the instructions to Form 10-Q.
 
The consolidated financial statements presented herein reflect all adjustments which, in the opinion of management, are necessary for a fair presentation of the financial position of Whitestone and our subsidiaries as of March 31, 2020 and December 31, 2019, and the results of operations for the three month periods ended March 31, 2020 and 2019, the consolidated statements of changes in equity for the three months periods ended March 31, 2020 and 2019 and cash flows for the three month periods ended March 31, 2020 and 2019.  All of these adjustments are of a normal recurring nature.  The results of operations for the interim periods are not necessarily indicative of the results expected for a full year.  The statements should be read in conjunction with the audited consolidated financial statements and the notes thereto which are included in our Annual Report on Form 10-K for the year ended December 31, 2019.
 
Business.  Whitestone was formed as a real estate investment trust (“REIT”) pursuant to the Texas Real Estate Investment Trust Act on August 20, 1998.  In July 2004, we changed our state of organization from Texas to Maryland pursuant to a merger where we merged directly with and into a Maryland REIT formed for the sole purpose of the reorganization and the conversion of each of the outstanding common shares of beneficial interest of the Texas entity into 1.42857 common shares of beneficial interest of the Maryland entity.  We serve as the general partner of Whitestone REIT Operating Partnership, L.P. (the “Operating Partnership”), which was formed on December 31, 1998 as a Delaware limited partnership.  We currently conduct substantially all of our operations and activities through the Operating Partnership.  As the general partner of the Operating Partnership, we have the exclusive power to manage and conduct the business of the Operating Partnership, subject to certain customary exceptions.  As of March 31, 2020 and December 31, 2019, Whitestone wholly-owned 58 commercial properties in and around Austin, Chicago, Dallas-Fort Worth, Houston, Phoenix and San Antonio.

As of March 31, 2020, these properties consist of:

Consolidated Operating Portfolio

•
52 wholly-owned properties that meet our Community Centered Properties® strategy;

Redevelopment, New Acquisitions Portfolio

•
one wholly-owned property that meets our Community Centered Properties® strategy; and

•
five parcels of land held for future development.

As of March 31, 2020, we, through our investment in Pillarstone Capital REIT Operating Partnership LP (“Pillarstone” or “Pillarstone OP”), owned a majority interest in eight properties that do not meet our Community Centered Property® strategy containing approximately 0.9 million square feet of GLA (the “Pillarstone Properties”). We own 81.4% of the total outstanding units of Pillarstone OP, which we account for using the equity method. We also manage the day-to-day operations of Pillarstone OP.



9
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

2.  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 
Basis of Consolidation.  We are the sole general partner of the Operating Partnership and possess full legal control and authority over the operations of the Operating Partnership. As of March 31, 2020 and December 31, 2019, we owned a majority of the partnership interests in the Operating Partnership. Consequently, the accompanying consolidated financial statements include the accounts of the Operating Partnership.

Noncontrolling interest in the accompanying consolidated financial statements represents the share of equity and earnings of the Operating Partnership allocable to holders of partnership interests other than us. Net income or loss is allocated to noncontrolling interests based on the weighted-average percentage ownership of the Operating Partnership during the period. Issuance of additional common shares of beneficial interest in Whitestone (the “common shares”) and units of limited partnership interest in the Operating Partnership that are convertible into cash or, at our option, common shares on a one-for-one basis (the “OP units”) changes the percentage of ownership interests of both the noncontrolling interests and Whitestone.
    
Equity Method. For the years prior to December 31, 2017, Pillarstone OP was accounted for under the profit-sharing method. In accordance with the Financial Accounting Standards Board’s (“FASB”) guidance applicable to sales of real estate or interests therein, specifically FASB Accounting Standards Codification (“ASC”) 360-20, “Real Estate Sales,” Topic 606, “Revenue from Contracts with Customers” and ASC 610, “Other Income–Gains and Losses from the Derecognition of Nonfinancial Assets,” we adopted Topic 606 and ASC 610 as of January 1, 2018, resulting in the derecognition of the underlying assets and liabilities associated with the Contribution (defined below) as of January 1, 2018 and the recognition of the Company’s investment in Pillarstone OP under the equity method. See Note 6 (Investment in Real Estate Partnership) for additional disclosure on Pillarstone OP.

In these financial statements, unless otherwise indicated, we do not include the Pillarstone Properties when we refer to our properties.
  
Basis of Accounting.  Our financial records are maintained on the accrual basis of accounting whereby revenues are recognized when earned and expenses are recorded when incurred.
 
Use of Estimates.   The preparation of 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 liabilities as of the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Significant estimates that we use include the estimated fair values of properties acquired, the estimated useful lives for depreciable and amortizable assets and costs, the estimated allowance for doubtful accounts, the estimated fair value of interest rate swaps and the estimates supporting our impairment analysis for the carrying values of our real estate assets.  Actual results could differ from those estimates. In particular, the COVID-19 pandemic has adversely impacted and is likely to further adversely impact the Company’s business and markets, including the Company’s operations and the operations of its tenants. The full extent to which the pandemic will directly or indirectly impact the Company's business, results of operations and financial condition, including revenues, expenses, reserves and allowances, fair value measurements, and asset impairment charges, will depend on future developments that are highly uncertain and difficult to predict. These developments include, but are not limited to, the duration and spread of the pandemic, its severity in our markets and elsewhere, governmental actions to contain the spread of the pandemic and respond to the reduction in global economic activity, and how quickly and to what extent normal economic and operating conditions can resume.
 
Reclassifications.  We have reclassified certain prior period amounts in the accompanying consolidated financial statements in order to be consistent with the current period presentation. These reclassifications had no effect on net income, total assets, total liabilities or equity.
 
Restricted Cash. We classify all cash pledged as collateral to secure certain obligations and all cash whose use is limited as restricted cash. During 2015, pursuant to the terms of our $15.1 million 4.99% Note, due January 6, 2024 (see Note 7 (Debt)), which is collateralized by our Anthem Marketplace property, we were required by the lenders thereunder to establish a cash management account controlled by the lenders to collect all amounts generated by our Anthem Marketplace property in order to collateralize such promissory note.


10
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

Derivative Instruments and Hedging Activities. We utilize derivative financial instruments, principally interest rate swaps, to manage our exposure to fluctuations in interest rates. We have established policies and procedures for risk assessment, and the approval, reporting and monitoring of derivative financial instruments. We recognize our interest rate swaps as cash flow hedges with the effective portion of the changes in fair value recorded in comprehensive income (loss) and subsequently reclassified into earnings in the period that the hedged transaction affects earnings. Any ineffective portion of a cash flow hedges’ change in fair value is recorded immediately into earnings. Our cash flow hedges are determined using Level 2 inputs under ASC 820. Level 2 inputs represent quoted prices in active markets for similar assets or liabilities; quoted prices in markets that are not active; and model-derived valuations in which significant inputs and significant value drivers are observable. As of March 31, 2020, we consider our cash flow hedges to be highly effective.
        
Development Properties. Land, buildings and improvements are recorded at cost. Expenditures related to the development of real estate are carried at cost which includes capitalized carrying charges and development costs. Carrying charges (interest, real estate taxes, loan fees, and direct and indirect development costs related to buildings under construction), are capitalized as part of construction in progress. The capitalization of such costs ceases when the property, or any completed portion, becomes available for occupancy. For the three months ended March 31, 2020, approximately $122,000 and $80,000 in interest expense and real estate taxes, respectively, were capitalized. For the three months ended March 31, 2019, approximately $117,000 and $87,000 in interest expense and real estate taxes, respectively, were capitalized. Due to COVID-19, we have taken a prudent pause in acquisitions activity and are carefully evaluating development and redevelopment activities on a case-by-case basis.

Real Estate Held for Sale and Discontinued Operations. We consider a commercial property to be held for sale when it meets all of the criteria established under ASC 205, “Presentation of Financial Statements.” For commercial properties classified as held for sale, assets and liabilities are presented separately for all periods presented.

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

Share-Based Compensation.   From time to time, we grant nonvested restricted common share awards or restricted common share unit awards, which may be converted into common shares, to executive officers and employees under our 2018 Long-Term Equity Incentive Ownership Plan (the “2018 Plan”).  Awarded shares and units vest when certain performance conditions are met.  We recognize compensation expense when achievement of the performance conditions is probable based on management’s most recent estimates using the fair value of the shares as of the grant date.  We recognized $1,326,000 and $1,951,000 in share-based compensation for the three months ended March 31, 2020 and 2019, respectively. We recognize forfeitures as they occur.

Noncontrolling Interests.  Noncontrolling interests are the portion of equity in a subsidiary not attributable to a parent. Accordingly, we have reported noncontrolling interests in equity on the consolidated balance sheets but separate from Whitestone’s equity.  On the consolidated statements of operations and comprehensive loss, subsidiaries are reported at the consolidated amount, including both the amount attributable to Whitestone and noncontrolling interests.  The consolidated statements of changes in equity is included for quarterly financial statements, including beginning balances, activity for the period and ending balances for shareholders’ equity, noncontrolling interests and total equity.

Accrued Rents and Accounts Receivable.  Included in accrued rents and accounts receivable are base rents, tenant reimbursements and receivables attributable to recording rents on a straight-line basis. We review the collectability of charges under our tenant operating leases on a regular basis, taking into consideration changes in factors such as the tenant’s payment history, the financial condition of the tenant, business conditions in the industry in which the tenant operates and economic conditions in the area where the property is located, including the impact of the COVID-19 pandemic on tenants’ businesses and financial condition. With the adoption of ASC No. 842, Leases (“Topic 842”), as of January 1, 2019 we recognize an adjustment to rental revenue if we deem it probable that the receivable will not be collected. Prior to the adoption of Topic 842, we recognized an allowance for doubtful accounts and bad debt expense of the specific rents receivable. Our review of

11
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

collectability under our operating leases includes any accrued rental revenues related to the straight-line method of reporting rental revenue. As of March 31, 2020 and December 31, 2019, we had an allowance for uncollectible accounts of $11.9 million and $11.2 million, respectively. During the three months ending March 31, 2020 and 2019, we recorded an adjustment to rental revenue in the amount of $0.8 million and $0.3 million, respectively. Included in the adjustment to rental revenue for the three months ending March 31, 2020, was an adjustment of $0.4 million related to credit loss for the conversion of approximately 40 tenants to cash basis revenue as a result of COVID-19 collectability analysis.

Revenue Recognition. All leases on our properties are classified as operating leases, and the related rental income is recognized on a straight-line basis over the terms of the related leases. For the three months ending March 31, 2020, we recognized a straight-line rent reserve adjustment decreasing rental revenue by $0.5 million for the conversion of approximately 40 tenants to cash basis revenue as a result of COVID-19 collectability analysis . Differences between rental income earned and amounts due per the respective lease agreements are capitalized or charged, as applicable, to accrued rents and accounts receivable. Percentage rents are recognized as rental income when the thresholds upon which they are based have been met.  Recoveries from tenants for taxes, insurance, and other operating expenses are recognized as revenues in the period the corresponding costs are incurred. We combine lease and nonlease components in lease contracts, which includes combining base rent, recoveries, and percentage rents into a single line item, Rental, within the consolidated statements of operations and comprehensive loss. Additionally, we have tenants who pay real estate taxes directly to the taxing authority. We exclude these costs paid directly by the tenant to third parties on our behalf from revenue recognized and the associated property operating expense.

Other property income primarily includes amounts recorded in connection with management fees and lease termination fees. Pillarstone OP pays us management fees for property management, leasing and day-to-day advisory and administrative services. Their obligations are satisfied over time. Pillarstone OP is billed monthly and typically pays quarterly. Revenues are governed by the Management Agreements (as defined in Note 6 (Investment in Real Estate Partnership)). Refer to Note 6 (Investment in Real Estate Partnership) for additional information regarding the Management Agreements with Pillarstone OP. Additionally, we recognize lease termination fees in the year that the lease is terminated and collection of the fee is probable. Amounts recorded within other property income are accounted for at the point in time when control of the goods or services transfers to the customer and our performance obligation is satisfied.
 
See our Annual Report on Form 10-K for the year ended December 31, 2019 for further discussion on significant accounting policies.
 
Recent Accounting Pronouncements. In April 2020, the FASB issued guidance on the application of Topic 842, relating to concessions being made by lessors in response to the COVID-19 pandemic. The guidance notes that it would be acceptable for entities to make an election to account for lease concessions relating to the effects of the COVID-19 pandemic consistent with how those concessions would be accounted for under Topic 842 as though enforceable rights and obligations for those concessions existed, even if such enforceable rights and obligations are not explicitly contained in the lease contract. Thus, for concessions relating to the COVID-19 pandemic, an entity would not have to analyze each contract to determine whether enforceable rights and obligations for concessions exist in the contract, and would have the option to apply, or not to apply, the general lease modification guidance in Topic 842 as it stands. We have elected this option to account for lease concessions relating to the effects of the COVID-19 pandemic consistent with how those concessions would be accounted for under Topic 842 as though enforceable rights and obligations for those concessions existed. Therefore, such concessions are not accounted for as a lease modification under Topic 842.

In February 2016, the FASB issued ASU No. 2016-2 which provided the principles for the recognition, measurement, presentation and disclosure of leases. Additional guidance and targeted improvements to Topic 842 were made through the issuance of supplementary ASUs in July 2018, December 2018 and March 2019.

Effective January 1, 2019, we adopted the new lease accounting guidance in Topic 842. As the lessee and lessor, we have elected the package of practical expedients permitted in Topic 842. Accordingly, we have accounted for our existing operating leases as operating leases under the new guidance, without reassessing (a) whether the contract contains a lease under Topic 842, (b) whether classification of the operating lease would be different in accordance with Topic 842, or (c) whether the unamortized initial direct costs before transition adjustments (as of December 31, 2018) would have met the definition of initial direct costs in Topic 842 at lease commencement. Additionally, as the lessee and lessor we will use hindsight in determining the lease term and in assessing impairment of our right-of-use assets. As a result of the adoption of the new lease accounting

12
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

guidance, as the lessee, we recognized on January 1, 2019 (a) a lease liability of approximately $1.1 million, which represents the present value of the remaining lease payments of approximately $1.2 million discounted using our incremental borrowing rate of 4.5%, and (b) a right-of-use asset of approximately $1.1 million. The adoption of Topic 842 did not have a material impact to our net income and related per share amounts.

Upon adoption of Topic 842, lessees and lessors are required to apply a modified retrospective transition approach. Reporting entities are permitted to choose one of two methods to recognize and measure leases within the scope of Topic 842:

•
Apply Topic 842 to each lease that existed at the beginning of the earliest comparative period presented in the financial statements as well as leases that commenced after that date. Under this method, prior comparative periods presented are adjusted. For leases that commenced prior to the beginning of the earliest comparative period presented, a cumulative-effect adjustment is recognized at that date.

•
Apply the guidance to each lease that had commenced as of the beginning of the reporting period in which the entity first applies the leases standard with a cumulative-effect adjustment as of that date. Prior comparative periods would not be adjusted under this method.

We have elected an optional transition method that allows entities to initially apply Topic 842 at January 1, 2019, the date of adoption, and to recognize a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption. As the lessor, we have not assessed unamortized legal costs as part of the package of practical expedients, and we will not make any adjustment to retained earnings at the date of adoption to write off unamortized legal costs. We continued to amortize unamortized legal costs as of December 31, 2018 over the life of the respective leases. We did not have a cumulative-effect adjustment as of the adoption date. Additionally, the optional transition method does allow us to not have to apply the new standard (including disclosure requirements) to comparative periods presented. Those periods can continue to be presented in accordance with prior generally accepted accounting principles.

Topic 842 requires lessors to account for leases using an approach that is substantially equivalent to existing guidance for sales-type leases and operating leases. Based on our election of the package of practical expedients, our existing commercial leases, where we are the lessor, continue to be accounted for as operating leases under the new standard. However, Topic 842 changed certain requirements regarding the classification of leases that could result in us recognizing certain long-term leases entered into or modified after January 1, 2019 as sales-type leases or finance leases, as opposed to operating leases. We will continue to monitor our leases following the adoption date to ensure that they are classified in accordance with the new lease standards.

We elected a practical expedient which allows lessors to not separate non-lease components from the lease component when the timing and pattern of transfer for the lease components and non-lease components are the same and if the lease component is classified as an operating lease. As a result, we now present all rentals and reimbursements from tenants as a single line item, Rental, within the consolidated statements of operations and comprehensive loss. For the three months ended March 31, 2020, we had rent revenues of $22.1 million and rental recoveries of $9.0 million compared to $21.8 million and $7.6 million for the three months ended March 31, 2019, respectively.

We review the collectability of charges under our tenant operating leases on a regular basis, taking into consideration changes in factors such as the tenant’s payment history, the financial condition of the tenant, business conditions in the industry in which the tenant operates and economic conditions in the area where the property is located, including the impact of the
outbreak of the COVID-19 pandemic on tenants’ businesses and financial condition. Each tenant is included in one of several portfolios and an allowance is calculated using the calculation methodology for the respective portfolio. With the adoption of Topic 842, we will recognize an adjustment to rental revenue if we deem it probable that the receivable will not be collected. Tenant portfolios will be converted to cash basis if collectability is of great concern. Prior to the adoption of Topic 842, we recognized an allowance for doubtful accounts and bad debt expense of the specific rents receivable. Our review of collectability under our operating leases includes any accrued rental revenues related to the straight-line method of reporting rental revenue.


13
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

3.  LEASES
 
Effective January 1, 2019, we adopted the new lease accounting guidance in Topic 842. As the lessee and lessor, we have elected the package of practical expedients permitted in Topic 842. See Note 2 for additional disclosure on Topic 842.

As a Lessor. All leases on our properties are classified as noncancelable operating leases, and the related rental income is recognized on a straight-line basis over the terms of the related leases. Differences between rental income earned and amounts due per the respective lease agreements are capitalized or charged, as applicable, to accrued rents and accounts receivable. Percentage rents are recognized as rental income when the thresholds upon which they are based have been met.  Recoveries from tenants for taxes, insurance, and other operating expenses are recognized as revenues in the period the corresponding costs are incurred. We combine lease and nonlease components in lease contracts, which includes combining base rent, recoveries, and percentage rents into a single line item, Rental, within the consolidated statements of operations and comprehensive loss.
    
A summary of minimum future rents to be received (exclusive of renewals, tenant reimbursements, contingent rents, and collectability adjustments under Topic 842) under noncancelable operating leases in existence as of March 31, 2020 is as follows (in thousands):

Years Ended December 31,
 
Minimum Future Rents(1)
2020 (remaining)
 
$
63,781

2021
 
75,214

2022
 
63,673

2023
 
51,764

2024
 
39,767

Thereafter
 
114,195

Total
 
$
408,394


(1) These amounts do not reflect future rental revenues from the renewal or replacement of existing leases and exclude reimbursements of operating expenses and rental increases that are not fixed.

As a Lessee. We have office space, automobile, and office machine leases, which qualify as operating leases, with remaining lease terms of one to three years.

The following table summarizes the fixed, future minimum rental payments, excluding variable costs, which are discounted by our weighted average incremental borrowing rates to calculate the lease liabilities for our operating leases in which we are the lessee (in thousands):
Years Ended December 31,
 
March 31, 2020
2020 (remaining)
 
$
682

2021
 
412

2022
 
50

2023
 
4

Total undiscounted rental payments
 
1,148

Less imputed interest
 
40

Total lease liabilities
 
$
1,108


For the three months ended March 31, 2020 and 2019, the total lease costs were $303,000 and $244,000, respectively. The weighted average remaining lease term for our operating leases was 1.5 years at March 31, 2020. We do not include renewal options in the lease term for calculating the lease liability unless we are reasonably certain we will exercise the option

14
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

or the lessor has the sole ability to exercise the option. The weighted average incremental borrowing rate was 4.5% at March 31, 2020.
 
4. ACCRUED RENTS AND ACCOUNTS RECEIVABLE, NET

Accrued rents and accounts receivable, net consists of amounts accrued, billed and due from tenants, allowance for doubtful accounts and other receivables as follows (in thousands):

 
 
March 31, 2020
 
December 31, 2019
 
 
 
 
 
Tenant receivables
 
$
17,396

 
$
16,741

Accrued rents and other recoveries
 
17,060

 
16,983

Allowance for doubtful accounts
 
(11,945
)
 
(11,173
)
Other receivables
 
385

 
303

Total
 
$
22,896

 
$
22,854


5. UNAMORTIZED LEASE COMMISSIONS, LEGAL FEES AND LOAN COSTS

Costs which have been deferred consist of the following (in thousands):
 
 
March 31, 2020
 
December 31, 2019
 
 
 
 
 
Leasing commissions
 
$
10,134

 
$
9,868

Deferred legal cost
 
388

 
393

Deferred financing cost
 
3,899

 
3,908

Total cost
 
14,421

 
14,169

Less: leasing commissions accumulated amortization
 
(4,408
)
 
(4,200
)
Less: deferred legal cost accumulated amortization
 
(187
)
 
(179
)
Less: deferred financing cost accumulated amortization
 
(1,051
)
 
(830
)
Total cost, net of accumulated amortization
 
$
8,775

 
$
8,960




15
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

6. INVESTMENT IN REAL ESTATE PARTNERSHIP

On December 8, 2016, we, through our Operating Partnership, entered into a Contribution Agreement (the “Contribution Agreement”) with Pillarstone OP and Pillarstone Capital REIT (“Pillarstone REIT”) pursuant to which we contributed all of the equity interests in four of our wholly-owned subsidiaries: Whitestone CP Woodland Ph. 2, LLC, a Delaware limited liability company (“CP Woodland”); Whitestone Industrial-Office, LLC, a Texas limited liability company (“Industrial-Office”); Whitestone Offices, LLC, a Texas limited liability company (“Whitestone Offices”); and Whitestone Uptown Tower, LLC, a Delaware limited liability company (“Uptown Tower,” and together with CP Woodland, Industrial-Office and Whitestone Offices, the “Entities”) that own 14 non-core properties that do not fit our Community Centered Property® strategy (the “Pillarstone Properties”), to Pillarstone OP for aggregate consideration of approximately $84 million, consisting of (1) approximately $18.1 million of Class A units representing limited partnership interests in Pillarstone OP (“Pillarstone OP Units”), issued at a price of $1.331 per Pillarstone OP Unit; and (2) the assumption of approximately $65.9 million of liabilities, consisting of (a) approximately $15.5 million of our liability under the 2018 Facility (as defined in Note 7); (b) an approximately $16.3 million promissory note of Uptown Tower under the Loan Agreement, dated as of September 26, 2013, between Uptown Tower, as borrower, and U.S. Bank, National Association, as successor to Morgan Stanley Mortgage Capital Holdings LLC, as lender; and (c) an approximately $34.1 million promissory note (the “Industrial-Office Promissory Note”) of Industrial-Office issued under the Loan Agreement, dated as of November 26, 2013 (the “Industrial-Office Loan Agreement”), between Industrial-Office, as borrower, and Jackson National Life Insurance Company, as lender (collectively, the “Contribution”).

In connection with the Contribution, (1) with respect to each Pillarstone Property (other than Uptown Tower), Whitestone TRS, Inc., a subsidiary of the Company (“Whitestone TRS”), entered into a Management Agreement with the Entity that owns such Pillarstone Property and (2) with respect to Uptown Tower, Whitestone TRS entered into a Management Agreement with Pillarstone OP (collectively, the “Management Agreements”). Pursuant to the Management Agreements with respect to each Pillarstone Property (other than Uptown Tower), Whitestone TRS agreed to provide certain property management, leasing and day-to-day advisory and administrative services to such Pillarstone Property in exchange for (x) a monthly property management fee equal to 5.0% of the monthly revenues of such Pillarstone Property and (y) a monthly asset management fee equal to 0.125% of GAV (as defined in each Management Agreement as, generally, the purchase price of the respective Pillarstone Property based upon the purchase price allocations determined pursuant to the Contribution Agreement, excluding all indebtedness, liabilities or claims of any nature) of such Pillarstone Property. Pursuant to the Management Agreement with respect to Uptown Tower, Whitestone TRS agreed to provide certain property management, leasing and day-to-day advisory and administrative services to Pillarstone OP in exchange for (x) a monthly property management fee equal to 3.0% of the monthly revenues of Uptown Tower and (y) a monthly asset management fee equal to 0.125% of GAV of Uptown Tower. The initial term of each Management Agreement expired on December 31, 2017, after which each Management Agreement became automatically renewable on a month to month basis; provided that each Management Agreement can be terminated by either party thereto upon not less than thirty days’ prior written notice to the other party. None of the Management Agreements had been terminated as of March 31, 2020.

In connection with the Contribution, on December 8, 2016, the Operating Partnership entered into a Tax Protection Agreement with Pillarstone REIT and Pillarstone OP pursuant to which Pillarstone OP agreed to indemnify the Operating Partnership for certain tax liabilities resulting from its recognition of income or gain prior to December 8, 2021 if such liabilities result from a transaction involving a direct or indirect taxable disposition of all or a portion of the Pillarstone Properties or if Pillarstone OP fails to maintain and allocate to the Operating Partnership for taxation purposes minimum levels of liabilities as specified in the Tax Protection Agreement, the result of which causes such recognition of income or gain and the Company incurs taxes that must be paid to maintain its REIT status for federal income tax purposes.

As a result of the adoption of Topic 606 and ASC 610, the Company derecognized the underlying assets and liabilities associated with the Contribution as of January 1, 2018 and recognized the Company’s investment in Pillarstone OP under the equity method.

16
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

        
The table below presents the real estate partnership investment in which the Company holds an ownership interest (in thousands):
 
 
 
Company’s Investment as of
 
 
 
March 31, 2020
 
December 31, 2019
Real estate partnership
Ownership Interest
 
 
 
 
Pillarstone OP(1)
81.4%
 
$
34,289

 
$
34,097

Total real estate partnership(2)
 
 
$
34,289

 
$
34,097


(1) The Company manages these real estate partnership investments and, where applicable, earns acquisition fees, leasing commissions, property management fees, and asset management fees.

(2) Representing eight property interests and 926,798 square feet of GLA, as of March 31, 2020 and December 31, 2019.
    
The table below presents the Company’s share of net income from its investment in the real estate partnership which is included in equity in earnings of real estate partnership, net on the Company’s consolidated statements of operations and comprehensive loss (in thousands):

 
 
Three Months Ended March 31,
 
 
2020
 
2019
 
 
 
 
 
Pillarstone OP
 
$
192

 
$
492


Summarized financial information for the Company’s investment in real estate partnership is as follows (in thousands):

 
 
March 31,
 
December 31,
 
 
2020
 
2019
 
 
 
 
 
Assets:
 
 
 
 
   Real estate, net
 
$
50,131

 
$
50,338

   Other assets
 
6,798

 
6,742

Total assets
 
56,929

 
57,080

Liabilities and equity:
 
 
 
 
   Notes payable
 
15,372

 
15,434

   Other liabilities
 
3,219

 
3,575

   Equity
 
38,338

 
38,071

Total liabilities and equity
 
56,929

 
57,080

Company’s share of equity
 
31,225

 
31,008

Cost of investment in excess of the Company’s share of underlying net book value
 
3,064

 
3,089

Carrying value of investment in real estate partnership
 
$
34,289

 
$
34,097



17
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)


 
 
Three Months Ended March 31,
 
 
2020
 
2019
 
 
 
 
 
Revenues
 
$
2,585

 
$
3,856

Operating expenses
 
(1,900
)
 
(2,354
)
Other expenses
 
(418
)
 
(804
)
Net income
 
$
267

 
$
698

    
The amortization of the basis difference between the cost of investment and the Company's share of underling net book value for both of the three months periods ended March 31, 2020 and 2019 is $27,000. The Company amortized the difference into equity in earnings of real estate partnership on the consolidated statements of operations and comprehensive loss.

The Company has evaluated its guarantee to Pillarstone OP pursuant to ASC 460, Guarantees, and has determined the guarantee to be a performance guarantee, for which ASC 460 contains initial recognition and measurement requirements, and related disclosure requirements. The Company is obligated in two respects: (i) a noncontingent liability, which represents the Company’s obligation to stand ready to perform under the terms of the guarantee in the event that the specified triggering event(s) occur; and (ii) the contingent liability, which represents the Company’s obligation to make future payments if those triggering events occur. The fair value of our loan guarantee to Pillarstone OP is estimated on a Level 3 basis (as provided by ASC 820, “Fair Value Measurements and Disclosures”), using a probability-weighted discounted cash flow analysis based on a discount rate, discounting the loan balance. The Company recognized a noncontingent liability of $462,000 at the inception of the guarantee at fair value which is recorded on the Company’s consolidated balance sheets, net of accumulated amortization. The Company will amortize the guarantee liability into income over seven years. For the three months ended March 31, 2020 and 2019, the amortization of the guarantee liability was $10,000 and $93,000, respectively.

7. DEBT

Certain subsidiaries of Whitestone are the borrowers under various financing arrangements. These subsidiaries are separate legal entities, and their respective assets and credit are not available to satisfy the debt of Whitestone or any of its other subsidiaries.


18
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

Debt consisted of the following as of the dates indicated (in thousands):
Description
 
March 31, 2020
 
December 31, 2019
Fixed rate notes
 
 
 
 
$10.5 million, 4.85% Note, due September 24, 2020 (1)
 
$
9,200

 
$
9,260

$100.0 million, 1.73% plus 1.35% to 1.90% Note, due October 30, 2022 (2)
 
100,000

 
100,000

$165.0 million, 2.24% plus 1.35% to 1.90% Note, due January 31, 2024 (3)
 
165,000

 
165,000

$80.0 million, 3.72% Note, due June 1, 2027
 
80,000

 
80,000

$19.0 million 4.15% Note, due December 1, 2024
 
18,922

 
19,000

$20.2 million 4.28% Note, due June 6, 2023
 
18,518

 
18,616

$14.0 million 4.34% Note, due September 11, 2024
 
13,421

 
13,482

$14.3 million 4.34% Note, due September 11, 2024
 
14,186

 
14,243

$15.1 million 4.99% Note, due January 6, 2024
 
14,348

 
14,409

$2.6 million 5.46% Note, due October 1, 2023
 
2,374

 
2,386

$50.0 million, 5.09% Note, due March 22, 2029
 
50,000

 
50,000

$50.0 million, 5.17% Note, due March 22, 2029
 
50,000

 
50,000

$1.1 million 4.53% Note, due November 28, 2020
 
1,081

 
—

Floating rate notes
 
 
 
 
Unsecured line of credit, LIBOR plus 1.40% to 1.90%, due January 31, 2023
 
139,500

 
109,500

Total notes payable principal
 
676,550

 
645,896

Less deferred financing costs, net of accumulated amortization
 
(1,141
)
 
(1,197
)
Total notes payable
 
$
675,409

 
$
644,699



(1)
Promissory note includes an interest rate swap that fixed the interest rate at 3.55% for the duration of the term through September 24, 2018 and 4.85% beginning September 25, 2018 through September 24, 2020.

(2) 
Promissory note includes an interest rate swap that fixed the LIBOR portion of the interest rate at 1.73%.

(3)
Promissory note includes an interest rate swap that fixed the LIBOR portion of the interest rate at an average rate of 2.24% for the duration of the term through January 31, 2024.

LIBOR is expected to be discontinued after 2021. A number of our current debt agreements have an interest rate tied to LIBOR. Some of these agreements provide procedures for determining an alternative base rate in the event that LIBOR is discontinued, but not all do so. Regardless, there can be no assurances as to what alternative base rates may be and whether such base rate will be more or less favorable than LIBOR and any other unforeseen impacts of the potential discontinuation of LIBOR. The Company intends to monitor the developments with respect to the potential phasing out of LIBOR after 2021 and work with its lenders to ensure any transition away from LIBOR will have minimal impact on its financial condition, but can provide no assurances regarding the impact of the discontinuation of LIBOR.

On March 22, 2019, we, through our Operating Partnership, entered into a Note Purchase and Guarantee Agreement (the “Note Agreement”) together with certain subsidiary guarantors as initial guarantor parties thereto (the “Subsidiary Guarantors”) and The Prudential Insurance Company of America and the various other purchasers named therein (collectively, the “Purchasers”) providing for the issuance and sale of $100 million of senior unsecured notes of the Operating Partnership, of which (i) $50 million are designated as 5.09% Series A Senior Notes due March 22, 2029 (the “Series A Notes”) and (ii) $50 million are designated as 5.17% Series B Senior Notes due March 22, 2029 (the “Series B Notes” and, together with the Series A Notes, the “Notes”) pursuant to a private placement that closed on March 22, 2019 (the “Private Placement”). Obligations under the Notes are unconditionally guaranteed by the Company and by the Subsidiary Guarantors.


19
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

The principal of the Series A Notes will begin to amortize on March 22, 2023 with annual principal payments of approximately $7.1 million. The principal of the Series B Notes will begin to amortize on March 22, 2025 with annual principal payments of $10.0 million. The Notes will pay interest quarterly on the 22nd day of March, June, September and December in each year until maturity.

The Operating Partnership may prepay at any time all, or from time to time part of, the Notes, in an amount not less than $1,000,000 in the case of a partial prepayment, at 100% of the principal amount so prepaid, plus a make-whole amount. The make-whole amount is equal to the excess, if any, of the discounted value of the remaining scheduled payments with respect to the Notes being prepaid over the aggregate principal amount of such Notes (as described in the Note Agreement). In addition, in connection with a Change of Control (as defined in the Note Purchase Agreement), the Operating Partnership is required to offer to prepay the Notes at 100% of the principal amount plus accrued and unpaid interest thereon.

The Note Agreement contains representations, warranties, covenants, terms and conditions customary for transactions of this type and substantially similar to the Operating Partnership’s existing senior revolving credit facility, including limitations on liens, incurrence of investments, acquisitions, loans and advances and restrictions on dividends and certain other restricted payments. In addition, the Note Agreement contains certain financial covenants substantially similar to the Operating Partnership’s existing senior revolving credit facility, including the following:

•
maximum total indebtedness to total asset value ratio of 0.60 to 1.00;

•
maximum secured debt to total asset value ratio of 0.40 to 1.00;

•
minimum EBITDA (earnings before interest, taxes, depreciation, amortization or extraordinary items) to fixed charges ratio of 1.50 to 1.00;

•
maximum other recourse debt to total asset value ratio of 0.15 to 1.00; and

•
maintenance of a minimum tangible net worth (adjusted for accumulated depreciation and amortization) of $372 million plus 75% of the net proceeds from additional equity offerings (as defined therein).

In addition, the Note Agreement contains a financial covenant requiring that maximum unsecured debt not exceed the lesser of (i) an amount equal to 60% of the aggregate unencumbered asset value and (ii) the debt service coverage amount (as described in the Note Agreement). That covenant is substantially similar to the borrowing base concept contained in the Operating Partnership’s existing senior revolving credit facility.

The Note Agreement also contains default provisions, including defaults for non-payment, breach of representations and warranties, insolvency, non-performance of covenants, cross-defaults with other indebtedness and guarantor defaults. The occurrence of an event of default under the Note Agreement could result in the Purchasers accelerating the payment of all obligations under the Notes. The financial and restrictive covenants and default provisions in the Note Agreement are substantially similar to those contained in the Operating Partnership’s existing credit facility.

Net proceeds from the Private Placement were used to refinance existing indebtedness. The Notes have not been and will not be registered under the Securities Act of 1933, as amended (the “Securities Act”), and may not be offered or sold in the United States absent registration or an applicable exemption from the registration requirements of the Securities Act. The Notes were sold in reliance on the exemption from registration provided by Section 4(a)(2) of the Securities Act.

On January 31, 2019, we, through our Operating Partnership, entered into an unsecured credit facility (the “2019 Facility”) with the lenders party thereto, Bank of Montreal, as administrative agent (the “Agent”), SunTrust Robinson Humphrey, as syndication agent, and BMO Capital Markets Corp., U.S. Bank National Association, SunTrust Robinson Humphrey and Regions Capital Markets, as co-lead arrangers and joint book runners. The 2019 Facility amended and restated the 2018 Facility (as defined below).

The 2019 Facility is comprised of the following three tranches:

•
$250.0 million unsecured revolving credit facility with a maturity date of January 1, 2023 (the “2019 Revolver”);

20
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)


•
$165.0 million unsecured term loan with a maturity date of January 31, 2024 (“Term Loan A”); and

•
$100.0 million unsecured term loan with a maturity date of October 30, 2022 (“Term Loan B” and together with Term Loan A, the “2019 Term Loans”).

Borrowings under the 2019 Facility accrue interest (at the Operating Partnership's option) at a Base Rate or an Adjusted LIBOR plus an applicable margin based upon our then existing leverage. As of March 31, 2020, the interest rate on the 2019 Revolver was 3.25%. The applicable margin for Adjusted LIBOR borrowings ranges from 1.40% to 1.90% for the 2019 Revolver and 1.35% to 1.90% for the 2019 Term Loans. Base Rate means the higher of: (a) the Agent’s prime commercial rate, (b) the sum of (i) the average rate quoted by the Agent by two or more federal funds brokers selected by the Agent for sale to the Agent at face value of federal funds in the secondary market in an amount equal or comparable to the principal amount for which such rate is being determined, plus (ii) 1/2 of 1.00%, and (c) the LIBOR rate for such day plus 1.00%. Adjusted LIBOR means LIBOR divided by one minus the Eurodollar Reserve Percentage. The Eurodollar Reserve Percentage means the maximum reserve percentage at which reserves are imposed by the Board of Governors of the Federal Reserve System on eurocurrency liabilities. Pursuant to the 2019 Facility, in the event of certain circumstances that result in the unavailability of LIBOR, including but not limited to LIBOR no longer being a widely recognized benchmark rate for newly originated dollar loans in the U.S. market, the Operating Partnership and the Agent will establish an alternate interest rate to LIBOR giving due consideration to prevailing market conventions and will amend the 2019 Facility to give effect to such alternate interest rate.

The 2019 Facility includes an accordion feature that will allow the Operating Partnership to increase the borrowing capacity by $200.0 million, upon the satisfaction of certain conditions. On March 20, 2020, as a precautionary measure to preserve our financial flexibility in response to potential credit risks posed by the COVID-19 pandemic, the Company drew down approximately $30.0 million under the 2019 Revolver. As of March 31, 2020, subject to any potential future paydowns or increases in the borrowing base, we have $8.7 million remaining availability under the 2019 Revolver. As of March 31, 2020, $404.5 million was drawn on the 2019 Facility. The Company used $446.2 million of proceeds from the 2019 Facility to repay amounts outstanding under the 2018 Facility and intends to use the remaining proceeds from the 2019 Facility for general corporate purposes, including property acquisitions, debt repayment, capital expenditures, the expansion, redevelopment and re-tenanting of properties in its portfolio and working capital.
    
The Company, each direct and indirect material subsidiary of the Operating Partnership and any other subsidiary of the Operating Partnership that is a guarantor under any unsecured ratable debt will serve as a guarantor for funds borrowed by the Operating Partnership under the 2019 Facility. The 2019 Facility contains customary terms and conditions, including, without limitation, customary representations and warranties and affirmative and negative covenants including, without limitation, information reporting requirements, limitations on investments, acquisitions, loans and advances, mergers, consolidations and sales, incurrence of liens, dividends and restricted payments. In addition, the 2019 Facility contains certain financial covenants including the following:
    
•
maximum total indebtedness to total asset value ratio of 0.60 to 1.00;

•
maximum secured debt to total asset value ratio of 0.40 to 1.00;

•
minimum EBITDA (earnings before interest, taxes, depreciation, amortization or extraordinary items) to fixed charges ratio of 1.50 to 1.00;

•
maximum other recourse debt to total asset value ratio of 0.15 to 1.00; and

•
maintenance of a minimum tangible net worth (adjusted for accumulated depreciation and amortization) of $372 million plus 75% of the net proceeds from additional equity offerings (as defined therein).


21
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

We serve as the guarantor for funds borrowed by the Operating Partnership under the 2019 Facility. The 2019 Facility contains customary terms and conditions, including, without limitation, affirmative and negative covenants such as information reporting requirements, maximum secured indebtedness to total asset value, minimum EBITDA (earnings before interest, taxes, depreciation, amortization or extraordinary items) to fixed charges, and maintenance of a minimum net worth. The 2019 Facility also contains customary events of default with customary notice and cure, including, without limitation, nonpayment, breach of covenant, misrepresentation of representations and warranties in a material respect, cross-default to other major indebtedness, change of control, bankruptcy and loss of REIT tax status.
    
On November 7, 2014, we, through our Operating Partnership, entered into an unsecured revolving credit facility (the “2014 Facility”) with the lenders party thereto, with BMO Capital Markets Corp., Wells Fargo Securities, LLC, Merrill Lynch, Pierce, Fenner & Smith Incorporated and U.S. Bank, National Association, as co-lead arrangers and joint book runners, and Bank of Montreal, as administrative agent (the “Agent”). The 2014 Facility amended and restated our previous unsecured revolving credit facility. On October 30, 2015, we, through our Operating Partnership, entered into the First Amendment to the 2014 Facility (the “First Amendment”) with the guarantors party thereto, the lenders party thereto and the Agent. We refer to the 2014 Facility, as amended by the First Amendment, as the “2018 Facility.”

Pursuant to the First Amendment, the Company made the following amendments to the 2014 Facility:

•
extended the maturity date of the $300 million unsecured revolving credit facility under the 2014 Facility (the “2018 Revolver”) to October 30, 2019 from November 7, 2018;

•
converted $100 million of outstanding borrowings under the Revolver to a new $100 million unsecured term loan under the 2014 Facility (“Term Loan 3”) with a maturity date of October 30, 2022;

•
extended the maturity date of the first $50 million unsecured term loan under the 2014 Facility (“Term Loan 1”) to October 30, 2020 from February 17, 2017; and

•
extended the maturity date of the second $50 million unsecured term loan under the 2014 Facility (“Term Loan 2” and together with Term Loan 1 and Term Loan 3, the “2018 Term Loans”) to January 29, 2021 from November 7, 2019.
    
Borrowings under the 2018 Facility accrued interest (at the Operating Partnership's option) at a Base Rate or an Adjusted LIBOR plus an applicable margin based upon our then existing leverage. The applicable margin for Adjusted LIBOR borrowings ranged from 1.40% to 1.95% for the 2018 Revolver and 1.35% to 2.25% for the 2018 Term Loans. Base Rate means the higher of: (a) the Agent’s prime commercial rate, (b) the sum of (i) the average rate quoted by the Agent by two or more federal funds brokers selected by the Agent for sale to the Agent at face value of federal funds in the secondary market in an amount equal or comparable to the principal amount for which such rate is being determined, plus (ii) 1/2 of 1.00%, and (c) the LIBOR rate for such day plus 1.00%. Adjusted LIBOR means LIBOR divided by one minus the Eurodollar Reserve Percentage. The Eurodollar Reserve Percentage means the maximum reserve percentage at which reserves are imposed by the Board of Governors of the Federal Reserve System on eurocurrency liabilities.

Proceeds from the 2018 Facility were used for general corporate purposes, including property acquisitions, debt repayment, capital expenditures, the expansion, redevelopment and re-tenanting of properties in our portfolio and working capital.

As of March 31, 2020, our $171.0 million in secured debt was collateralized by eight properties with a carrying value of $268.8 million.  Our loans contain restrictions that would require the payment of prepayment penalties for the acceleration of outstanding debt and are secured by deeds of trust on certain of our properties and by assignment of the rents and leases associated with those properties. As of March 31, 2020, we were in compliance with all loan covenants.

22
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

Scheduled maturities of our outstanding debt as of March 31, 2020 were as follows (in thousands):
Year
 
Amount Due
 
 
 
2020
 
$
11,605

2021
 
1,611

2022
 
101,683

2023
 
167,363

2024
 
228,573

Thereafter
 
165,715

Total
 
$
676,550

 
8.  DERIVATIVES AND HEDGING ACTIVITIES

The fair value of our interest rate swaps is as follows (in thousands):

 
 
March 31, 2020
Balance Sheet Location
 
Estimated Fair Value
Prepaid expenses and other assets
 
 
$
—

Accounts payable and accrued expenses
 
 
$
(16,553
)
    
 
 
December 31, 2019
Balance Sheet Location
 
Estimated Fair Value
Prepaid expenses and other assets
 
 
$
59

Accounts payable and accrued expenses
 
 
$
(5,660
)

On January 31, 2019, we, through our Operating Partnership, entered into an interest rate swap of $65 million with Bank of Montreal that fixed the LIBOR portion of Term Loan A under the 2019 Facility at 2.43%. Pursuant to the terms of the agreement governing the interest rate swap, Bank of Montreal assigned $12.9 million of the swap to U.S. Bank, National Association, $11.6 million of the swap to Regions Bank, $15.7 million of the swap to SunTrust Bank, and $5.9 million of the swap to Associated Bank. See Note 7 (Debt) for additional information regarding the 2019 Facility. The swap began on February 7, 2019 and will mature on November 9, 2020. We have designated the interest rate swap as a cash flow hedge with the effective portion of the changes in fair value to be recorded in comprehensive income (loss) and subsequently reclassified into earnings in the period that the hedged transaction affects earnings. The ineffective portion of the change in fair value, if any, will be recognized directly in earnings. The Company does not expect any amount of the existing gains or losses to be reclassified into earnings within the next 12 months.

On January 31, 2019, we, through our Operating Partnership, entered into an interest rate swap of $115 million with Bank of Montreal that fixed the LIBOR portion of Term Loan A under the 2019 Facility at 2.43%. Pursuant to the terms of the agreement governing the interest rate swap, Bank of Montreal assigned $22.7 million of the swap to U.S. Bank, National Association, $20.5 million of the swap to Regions Bank, $27.9 million of the swap to SunTrust Bank, and $10.5 million of the swap to Associated Bank. See Note 7 (Debt) for additional information regarding the 2019 Facility. The swap will begin on November 9, 2020 and will mature on February 8, 2021. We have designated the interest rate swap as a cash flow hedge with the effective portion of the changes in fair value to be recorded in comprehensive income (loss) and subsequently reclassified into earnings in the period that the hedged transaction affects earnings. The ineffective portion of the change in fair value, if any, will be recognized directly in earnings. The Company does not expect any amount of the existing gains or losses to be reclassified into earnings within the next 12 months.


23
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

On January 31, 2019, we, through our Operating Partnership, entered into an interest rate swap of $165 million with Bank of Montreal that fixed the LIBOR portion of Term Loan A under the 2019 Facility at 2.43%. Pursuant to the terms of the agreement governing the interest rate swap, Bank of Montreal assigned $32.6 million of the swap to U.S. Bank, National Association, $29.4 million of the swap to Regions Bank, $40.0 million of the swap to SunTrust Bank, and $15.0 million of the swap to Associated Bank. See Note 7 (Debt) for additional information regarding the 2019 Facility. The swap will begin on February 8, 2021 and will mature on January 31, 2024. We have designated the interest rate swap as a cash flow hedge with the effective portion of the changes in fair value to be recorded in comprehensive income (loss) and subsequently reclassified into earnings in the period that the hedged transaction affects earnings. The ineffective portion of the change in fair value, if any, will be recognized directly in earnings. The Company does not expect any amount of the existing gains or losses to be reclassified into earnings within the next 12 months.

On September 5, 2018, we, through our Operating Partnership, entered into an interest rate swap with Bank of America that fixed the LIBOR portion of the $9.6 million extension loan on the Whitestone Terravita Marketplace property at 2.85%. The swap began on September 24, 2018 and will mature on September 24, 2020. We have designated the interest rate swap as a cash flow hedge with the effective portion of the changes in fair value to be recorded in comprehensive income (loss) and subsequently reclassified into earnings in the period that the hedged transaction affects earnings. The ineffective portion of the change in fair value, if any, will be recognized directly in earnings. The Company does not expect any amount of the existing gains or losses to be reclassified into earnings within the next 12 months.
    
On November 19, 2015, we, through our Operating Partnership, entered into an interest rate swap with Bank of Montreal that fixed the LIBOR portion of Term Loan B at 1.73%. In the fourth quarter of 2015, pursuant to the terms of the agreement governing the interest rate swap, Bank of Montreal assigned $35.0 million of the swap to U.S. Bank, National Association, and $15.0 million of the swap to SunTrust Bank. See Note 7 (Debt) for additional information regarding the 2018 Facility. The swap began on November 30, 2015 and will mature on October 28, 2022. We have designated the interest rate swap as a cash flow hedge with the effective portion of the changes in fair value to be recorded in comprehensive income (loss) and subsequently reclassified into earnings in the period that the hedged transaction affects earnings. The ineffective portion of the change in fair value, if any, will be recognized directly in earnings. The Company does not expect any amount of the existing gains or losses to be reclassified into earnings within the next 12 months.

On November 19, 2015, we, through our Operating Partnership, entered into an interest rate swap of $50 million with Bank of Montreal that fixed the LIBOR portion of Term Loan A at 1.75%. In the fourth quarter of 2015, pursuant to the terms of the agreement governing the interest rate swap, Bank of Montreal assigned $3.8 million of the swap to Regions Bank, $6.5 million of the swap to U.S. Bank, National Association, $14.0 million of the swap to Wells Fargo Bank, National Association, $14.0 million of the swap to Bank of America, N.A., and $5.0 million of the swap to SunTrust Bank. The swap began on February 3, 2017 and will mature on October 30, 2020. We have designated the interest rate swap as a cash flow hedge with the effective portion of the changes in fair value to be recorded in comprehensive income (loss) and subsequently reclassified into earnings in the period that the hedged transaction affects earnings. The ineffective portion of the change in fair value, if any, will be recognized directly in earnings. The Company does not expect any amount of the existing gains or losses to be reclassified into earnings within the next 12 months.

On November 19, 2015, we, through our Operating Partnership, entered into an interest rate swap of $50 million with Bank of Montreal that fixed the LIBOR portion of Term Loan A at 1.50%. In the fourth quarter of 2015, pursuant to the terms of the agreement governing the interest rate swap, Bank of Montreal assigned $3.8 million of the swap to Regions Bank, $6.5 million of the swap to U.S. Bank, National Association, $14.0 million of the swap to Wells Fargo Bank, National Association, $14.0 million of the swap to Bank of America, N.A., and $5.0 million of the swap to SunTrust Bank. The swap began on December 7, 2015 and will mature on January 29, 2021. We have designated the interest rate swap as a cash flow hedge with the effective portion of the changes in fair value to be recorded in comprehensive income (loss) and subsequently reclassified into earnings in the period that the hedged transaction affects earnings. The ineffective portion of the change in fair value, if any, will be recognized directly in earnings. The Company does not expect any amount of the existing gains or losses to be reclassified into earnings within the next 12 months.
  

24
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

A summary of our interest rate swap activity is as follows (in thousands):
 
 
Amount Recognized as Comprehensive Income (Loss)
 
Location of Income (Loss) Recognized in Earnings
 
Amount of Income (Loss) Recognized in Earnings (1)
Three months ended March 31, 2020
 
$
(10,952
)
 
Interest expense
 
$
(151
)
Three months ended March 31, 2019
 
$
(3,470
)
—

Interest expense
 
$
428


(1) 
There was no ineffective portion of our interest rate swaps to recognize in earnings for the three months ended March 31, 2020 and 2019.

9.  EARNINGS PER SHARE
 
Basic earnings per share for our common shareholders is calculated by dividing income from continuing operations excluding the net income attributable to unvested restricted common shares and the net income attributable to noncontrolling interests, by our weighted average common shares outstanding during the period.  Diluted earnings per share is computed by dividing the net income attributable to common shareholders, excluding the net income attributable to unvested restricted common shares and the net income attributable to noncontrolling interests, by the weighted average number of common shares including any dilutive unvested restricted common shares.
 
Certain of our performance-based restricted common shares are considered participating securities that require the use of the two-class method for the computation of basic and diluted earnings per share.  During the three months ended March 31, 2020 and 2019, 904,550 and 928,070 OP units, respectively, were excluded from the calculation of diluted earnings per share because their effect would be anti-dilutive.
 
For the three months ended March 31, 2019, distributions of $41,000 were made to holders of certain restricted common shares. See Note 12 (Incentive Share Plan) for information related to restricted common shares under the 2018 Plan and the 2008 Plan.


25
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

 
 
Three Months Ended
 
 
March 31,
(in thousands, except per share data)
 
2020
 
2019
Numerator:
 
 
 
 
Net income
 
$
1,647

 
$
2,839

Less: Net income attributable to noncontrolling interests
 
(35
)
 
(65
)
Distributions paid on unvested restricted shares
 
—

 
(41
)
Net income attributable to common shareholders excluding amounts attributable to unvested restricted shares
 
$
1,612

 
$
2,733

 
 
 
 
 
Denominator:
 
 
 
 
Weighted average number of common shares - basic
 
42,048

 
39,649

Effect of dilutive securities:
 
 
 
 
Unvested restricted shares
 
961

 
977

Weighted average number of common shares - dilutive
 
43,009

 
40,626

 
 
 
 
 
Earnings Per Share:
 
 
 
 
Basic:
 
 
 
 
Net income attributable to common shareholders excluding amounts attributable to unvested restricted shares
 
$
0.04

 
$
0.07

Diluted:
 
 
 
 
Net income attributable to common shareholders excluding amounts attributable to unvested restricted shares
 
$
0.04

 
$
0.07


10. INCOME TAXES

With the exception of our taxable REIT subsidiaries, federal income taxes are generally not provided because we intend to and believe we continue to qualify as a REIT under the provisions of the Internal Revenue Code of 1986, as amended (the “Code”), and because we have distributed and intend to continue to distribute all of our taxable income to our shareholders.  As a REIT, we must distribute at least 90% of our REIT taxable income to our shareholders and meet certain income sources and investment restriction requirements.  In addition, REITs are subject to a number of organizational and operational requirements.  If we fail to qualify as a REIT in any taxable year, we will be subject to federal income tax (including any applicable alternative minimum tax) on our taxable income at regular corporate tax rates.
 
We are subject to the Texas Margin Tax, which is computed by applying the applicable tax rate (0.75% for us) to the profit margin, which generally will be determined for us as total revenue less a 30% standard deduction.  Although the Texas Margin Tax is not an income tax, FASB ASC 740, “Income Taxes” applies to the Texas Margin Tax.  For the three months ended March 31, 2020 and 2019, we recognized approximately $87,000 and $118,000 in margin tax provision, respectively.

11.  EQUITY

Common Shares    

Under our declaration of trust, as amended, we have authority to issue up to 400,000,000 common shares of beneficial interest, $0.001 par value per share, and up to 50,000,000 preferred shares of beneficial interest, $0.001 par value per share.
  

26
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

Equity Offerings

On May 31, 2019, we entered into nine equity distribution agreements for an at-the-market equity distribution program (the “2019 equity distribution agreements”) providing for the issuance and sale of up to an aggregate of $100 million of the Company’s common shares pursuant to our Registration Statement on Form S-3 (File No. 333-225007). Actual sales will depend on a variety of factors determined by us from time to time, including (among others) market conditions, the trading price of our common shares, capital needs and our determinations of the appropriate sources of funding for us, and were made in transactions that will be deemed to be “at-the-market” offerings as defined in Rule 415 under the Securities Act. We have no obligation to sell any of our common shares and can at any time suspend offers under the 2019 equity distribution agreements or terminate the 2019 equity distribution agreements. In light of the significant decline in the price of our common shares since the outbreak of COVID-19, we do not currently anticipate selling shares under the 2019 equity distribution agreements until the price of our common shares increases significantly. However, if necessary, we could choose to issue shares at prevailing market prices if our liquidity position so requires. During the three months ended March 31, 2020, we sold 170,942 common shares under the 2019 equity distribution agreements, with net proceeds to us of approximately $2.2 million. In connection with such sales, we paid compensation of approximately $34,000 to the sales agents.

Operating Partnership Units

Substantially all of our business is conducted through our Operating Partnership.  We are the sole general partner of the Operating Partnership.  As of March 31, 2020, we owned a 97.9% interest in the Operating Partnership.
 
Limited partners in the Operating Partnership holding OP units have the right to redeem their OP units for cash or, at our option, common shares at a ratio of one OP unit for one common share.  Distributions to OP unit holders are paid at the same rate per unit as distributions per share to holders of Whitestone common shares.  As of March 31, 2020 and December 31, 2019, there were 42,917,552 and 42,279,849 OP units outstanding, respectively.  We owned 42,014,208 and 41,371,277 OP units as of March 31, 2020 and December 31, 2019, respectively. The balance of the OP units is owned by third parties, including certain members of our board of trustees.  Our weighted average share ownership in the Operating Partnership was approximately 97.9% and 97.7% for the three months ended March 31, 2020 and 2019, respectively. During the three months ended March 31, 2020 and 2019, 5,228 and 507 OP units, respectively, were redeemed for an equal number of common shares.

 Distributions

The following table summarizes the cash distributions paid or payable to holders of common shares and to holders of noncontrolling OP units during each quarter of 2019 and the three months ended March 31, 2020 (in thousands, except per share/per OP unit data):
 
 
Common Shares
 
Noncontrolling OP Unit Holders
 
Total
Quarter Paid
 
Distributions Per Common Share
 
Amount Paid
 
Distributions Per OP Unit
 
Amount Paid
 
 Amount Paid
2020
 
 
 
 
 
 
 
 
 
 
First Quarter
 
$
0.2850

 
$
11,928

 
$
0.2850

 
$
258

 
$
12,186

Total
 
$
0.2850

 
$
11,928

 
$
0.2850

 
$
258


$
12,186

 
 
 
 
 
 
 
 
 
 
 
2019
 
 
 
 
 
 
 
 
 
 
Fourth Quarter
 
$
0.2850

 
$
11,580

 
$
0.2850

 
$
262

 
$
11,842

Third Quarter
 
0.2850

 
11,430

 
0.2850

 
264

 
11,694

Second Quarter
 
0.2850

 
11,316

 
0.2850

 
265

 
11,581

First Quarter
 
0.2850

 
11,301

 
0.2850

 
264

 
11,565

Total
 
$
1.1400

 
$
45,627

 
$
1.1400

 
$
1,055

 
$
46,682



27
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

On March 24, 2020 we announced that, in further pursuit of ensuring our financial flexibility, our Board of Trustees (the “Board”) determined to conserve additional liquidity by reducing our distribution in response to the COVID-19 pandemic. The distribution reduction is expected to result in over $30 million of annualized cash savings. The Board has declared a monthly cash distribution for the second quarter of 2020 of $0.035 per share on the Company’s common shares and operating partnership units. This amount represents a quarterly amount of $0.105, and an annualized amount of $0.42 per share.

The Board will regularly reassess the dividend, particularly as there is more clarity on the duration and severity of the national COVID-19 crisis and as business conditions improve.

12.  INCENTIVE SHARE PLAN
 
On July 29, 2008, our shareholders approved the 2008 Plan. On December 22, 2010, our board of trustees amended the 2008 Plan to allow for awards in or related to Class B common shares pursuant to the 2008 Plan. On June 27, 2012, our Class B common shares were redesignated as “common shares.” The 2008 Plan, as amended, expired on July 29, 2018 and provided that awards may be made with respect to common shares of Whitestone or OP units, which may be redeemed for cash or, at our option, common shares of Whitestone. The maximum aggregate number of common shares issuable under the 2008 Plan was increased upon each issuance of common shares by Whitestone so that at any time the maximum number of common shares issuable under the 2008 Plan equaled 12.5% of the aggregate number of common shares of Whitestone and OP units issued and outstanding (other than common shares and/or OP units issued to or held by Whitestone).

The Compensation Committee of our board of trustees administered the 2008 Plan, except with respect to awards to non-employee trustees, for which the 2008 Plan was administered by our board of trustees.  The Compensation Committee is authorized to grant share options, including both incentive share options and non-qualified share options, as well as share appreciation rights, either with or without a related option. The Compensation Committee is also authorized to grant restricted common shares, restricted common share units, performance awards and other share-based awards. 

On April 2, 2014, the Compensation Committee approved the modification of the vesting provisions with respect to awards of an aggregate of 633,704 restricted common shares and restricted common share units granted under the 2008 Plan to certain of our employees. The modified time-based shares vested annually in three equal installments. The modified performance-based restricted common shares and restricted common share units were modified to include performance-based vesting based on achievement of certain absolute financial goals, as well as one to two years of time-based vesting post achievement of financial goals. Continued employment was required through the applicable vesting date. Additionally, 2,049,116 restricted performance-based common share units were granted with the same vesting conditions as the modified performance-based grants described above. The performance targets were not met prior to December 31, 2018, and any unvested performance-based restricted common shares and restricted common share units were forfeited due to the performance targets not being met.

The Compensation Committee approved the grant of an aggregate of 320,000 and 143,000 time-based restricted common share units under the 2008 Plan on June 30, 2016 and 2015, respectively, to James C. Mastandrea and David K. Holeman.

At the Company’s annual meeting of shareholders on May 11, 2017, its shareholders voted to approve the 2018 Long-Term Equity Incentive Ownership Plan (the “2018 Plan”). The 2018 Plan provides for the issuance of up to 3,433,831 common shares and OP units pursuant to awards under the 2018 Plan. The 2018 Plan became effective on July 30, 2018, which was the day after the 2008 Plan expired.

The Compensation Committee administers the 2018 Plan, except with respect to awards to non-employee trustees, for which the 2018 Plan is administered by the board of trustees. The Compensation Committee is authorized to grant share options, including both incentive share options and non-qualified share options, as well as share appreciation rights, either with or without a related option. The Compensation Committee is also authorized to grant restricted common shares, restricted common share units, performance awards and other share-based awards.


28
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

On September 6, 2017, the Compensation Committee approved the grant of an aggregate of 267,783 performance-based restricted common share units under the 2008 Plan with market-based vesting conditions (the “TSR Units”) to certain of our employees. Vesting is contingent upon achieving Total Shareholder Return relative to the peer group defined in the TSR Unit award agreements over a three-year performance period. At the end of the performance period, the number of common shares awarded for each vested TSR Unit will vary from 0% to 200% depending on the Company’s ranking in the peer group (the “TSR Peer Group Ranking”). Continued employment is required through the vesting date. The grant date fair value for each TSR Unit of $12.37 was determined using the Monte Carlo simulation method and is being recognized as share-based compensation expense ratably from the September 30, 2017 grant date to the end of the performance period, December 31, 2019. The Monte Carlo simulation model utilizes multiple input variables that determine the probability of satisfying the market condition stipulated in the award grant and calculates the fair value of the award. Expected volatilities utilized in the model were estimated using a historical period consistent with the performance period of approximately three years. The risk-free interest rate was based on the United States Treasury rate for a term commensurate with the expected life of the grant.

On September 6, 2017, the Compensation Committee approved the grant of an aggregate of 965,000 performance-based restricted common share units under the 2008 Plan which only vest immediately prior to the consummation of a Change in Control (as defined in the 2008 Plan) that occurs on or before September 30, 2024 (the “CIC Units”) to certain of our employees. Continued employment is required through the vesting date. If a Change in Control does not occur on or before September 30, 2024, the CIC Units shall be immediately forfeited. The Company considers a Change in Control on or before September 30, 2024 to be improbable, and no expense has been recognized for the CIC Units. If a Change in Control occurs, any outstanding CIC Units would be expensed immediately on the date of the Change in Control using the grant date fair value. The grant date fair value for each CIC Unit of $13.05 was determined based on the Company’s closing share price on the grant date.     
    
On March 16, 2018, the Compensation Committee approved the grant of an aggregate of 387,499 time-based restricted common share units under the 2008 Plan, which vest annually in three equal installments, and 4,300 performance-based restricted common share units to certain of our employees.

On December 1, 2018, the Compensation Committee approved the grant of an aggregate of 229,684 TSR Units under the 2018 Plan to certain of our employees. Vesting is contingent upon achieving Total Shareholder Return relative to the peer group defined in the TSR Unit award agreements over a three-year performance period. At the end of the performance period, the number of common shares awarded for each vested TSR Unit will vary from 0% to 200% depending on the Company’s TSR Peer Group Ranking. Continued employment is required through the vesting date. The grant date fair value for each TSR Unit of $14.89 was determined using the Monte Carlo simulation method and is being recognized as share-based compensation expense ratably from the December 1, 2018 grant date to the end of the performance period, December 31, 2020. The Monte Carlo simulation model utilizes multiple input variables that determine the probability of satisfying the market condition stipulated in the award grant and calculates the fair value of the award. Expected volatilities utilized in the model were estimated using a historical period consistent with the performance period of approximately three years. The risk-free interest rate was based on the United States Treasury rate for a term commensurate with the expected life of the grant.

On June 30, 2019, the Compensation Committee approved the grant of an aggregate of 405,417 TSR Units and 317,184 time-based restricted common share units under the 2018 Plan to certain of our employees. On September 30, 2019, the Compensation Committee approved the grant of 17,069 time-based restricted common share units under the 2018 Plan to certain of our employees. Vesting of the TSR Units is contingent upon achieving Total Shareholder Return relative to the peer group defined in the TSR Unit award agreements over a three-year performance period. At the end of the performance period, the number of common shares awarded for each vested TSR Unit will vary from 0% to 200% depending on the Company’s TSR Peer Group Ranking. Continued employment is required through the vesting date. The grant date fair value for each TSR Unit of $8.22 was determined using the Monte Carlo simulation method and is being recognized as share-based compensation expense ratably from the June 30, 2019 grant date to the end of the performance period, December 31, 2021. The Monte Carlo simulation model utilizes multiple input variables that determine the probability of satisfying the market condition stipulated in the award grant and calculates the fair value of the award. Expected volatilities utilized in the model were estimated using a historical period consistent with the performance period of approximately three years. The risk-free interest rate was based on the United States Treasury rate for a term commensurate with the expected life of the grant. The time-based restricted common share units have a grant date fair value of $10.63 and $11.69 and vest annually in three equal installments for the June 30, 2019 and September 30, 2019 grants, respectively.

29
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)


A summary of the share-based incentive plan activity as of and for the three months ended March 31, 2020 is as follows:
 
 
Shares
 
Weighted Average
Grant Date
Fair Value
Non-vested at January 1, 2020
 
2,339,932

 
$
11.52

Granted
 
—

 
—

Vested
 
(368,076
)
 
11.18

Forfeited
 
(20,392
)
 
10.38

Non-vested at March 31, 2020
 
1,951,464

 
$
11.60

Available for grant at March 31, 2020
 
1,964,547

 
 

A summary of our non-vested and vested shares activity for the three months ended March 31, 2020 and years ended December 31, 2018 and 2017 is presented below:
 
 
Shares Granted
 
Shares Vested
 
 
Non-Vested Shares Issued
 
Weighted Average Grant-Date Fair Value
 
Vested Shares
 
Total Vest-Date Fair Value
 
 
 
 
 
 
 
 
(in thousands)
Three Months Ended March 31, 2020
 
—

 
$
—

 
(368,076
)
 
$
4,115

Year Ended December 31, 2019
 
762,630

 
$
9.46

 
(284,964
)
 
$
3,352

Year Ended December 31, 2018
 
653,472

 
$
11.07

 
(560,126
)
 
$
7,978

    
Total compensation recognized in earnings for share-based payments was $1,326,000 and $1,951,000 for the three months ended March 31, 2020 and 2019, respectively.

Based on our current financial projections, we expect approximately 100% of the unvested awards, exclusive of 895,000 CIC Units, to vest over the next 30 months. As of March 31, 2020, there was approximately $3.4 million in unrecognized compensation cost related to outstanding non-vested TSR Units, which are expected to vest over a period of 21 months, and approximately $3.6 million in unrecognized compensation cost related to outstanding non-vested time-based shares, which are expected to be recognized over a period of approximately 30 months beginning on April 1, 2020.

We expect to record approximately $5.0 million in non-cash share-based compensation expense in 2020 and $3.3 million subsequent to 2020. The unrecognized share-based compensation cost is expected to vest over a weighted average period of 20 months. The dilutive impact of the performance-based shares will be included in the denominator of the earnings per share calculation beginning in the period that the performance conditions are expected to be met. The dilutive impact of the TSR Units is based on the Company’s TSR Peer Group Ranking as of the reporting date and weighted according to the number of days outstanding in the period. The TSR Units issued in 2017 vested at 200% attainment based on the TSR Peer Group Ranking, and, as of March 31, 2020, the TSR Peer Group Ranking called for 100% attainment for the shares issued in 2018, and 50% attainment for the shares issued in 2019. The dilutive impact of the CIC Units is based on the probability of a Change in Control. Because the Company considers a Change in Control on or before September 30, 2024 to be improbable, no CIC Units are included in the Company’s dilutive shares.
    

30
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

13. GRANTS TO TRUSTEES

On December 12, 2019, each of our six independent trustees and one trustee emeritus were granted approximately 3,000 common shares, which vest immediately and are prorated based on date appointed. The 19,562 common shares granted to our trustees had a grant fair value of $13.54 per share. On December 12, 2019, two of our independent trustees each elected to receive a total of 3,398 common shares with a grant date fair value of $13.54 in lieu of cash for board fees. The fair value of the shares granted during the year ended December 31, 2019 was determined using quoted prices available on the date of grant.

14. SEGMENT INFORMATION

Historically, our management has not differentiated results of operations by property type or location and, therefore, does not present segment information.

15. REAL ESTATE

Property Acquisitions. On December 6, 2019, we acquired Las Colinas Village, a property that meets our Community Centered Property® strategy, for $34.8 million in cash and net prorations. Las Colinas Village, a 104,919 square foot property, was 86% leased at the time of purchase and is located in Irving, Texas.
    
Development. As of March 31, 2020, we had substantially completed construction at our Anthem Marketplace Phase II property. As of March 31, 2020, we had incurred approximately $1.4 million in construction costs. The 6,853 square foot Community Centered Property® was 100% occupied as of March 31, 2020 and is located in Phoenix, Arizona, and adjacent to Anthem Marketplace.    

16.  RELATED PARTY TRANSACTIONS
 
Pillarstone OP. For the periods prior to January 1, 2018, Pillarstone OP was accounted for under the profit-sharing method, and related party transactions between the Company and Pillarstone OP were eliminated. As a result of the adoption of Topic 606 and ASC 610 as of January 1, 2018, the Company derecognized the underlying assets and liabilities associated with the Contribution as of January 1, 2018 and recognized the Company’s investment in Pillarstone OP under the equity method.

During the ordinary course of business, we have transactions with Pillarstone OP that include, but are not limited to, rental income, interest expense, general and administrative costs, commissions, management and asset management fees, and property expenses.

The following table presents the revenue and expenses with Pillarstone OP included in our consolidated statements of operations and comprehensive loss for the three months ended March 31, 2020 (in thousands):
 
 
 
 
Three Months Ended March 31,
 
 
Location of Revenue (Expense)
 
2020
 
2019
Rent
 
Operating and maintenance
 
$
(264
)
 
$
(167
)
Property management fee income
 
Management, transaction, and other fees
 
$
156

 
$
66

Interest income
 
Interest, dividend and other investment income
 
$
—

 
$
56

    
On December 8, 2016, we received a $15.4 million financed receivable from Pillarstone OP to provide the financing for the ordinary course of business transactions for Pillarstone OP. The financed receivable has a interest rate of 1.4%-1.95% plus Libor and a maturity date of December 31, 2019. The financed receivable was paid off on October 17, 2019.


31
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

17.  COMMITMENTS AND CONTINGENCIES
 
We are subject to various legal proceedings and claims that arise in the ordinary course of business.  These matters are generally covered by insurance.  While the resolution of these matters cannot be predicted with certainty, management believes the final outcome of such matters will not have a material adverse effect on our financial position, results of operations, cash flows or liquidity.

On December 12, 2017, a property owner that owns a land parcel adjacent to a Whitestone property filed suit against Whitestone Pinnacle of Scottsdale - Phase II, LLC (“Whitestone Pinnacle”) alleging breach of contract and resulting in the delay of the construction of their assisted living facility. The claimant seeks approximately $2.3 million in restitution from Whitestone Pinnacle. The Company intends to vigorously defend the matter as it believes that these claims are without merit and that it has substantial legal and factual defenses to the claims and allegations contained in the complaint. Based upon the present status of this matter, the Company does not believe it is probable that a loss will be incurred. Accordingly, the Company has not recorded a charge as a result of this action.

18.  SUBSEQUENT EVENTS
 
In December 2019, a novel strain of coronavirus ("COVID-19") was reported to have surfaced in China. The World Health Organization has declared COVID-19 to constitute a "Public Health Emergency of International Concern" and characterized COVID-19 as a pandemic. The U.S. government has also implemented enhanced screenings, quarantine requirements and travel restrictions in connection with the COVID-19 outbreak. The spread of this virus has caused business disruption to the Company beginning in 2020, because businesses in the United States were concerned about the impact of COVID-19 on their operations. Local governments in Texas and Arizona, where our properties are located, have mandated a stay in place order, closed non-essential businesses until April 30, 2020, and closed other types of service businesses, such as bars and restaurants, though they can continue to provide take out and drive through services.
    
The Company is closely monitoring the impact of the COVID-19 pandemic on all aspects of its business and markets, including how it will impact the businesses of its tenants. The Company has put in place a temporary response team to address tenant concerns in light of the COVID-19 pandemic. The response team is in ongoing communication with the Company’s tenants and is assisting tenants in identifying local, state and federal resources that may be available to support their businesses and employees during the pandemic, including stimulus funds that may be available under the Coronavirus Aid, Relief, and Economic Security Act of 2020. The Company has received a number of rent relief requests from tenants, most often in the form of rent deferral requests, as a result of the COVID-19 pandemic. The Company is evaluating each tenant rent relief request on an individual basis, considering a number of factors. Not all tenant requests will ultimately result in lease concessions, nor is the Company forgoing its contractual rights under its lease agreements at this time. While the Company did not incur significant disruptions during the three months ended March 31, 2020 from the COVID-19 pandemic, it is unable to predict the ongoing impact that the COVID-19 pandemic will have on its future financial condition, results of operations and cash flows due to numerous uncertainties including, but not limited to, the duration and spread of the pandemic, its severity in the Company’s markets and elsewhere, governmental actions to contain the spread of the pandemic and respond to the reduction in global economic activity, and how quickly and to what extent normal economic and operating conditions can resume. To date, we have not experienced a significant impact on our ability to collect rental revenues as a result of the COVID-19 pandemic. However, as of the date of this Quarterly Report on Form 10-Q, as a result of the impact of the COVID-19 pandemic, we have received payment of approximately 64% of contractual base rent and common area maintenance reimbursables billed for the month of April. As is believed to be the case with retail landlords across the U.S., we have received a number of rent relief requests from tenants, most often in the form of rent deferral requests, which we are evaluating on a case-by-case basis.

On April 30, 2020, the Company entered into a loan in the principal amount of $1,733,510 from U.S. Bank National Association, one of the Company’s existing lenders, pursuant to the Paycheck Protection Program (the “PPP Loan”) of the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”). The PPP Loan matures on May 6, 2022 (the “Maturity Date”), accrues interest at 1.00% per annum and may be prepaid in whole or in part without penalty. Principal and interest are payable in 18 monthly installments of $96,864.28, beginning on December 6, 2020, plus a final payment equal to all unpaid principal and accrued interest on the Maturity Date.  Pursuant to the CARES Act, the Company can apply for, and be granted, forgiveness for all or a portion of the PPP Loan and such forgiveness will be determined, subject to limitations and ongoing rulemaking by the U.S. Small Business Administration, based on the use of loan proceeds for payroll costs, mortgage interest, rent or utility costs and the maintenance of employee and compensation levels.  The Company intends to use all

32
WHITESTONE REIT AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2020
(Unaudited)

proceeds from the PPP Loan to retain employees and maintain payroll and make mortgage payments, lease payments and utility payments to support business continuity throughout the COVID-19 pandemic, which amounts are intended to be eligible for forgiveness, subject to the provisions of the CARES Act.  However, no assurance is provided that the Company will obtain forgiveness of the PPP Loan in whole or in part.

Management has evaluated subsequent events through May 11, 2020, the date the consolidated financial statements were available to be issued and has determined that there are no other subsequent events to be reported.

33

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

You should read the following discussion of our financial condition and results of operations in conjunction with our unaudited consolidated financial statements and the notes thereto included in this Quarterly Report on Form 10-Q (the “Report”), and the consolidated financial statements and the notes thereto and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” contained in our Annual Report on Form 10-K for the year ended December 31, 2019.  For more detailed information regarding the basis of presentation for the following information, you should read the notes to the unaudited consolidated financial statements included in this Report.

This Report contains forward-looking statements within the meaning of the federal securities laws, including discussion and analysis of our financial condition, pending acquisitions and the impact of such acquisitions on our financial condition and results of operations, anticipated capital expenditures required to complete projects, amounts of anticipated cash distributions to our shareholders in the future and other matters.  These forward-looking statements are not historical facts but are the intent, belief or current expectations of our management based on its knowledge and understanding of our business and industry.  Forward-looking statements are typically identified by the use of terms such as “may,” “will,” “should,” “potential,” “predicts,” “anticipates,” “expects,” “intends,” “plans,” “believes,” “seeks,” “estimates” or the negative of such terms and variations of these words and similar expressions, although not all forward-looking statements include these words.  These statements are not guarantees of future performance and are subject to risks, uncertainties and other factors, some of which are beyond our control, are difficult to predict and could cause actual results to differ materially from those expressed or forecasted in the forward-looking statements.
     
Forward-looking statements that were true at the time made may ultimately prove to be incorrect or false.  You are cautioned not to place undue reliance on forward-looking statements, which reflect our management’s view only as of the date of this Report.  We undertake no obligation to update or revise forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events or changes to future operating results.

Factors that could cause actual results to differ materially from any forward-looking statements made in this Report include:

•
uncertainties related to the COVID-19 pandemic, including the unknown duration and economic, operational and financial impacts of the COVID-19 pandemic and the actions taken or contemplated by U.S. and local governmental authorities or others in response to the pandemic on our business, employees and tenants, including, among others, (a) changes in tenant demand for our properties, (b) financial challenges confronting major tenants, including as a result of decreased customers’ willingness to frequent, and mandated stay in place orders that have prevented customers from frequenting, some of our tenants’ businesses and the impact of these issues on our ability to collect rent from our tenants; (c) operational changes implemented by us, including remote working arrangements, which may put increased strain on our IT systems and create increased vulnerability to cybersecurity incidents, (d) significant reduction in our liquidity due to the lack of further availability under our 2019 Facility and limited ability to access the capital markets and other sources of financing on attractive terms or at all, and (e) prolonged measures to contain the spread of COVID-19 or the premature easing of government-imposed restrictions implemented to contain the spread of COVID-19;
•
the imposition of federal income taxes if we fail to qualify as a real estate investment trust (“REIT”) in any taxable year or forego an opportunity to ensure REIT status;
•
the risk of government investigation of the Paycheck Protection Program loan (the “PPP Loan”);
•
uncertainties related to the national economy, the real estate industry in general and in our specific markets;
•
legislative or regulatory changes, including changes to laws governing REITs and the impact of the legislation commonly known as the Tax Cuts and Jobs Act;
•
adverse economic or real estate developments or natural disasters in Texas, Arizona or Illinois;
•
increases in interest rates, operating costs or general and administrative expenses;
•
availability and terms of capital and financing, both to fund our operations and to refinance our indebtedness as it matures;
•
decreases in rental rates or increases in vacancy rates;
•
litigation risks;
•
lease-up risks, including leasing risks arising from exclusivity and consent provisions in leases with significant tenants;
•
our inability to renew tenant leases or obtain new tenant leases upon the expiration of existing leases;
•
our inability to generate sufficient cash flows due to market conditions, competition, uninsured losses, changes in tax or other applicable laws;
•
the need to fund tenant improvements or other capital expenditures out of operating cash flow;

34

•
the risk that we are unable to raise capital for working capital, acquisitions or other uses on attractive terms or at all;
 
The forward-looking statements should be read in light of these factors and the factors identified in the “Risk Factors” section of our Annual Report on Form 10-K for the year ended December 31, 2019, as previously filed with the Securities and Exchange Commission (“SEC”) and of this Report below.
 
Overview

We are a fully-integrated real estate company that owns and operates commercial properties in culturally diverse markets in major metropolitan areas. Founded in 1998, we are internally managed with a portfolio of commercial properties in Texas, Arizona and Illinois.

In October 2006, our current management team joined the Company and adopted a strategic plan to acquire, redevelop, own and operate Community Centered Properties®.  We define Community Centered Properties® as visibly located properties in established or developing culturally diverse neighborhoods in our target markets. We market, lease and manage our centers to match tenants with the shared needs of the surrounding neighborhood.  Those needs may include specialty retail, grocery, restaurants and medical, educational and financial services.  Our goal is for each property to become a Whitestone-branded retail community that serves a neighboring five-mile radius around our property.  We employ and develop a diverse group of associates who understand the needs of our multicultural communities and tenants.

We serve as the general partner of Whitestone REIT Operating Partnership, L.P. (the “Operating Partnership”), which was formed on December 31, 1998 as a Delaware limited partnership. We currently conduct substantially all of our operations and activities through the Operating Partnership. As the general partner of the Operating Partnership, we have the exclusive power to manage and conduct the business of the Operating Partnership, subject to certain customary exceptions.

As of March 31, 2020, we wholly-owned 58 commercial properties consisting of:

Consolidated Operating Portfolio

•
52 wholly-owned properties that meet our Community Centered Properties® strategy containing approximately 4.9 million square feet of gross leasable area (“GLA”) and having a total carrying amount (net of accumulated depreciation) of $903.7 million;

Redevelopment, New Acquisitions Portfolio

•
one wholly-owned property that meets our Community Centered Properties® strategy containing approximately 0.1 million square feet of GLA and having a total carrying amount (net of accumulated depreciation) of $34.5 million; and

•
five parcels of land held for future development that meet our Community Centered Properties® strategy having a total carrying value of $18.6 million.

As of March 31, 2020, we had an aggregate of 1,404 tenants.  We have a diversified tenant base with our largest tenant comprising only 2.9% of our annualized rental revenues for the three months ended March 31, 2020.  Lease terms for our properties range from less than one year for smaller tenants to over 15 years for larger tenants.  Our leases include minimum monthly lease payments and generally provide for tenant reimbursements for payment of taxes, insurance and maintenance. We completed 80 new and renewal leases during the three months ended March 31, 2020, totaling 221,139 square feet and approximately $22.0 million in total lease value.  This compares to 81 new and renewal leases totaling 199,643 square feet and approximately $15.8 million in total lease value during the same period in 2019.

We employed 92 full-time employees as of March 31, 2020.  As an internally managed REIT, we bear our own expenses of operations, including the salaries, benefits and other compensation of our employees, office expenses, legal, accounting and investor relations expenses and other overhead costs.


35

Real Estate Partnership

As of March 31, 2020, we, through our investment in Pillarstone OP, owned a majority interest in eight properties that do not meet our Community Centered Property® strategy containing approximately 926,798 square feet of GLA (the “Pillarstone Properties”). We own 81.4% of the total outstanding units of Pillarstone OP, which we account for using the equity method. We also manage the day-to-day operations of Pillarstone OP.


Impact of COVID-19

The following discussion is intended to provide our shareholders with certain information regarding the impacts of the COVID-19 pandemic on our business and management’s efforts to respond to those impacts. Unless otherwise specified, the statistical and other information regarding our portfolio and tenants are estimates based on information available to us as of May 11, 2020. As a result of the rapid development, fluidity and uncertainty surrounding this situation, we expect that such statistical and other information will change, potentially significantly, going forward and may not be indicative of the actual impact of the COVID-19 pandemic on our business, operations, cash flows and financial condition, and that of our tenants, for future periods.

The World Health Organization has declared COVID-19 to constitute a "Public Health Emergency of International Concern" and characterized COVID-19 as a pandemic. As a result, U.S. and many local governments have implemented enhanced screenings, quarantine or shelter in place requirements and travel restrictions For example, local governments in Texas and Arizona, where all but one of our properties are located, have mandated a stay in place order, closed non-essential businesses until April 30, 2020, and closed other types of service businesses, such as bars and restaurants, though such businesses can continue to provide take out and drive through services. On April 17, 2020, the Texas governor announced initial steps to begin the process of reopening the Texas economy. On April 29, 2020, the Arizona governor extended stay in place order through May 15 and announced initial steps to begin the process of reopening the Arizona economy. However, the timing and ultimate impact of any such steps on the economy as a whole and on our and our tenants’ businesses and financial condition remains uncertain. While we did not incur significant disruptions during the three months ended March 31, 2020 from the COVID-19 pandemic, we are unable to predict the impact that the COVID-19 pandemic will have on our financial condition, results of operations and cash flows due to numerous uncertainties including, but not limited to, the duration and spread of the pandemic, its severity in our markets and elsewhere, governmental actions to contain the spread of the pandemic and respond to the reduction in global economic activity, and how quickly and to what extent normal economic and operating conditions can resume.

Our portfolio and tenants have been impacted by these and other factors as follows:

•
As of the date of this Report, all of our properties are open and operating in compliance with federal, state and local COVID-19 guidelines and mandates.
•
Approximately 63% of our tenants (based on annualized base rent (“ABR”)) are open and operating.
•
As of the date of this Quarterly Report on Form 10-Q, we have received payment of approximately 64% of contractual base rent and common area maintenance reimbursables billed for the month of April. As is believed to be the case with retail landlords across the U.S., we have received a number of rent relief requests from tenants, most often in the form of rent deferral requests, which we are evaluating on an individual basis. Collections and rent relief requests to-date may not be indicative of collections or requests in any future period. The impact of the COVID-19 pandemic on our rental revenue for the second quarter of 2020 and thereafter cannot be determined at present.

We have taken a number of proactive measures to maintain the strength of our business and manage the impact of COVID-19 on our operations and liquidity, including the following:

•
To ensure adequate liquidity for a sustained period, we recently drew down $30 million of the availability of our revolving credit facility as a precautionary measure to preserve our financial flexibility. As of March 31, 2020, subject to any potential future paydowns or increases in the borrowing base, we have $8.7 million remaining availability. We have cash, cash equivalents and restricted cash of approximately $36,879,000 as of March 31, 2020.

36

•
We have taken a prudent pause in acquisitions activity and are carefully evaluating development and redevelopment activities on an individual basis.
•
Our board of trustees has reduced our quarterly dividend resulting in over $30 million of annualized savings. The board of trustees will regularly reassess the dividend, particularly as there is more clarity on the duration and severity of the COVID-19 pandemic and as business conditions improve.
•
We have put in place a temporary response team to address tenant concerns. The response team is in ongoing communication with our tenants and is assisting tenants in identifying local, state and federal resources that may be available to support their businesses and employees during the pandemic, including stimulus funds that may be available under the Coronavirus Aid, Relief, and Economic Security Act of 2020.
•
We are proactively implementing expense reductions at the property level to minimize cost pass-throughs to our tenants and at the corporate level to preserve profitability.
•
The health and safety of our employees and their families is a top priority. We have adapted our operations to protect employees, including by implementing a work from home policy.

While we believe these steps have been effective to date, we expect there will be additional challenges ahead that may impact either our operations or those of our tenants, which could have an adverse effect on our and our tenants’ businesses and financial performance. We expect to continue to implement proactive measures until we determine that the COVID-19 pandemic is adequately contained for purposes of our business, and we may take further actions as government authorities require or recommend or as we determine to be in the best interests of our employees and tenants. As a result, we may incur additional expenses in future periods in response to the pandemic, which could adversely affect our results of operations. In addition, we may revise our approach to these initiatives or take additional actions to meet the needs of our employees and tenants.

How We Derive Our Revenue
 
Substantially all of our revenue is derived from rents received from leases at our properties. We had total revenues of approximately $30.6 million and $29.7 million for the three months ended March 31, 2020 and 2019, respectively.

Known Trends in Our Operations; Outlook for Future Results 

Rental Income

We expect our rental income to increase year-over-year due to the addition of properties and rent increases on renewal leases. As a result of the COVID-19 pandemic, we have taken a prudent pause in acquisitions activity and are carefully evaluating development and redevelopment activities on a case-by-case basis, and there can be no assurance that our acquisition activity will return to previously anticipated levels in the near term following the end of the pandemic or at all. The amount of net rental income generated by our properties depends principally on our ability to maintain the occupancy rates of currently leased space and to lease currently available space, newly acquired properties with vacant space, and space available from unscheduled lease terminations. The amount of rental income we generate also depends on our ability to maintain or increase rental rates in our submarkets. Over the past three years, we have seen modest improvement in the overall economy in our markets, which has allowed us to maintain overall occupancy rates, with slight increases in occupancy at certain of our properties, and to recognize modest increases in rental rates. However, as of the date of this Report, as a result of the impact of the COVID-19 pandemic, we have received payment of approximately 64% of contractual base rent and common area maintenance reimbursables billed for the month of April. As is believed to be the case with retail landlords across the U.S., we have received a number of rent relief requests from tenants, most often in the form of rent deferral requests, which we are evaluating on an individual basis. While we did not incur significant disruptions in our ability to collect rental income during the three months ended March 31, 2020, we are unable to predict the impact that the COVID-19 pandemic will have on our rental income in the long term. The situation surrounding the COVID-19 pandemic remains fluid, and we are actively managing our response in collaboration with tenants, government officials and business partners and assessing potential impacts to our and our tenants’ financial positions and operating results.

Scheduled Lease Expirations    

We tend to lease space to smaller businesses that desire shorter term leases. As of March 31, 2020, approximately 24% of our GLA was subject to leases that expire prior to December 31, 2021.  Over the last three years, we have renewed expiring leases with respect to approximately 95% of our GLA. We routinely seek to renew leases with our existing tenants prior to their expiration and typically begin discussions with tenants as early as 24 months prior to the expiration date of the existing lease. Inasmuch as our early renewal program and other leasing and marketing efforts target these expiring leases, we work to re-lease most of that space prior to expiration of the leases. In the markets in which we operate, we obtain

37

and analyze market rental rates through review of third-party publications, which provide market and submarket rental rate data and through inquiry of property owners and property management companies as to rental rates being quoted at properties that are located in close proximity to our properties and we believe display similar physical attributes as our nearby properties. We use this data to negotiate leases with new tenants and renew leases with our existing tenants at rates we believe to be competitive in the markets for our individual properties. Due to the short term nature of our leases, and based upon our analysis of market rental rates, we believe that, in the aggregate, our current leases are at market rates. Market conditions, including new supply of properties, and macroeconomic conditions in our markets and nationally affecting tenant income, such as employment levels, business conditions, interest rates, tax rates, fuel and energy costs and other matters, could adversely impact our renewal rate and/or the rental rates we are able to negotiate. We continue to monitor our tenants’ operating performances as well as overall economic trends to evaluate any future negative impact on our renewal rates and rental rates, which could adversely affect our cash flow and ability to make distributions to our shareholders.
     
Acquisitions
 
We seek to grow our GLA through the acquisition of additional properties. Due to the impact of the COVID-19 pandemic, we have taken a prudent pause in acquisitions activity and are carefully evaluating development and redevelopment activities on a case-by-case basis. We believe that we will continue to have excellent opportunities to acquire quality properties at historically attractive prices once we recommence acquisition activity as the impact of COVID-19 decreases; however there can be no assurance that our acquisition activity will return to previously anticipated levels in the near term or at all. We have extensive relationships with community banks, attorneys, title companies and others in the real estate industry, which we believe enables us to take advantage of these market opportunities and maintain an active acquisition pipeline.
 
 
Property Acquisitions, Dispositions and Development
 
We seek to acquire commercial properties in high-growth markets. Our acquisition targets are properties that fit our Community Centered Properties® strategy.  We may acquire properties in other high-growth cities in the future.

Property Acquisitions. On December 6, 2019, we acquired Las Colinas Village, a property that meets our Community Centered Property® strategy, for $34.8 million in cash and net prorations. Las Colinas Village, a 104,919 square foot property, was 86% leased at the time of purchase and is located in Irving, Texas.

Development. As of March 31, 2020, we had substantially completed construction at our Anthem Marketplace Phase II property. As of March 31, 2020, we had incurred approximately $1.4 million in construction costs. The 6,853 square foot Community Centered Property® was 100% occupied as of March 31, 2020 and is located in Phoenix, Arizona, and adjacent to Anthem Marketplace.
    

38

Leasing Activity        
    
As of March 31, 2020, we owned 58 properties with 4,953,571 square feet of GLA and our occupancy rate for all properties was approximately 90% occupied as of March 31, 2020 and 2019. The following is a summary of the Company’s leasing activity for the three months ended March 31, 2020:
 
 
Number of Leases Signed
 
GLA Signed
 
Weighted Average Lease Term (2)
 
TI and Incentives per Sq. Ft. (3)
 
Contractual Rent Per Sq. Ft. (4)
 
Prior Contractual Rent Per Sq. Ft. (5)
 
Straight-lined Basis Increase (Decrease) Over Prior Rent
Comparable (1)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
   Renewal Leases
 
55

 
166,435

 
4.3

 
$
2.05

 
$
20.57

 
$
19.90

 
8.4
 %
   New Leases
 
8

 
12,579

 
4.6

 
8.51

 
22.10

 
24.99

 
(3.8
)%
   Total
 
63

 
179,014

 
4.4

 
$
2.50

 
$
20.67

 
$
20.26

 
7.3
 %
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Number of Leases Signed
 
GLA Signed
 
Weighted Average Lease Term (2)
 
TI and Incentives per Sq. Ft. (3)
 
Contractual Rent Per Sq. Ft. (4)
 
 
 
 
Non-Comparable
 
 
 
 
 
 
 
 
 
 
 
 
 
 
   Renewal Leases
 
1

 
1,795

 
5.4

 
$
41.72

 
$
54.90

 
 
 
 
   New Leases
 
16

 
40,330

 
4.4

 
11.81

 
20.10

 
 
 
 
   Total
 
17

 
42,125

 
4.4

 
$
13.09

 
$
21.58

 
 
 
 

(1)
Comparable leases represent leases signed on spaces for which there was a former tenant within the last twelve months and the new or renewal square footage was within 25% of the expired square footage.

(2) 
Weighted average lease term is determined on the basis of square footage.

(3) 
Estimated amount per signed leases. Actual cost of construction may vary. Does not include first generation costs for tenant improvements (“TI”) and leasing commission costs needed for new acquisitions or redevelopment of a property to bring to operating standards for its intended use.

(4) 
Contractual minimum rent under the new lease for the first month, excluding concessions.

(5) 
Contractual minimum rent under the prior lease for the final month.

Capital Expenditures

Due to the impact of the COVID-19 pandemic, we have taken a prudent pause in acquisitions activity and are carefully evaluating development and redevelopment activities on a case-by-case basis.


39

The following is a summary of the Company's capital expenditures for the three months ended March 31, 2020 and 2019 (in thousands):

 
 
Three Months Ended
 
 
March 31,
 
 
2020
 
2019
Capital expenditures:
 
 
 
 
    Tenant improvements and allowances
 
$
688

 
$
645

    Developments / redevelopments
 
187

 
919

    Leasing commissions and costs
 
376

 
399

    Maintenance capital expenditures
 
718

 
891

      Total capital expenditures
 
$
1,969

 
$
2,854


Critical Accounting Policies

In preparing the consolidated financial statements, we have made estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities as of the date of the financial statements and the reported amounts of revenue and expenses during the reported periods. Actual results may differ from these estimates.  A summary of our critical accounting policies is included in our Annual Report on Form 10-K for the year ended December 31, 2019, under “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”  There have been no significant changes to these policies during the three months ended March 31, 2020.  For disclosure regarding recent accounting pronouncements and the anticipated impact they will have on our operations, please refer to Note 2 to the consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2019.


40

Results of Operations

The comparability of our results of operations for the three months ended March 31, 2020 to future periods may be significantly impacted by the effects of the COVID-19 pandemic.

Comparison of the Three Months Ended March 31, 2020 and 2019
 
The following table provides a summary comparison of our results of operations and other metrics for the three months ended March 31, 2020 and 2019 (dollars in thousands, except per share and per OP unit amounts):
 
 
Three Months Ended March 31,
 
 
2020
 
2019
Number of properties owned and operated
 
58

 
57

Aggregate GLA (sq. ft.)(1)
 
4,848,652

 
4,841,660

Ending occupancy rate - operating portfolio(1)
 
90
%
 
90
%
Ending occupancy rate
 
90
%
 
90
%
 
 
 
 
 
Total revenues
 
$
30,584

 
$
29,694

Total operating expenses
 
22,204

 
20,939

Total other expense
 
6,838

 
6,290

Income from operations before equity investments in real estate partnerships and income tax
 
1,542

 
2,465

Equity in earnings of real estate partnership
 
192

 
492

Provision for income taxes
 
(87
)
 
(118
)
Net income
 
1,647

 
2,839

Less: Net income attributable to noncontrolling interests
 
35

 
65

Net income attributable to Whitestone REIT
 
$
1,612

 
$
2,774

 
 
 
 
 
Funds from operations(2)
 
$
9,265

 
$
9,860

Funds from operations core(3)
 
10,591

 
11,811

Property net operating income(4)
 
21,655

 
22,972

Distributions paid on common shares and OP units
 
12,186

 
11,565

Distributions per common share and OP unit
 
$
0.2850

 
$
0.2850

Distributions paid as a percentage of funds from operations core
 
115
%
 
98
%

(1)  
Excludes (i) new acquisitions, through the earlier of attainment of 90% occupancy or 18 months of ownership, and (ii) properties that are undergoing significant redevelopment or re-tenanting.

(2)  
For a reconciliation of funds from operations to net income, see “—Reconciliation of Non-GAAP Financial Measures—Funds From Operations (“FFO”)” below.

(3)  
For a reconciliation of funds from operations core to net income, see “—Reconciliation of Non-GAAP Financial Measures—FFO Core” below.

(4)  
For a reconciliation of property net operating income to net income, see “—Reconciliation of Non-GAAP Financial Measures—Property Net Operating Income (“NOI”)” below.


41

We define “Same Store” as properties that have been owned for the entire period being compared. For purposes of comparing the three months ended March 31, 2020 to the three months ended March 31, 2019, Same Store includes properties owned during the entire period from January 1, 2019 to March 31, 2020. We define “Non-Same Store” as properties acquired since the beginning of the period being compared and properties that have been sold, but not classified as discontinued operations.

Revenues. The primary components of revenue are detailed in the table below (in thousands, except percentages):
 
 
Three Months Ended March 31,
 
 
 
 
Revenue
 
2020
 
2019
 
Change
 
% Change
Same Store
 
 
 
 
 


 


Rental revenues (1) (3)
 
$
21,484

 
$
21,751

 
$
(267
)
 
(1
)%
Recoveries(2)
 
8,674

 
7,554

 
1,120

 
15
 %
Bad debt(3)
 
(806
)
 
(272
)
 
(534
)
 
196
 %
Total rental
 
29,352

 
29,033

 
319

 
1
 %
Other revenues (4)
 
196

 
428

 
(232
)
 
(54
)%
Same Store Total
 
29,548

 
29,461

 
87

 
—
 %
 
 
 
 
 
 
 
 
 
Non-Same Store and Management Fees
 
 
 
 
 
 
 
 
Rental revenues
 
593

 
—

 
593

 
Not meaningful

Recoveries
 
289

 
—

 
289

 
Not meaningful

Bad debt
 
(38
)
 
—

 
(38
)
 
Not meaningful

Total rental (5)
 
844

 
—

 
844

 
Not meaningful

Other revenues
 
36

 
—

 
36

 
Not meaningful

Management fees
 
156

 
233

 
(77
)
 
(33
)%
Non-Same Store and Management Fees Total
 
1,036

 
233

 
803

 
345
 %
 
 
 
 
 
 
 
 
 
Total revenue
 
$
30,584

 
$
29,694

 
$
890

 
3
 %

(1)
The Same Store tenant rent decrease of $267,000 resulted from a decrease of $16,000 from the decrease in the average leased square feet to 4,367,956 from 4,372,560, and a decrease of $251,000 from the average rent per leased square foot decreasing from $19.90 to $19.67.

(2)
The Same Store recoveries revenue increase of $1,120,000 is primarily attributable to increases in Same Store recoverable operations and maintenance cost of $506,000 in repairs and maintenance, $337,000 in contract services, and $277,000 in other recoverable operations and maintenance cost.
  
(3)
Same Store rental revenues and bad debt include the impact of converting approximately 40 tenants to cash basis accounting for the three months ended March 31, 2020. The $853,000 decrease to revenue was comprised of straight line rent and uncollected accounts receivables of $491,000 and $362,000, respectively.

(4) 
The decrease in Same Store other revenues is primarily comprised of decreased lease termination fees.

(5) 
Non-Same Store total rental revenue increased due to the addition of Las Colinas Village on December 6, 2019.

As of March 31, 2020, we have not experienced a significant impact on our ability to collect rental revenues as a result of the COVID-19 pandemic. However, as of the date of this Report, as a result of the impact of the COVID-19 pandemic, we have received payment of approximately 64% of contractual base rent and common area maintenance reimbursables billed for the month of April. As is believed to be the case with retail landlords across the U.S., we have received a number of rent relief requests from tenants, most often in the form of rent deferral requests, which we are evaluating on a case-by-case basis. We expect these conditions to continue in varying duration and severity until such time when the COVID-19 pandemic is effectively contained. While the full impact of the COVID-19 pandemic on our rental revenue for the second quarter of 2020

42

and thereafter cannot be determined at present, we anticipate that our rental revenue for the second quarter will be significantly lower when compared with the three months ended March 31, 2020.

Operating expenses. The primary components of operating expenses for the three months ended March 31, 2020 and 2019 are detailed in the table below (in thousands, except percentages):
 
 
Three Months Ended March 31,
 
 
 
 
Operating Expenses
 
2020
 
2019
 
Change
 
% Change
Same Store
 
 
 
 
 
 
 
 
Operating and maintenance (1)
 
$
5,221

 
$
4,203

 
$
1,018

 
24
 %
Real estate taxes
 
4,343

 
4,045

 
298

 
7
 %
Same Store total
 
9,564

 
8,248

 
1,316

 
16
 %
 
 
 
 
 
 
 
 
 
Non-Same Store and affiliated company rents
 
 
 
 
 
 
 
 
Operating and maintenance (2)
 
112

 
—

 
112

 
Not meaningful

Real estate taxes (2)
 
193

 
—

 
193

 
Not meaningful

Affiliated company rents (3)
 
264

 
225

 
39

 
17
 %
Non-Same Store and affiliated company rents total
 
569

 
225

 
344

 
153
 %
 
 
 
 
 
 
 
 
 
Depreciation and amortization
 
6,971

 
6,464

 
507

 
8
 %
 
 
 
 
 
 
 
 
 
General and administrative (4)
 
5,100

 
6,002

 
(902
)
 
(15
)%
 
 
 
 
 
 
 
 
 
Total operating expenses
 
$
22,204

 
$
20,939

 
$
1,265

 
6
 %

(1) 
The $1,018,000 Same Store operating and maintenance cost increase was primarily comprised of $506,000 in repairs and maintenance, $337,000 in contract services, and $175,000 in other recoverable operations and maintenance cost.

(2) 
Non-Same Store operating and maintenance and real estate tax expenses for the three months ended March 31, 2020 are due to the addition of Las Colinas Village on December 6, 2019.

(3) 
Affiliated company rents are spaces that we lease from Pillarstone OP.

(4) 
The general and administrative expense decrease was attributable to $625,000 in decreased share-based compensation expense, $230,000 in decreased legal expense, and $47,000 in decreased other general and administrative expenses. Please refer to Note 12 (Incentive Share Plan) and Note 17 (Commitments and Contingencies) to the accompanying consolidated financial statements for more information regarding share-based compensation expense and legal fees. Given the uncertainty regarding the impacts on our business resulting from the COVID-19 pandemic, we are focused on the proactive management of expenses. In future periods, we may incur additional selling, general and administrative expenses to support our responses to the COVID-19 pandemic.

    

43

Other expenses (income). The primary components of other expenses (income) for the three months ended March 31, 2020 and 2019 are detailed in the table below (in thousands, except percentages):
 
 
Three Months Ended March 31,
 
 
 
 
Other Expenses (Income)
 
2020
 
2019
 
Change
 
% Change
 
 
 
 
 
 
 
 
 
Interest expense (1)
 
$
6,693

 
$
6,533

 
$
160

 
2
 %
Gain on sale of properties
 
(46
)
 
—

 
(46
)
 
Not Meaningful

Loss on sale or disposal of assets
 
253

 
2

 
251

 
Not Meaningful

Interest, dividend and other investment income
 
(62
)
 
(245
)
 
183

 
(75
)%
Total other expense
 
$
6,838

 
$
6,290

 
$
548

 
9
 %

(1) 
The increase in interest expense is primarily attributable to an increase in our average notes payable balance from $620.6 million for the three months ended March 31, 2019 to $660.1 million for the three months ended March 31, 2020.

Equity in earnings of real estate partnership. Our equity in earnings of real estate partnership, which is generated from our 81.4% ownership of Pillarstone OP, decreased $300,000 from $492,000 for the three months ended March 31, 2019 to $192,000 for the three months ended March 31, 2020. The $300,000 decrease is primarily attributable to lower net income from Pillarstone OP for the three months ended March 31, 2020 as compared to the same period in 2019 resulting from the sale of Corporate Park West, Corporate Park Woodland and Plaza Park on October 8, 2019. Please refer to Note 6 (Investment in Real Estate Partnership) to the accompanying consolidated financial statements for more information regarding our investment in Pillarstone OP.
    
    

44

Same Store net operating income. The components of Same Store net operating income is detailed in the table below (in thousands):

 
 
Three Months Ended March 31,
 
Increase
 
% Increase
 
 
2020
 
2019
 
(Decrease)
 
(Decrease)
Same Store (51 properties, excluding development land)
 
 
 
 
 
 
 
 
Property revenues
 
 
 
 
 
 
 
 
Rental
 
$
29,352

 
$
29,033

 
$
319

 
1
 %
Management, transaction and other fees
 
196

 
428

 
(232
)
 
(54
)%
Total property revenues
 
29,548

 
29,461

 
87

 
—
 %
 
 
 
 
 
 
 
 
 
Property expenses
 
 
 
 
 
 
 
 
Property operation and maintenance
 
5,221

 
4,203

 
1,018

 
24
 %
Real estate taxes
 
4,343

 
4,045

 
298

 
7
 %
Total property expenses
 
9,564

 
8,248

 
1,316

 
16
 %
 
 
 
 
 
 
 
 
 
Total property revenues less total property expenses
 
19,984

 
21,213

 
(1,229
)
 
(6
)%
 
 
 
 
 
 
 
 
 
Same Store straight line rent adjustments
 
350

 
(460
)
 
810

 
(176
)%
Same Store amortization of above/below market rents
 
(217
)
 
(272
)
 
55

 
(20
)%
Same Store lease termination fees
 
(30
)
 
(209
)
 
179

 
(86
)%
 
 
 
 
 
 
 
 
 
Same Store NOI(1)
 
$
20,087

 
$
20,272

 
$
(185
)
 
(1
)%

(1)  
See below for a reconciliation of property net operating income to net income.


45

 
 
Three Months Ended March 31,
PROPERTY NET OPERATING INCOME (“NOI”)
 
2020
 
2019
Net income attributable to Whitestone REIT
 
$
1,612

 
$
2,774

General and administrative expenses
 
5,100

 
6,002

Depreciation and amortization
 
6,971

 
6,464

Equity in earnings of real estate partnership
 
(192
)
 
(492
)
Interest expense
 
6,693

 
6,533

Interest, dividend and other investment income
 
(62
)
 
(245
)
Provision for income taxes
 
87

 
118

Gain on sale of properties
 
(46
)
 
—

Management fee, net of related expenses
 
108

 
(8
)
Loss on sale or disposal of assets and properties
 
253

 
2

NOI of real estate partnership (pro rata)
 
1,096

 
1,759

Net income attributable to noncontrolling interests
 
35

 
65

NOI
 
$
21,655

 
$
22,972

Non-Same Store NOI  (1)
 
(575
)
 
—

NOI of real estate partnership (pro rata)
 
(1,096
)
 
(1,759
)
NOI less Non-Same Store NOI and NOI of real estate partnership (pro rata)
 
19,984

 
21,213

Same Store straight line rent adjustments
 
350

 
(460
)
Same Store amortization of above/below market rents
 
(217
)
 
(272
)
Same Store lease termination fees
 
(30
)
 
(209
)
Same Store NOI (2)
 
$
20,087

 
$
20,272


(1) 
We define “Non-Same Store” as properties that have been acquired since the beginning of the period being compared and properties that have been sold, but not classified as discontinued operations. For purposes of comparing the three months ended March 31, 2020 to the three months ended March 31, 2019, Non-Same Store includes properties acquired between January 1, 2019 and March 31, 2020 and properties sold between January 1, 2019 and March 31, 2020, but not included in discontinued operations.

(2) 
We define “Same Store” as properties that have been owned during the entire period being compared. For purposes of comparing the three months ended March 31, 2020 to the three months ended March 31, 2019, Same Store includes properties owned before January 1, 2019 and not sold before March 31, 2020. Straight line rent adjustments, above/below market rents, and lease termination fees are excluded.





46

Reconciliation of Non-GAAP Financial Measures

Funds From Operations (NAREIT) (“FFO”)
 
The National Association of Real Estate Investment Trusts (“NAREIT”) defines FFO as net income (loss) (calculated in accordance with GAAP), excluding depreciation and amortization related to real estate, gains or losses from the sale of certain real estate assets, gains and losses from change in control, and impairment write-downs of certain real estate assets and investments in entities when the impairment is directly attributable to decreases in the value of depreciable real estate held by the entity. We calculate FFO in a manner consistent with the NAREIT definition and also include adjustments for our unconsolidated real estate partnership.
 
Management uses FFO as a supplemental measure to conduct and evaluate our business because there are certain limitations associated with using GAAP net income (loss) alone as the primary measure of our operating performance.

Historical cost accounting for real estate assets in accordance with GAAP implicitly assumes that the value of real estate assets diminishes predictably over time.  Because real estate values instead have historically risen or fallen with market conditions, management believes that the presentation of operating results for real estate companies that use historical cost accounting is insufficient by itself.  In addition, securities analysts, investors and other interested parties use FFO as the primary metric for comparing the relative performance of equity REITs.  

FFO should not be considered as an alternative to net income or other measurements under GAAP, as an indicator of our operating performance or to cash flows from operating, investing or financing activities as a measure of liquidity.  FFO does not reflect working capital changes, cash expenditures for capital improvements or principal payments on indebtedness. Although our calculation of FFO is consistent with that of NAREIT, there can be no assurance that FFO presented by us is comparable to similarly titled measures of other REITs.

Funds From Operations Core (“FFO Core”)

Management believes that the computation of FFO in accordance with NAREIT’s definition includes certain items that are not indicative of the results provided by our operating portfolio and affect the comparability of our period-over-period performance. These items include, but are not limited to, legal settlements, proxy contest fees, debt extension costs, non-cash share-based compensation expense, rent support agreement payments received from sellers on acquired assets, management fees from Pillarstone and acquisition costs. Therefore, in addition to FFO, management uses FFO Core, which we define to exclude such items. Management believes that these adjustments are appropriate in determining FFO Core as they are not indicative of the operating performance of our assets. In addition, we believe that FFO Core is a useful supplemental measure for the investing community to use in comparing us to other REITs as many REITs provide some form of adjusted or modified FFO. However, there can be no assurance that FFO Core presented by us is comparable to the adjusted or modified FFO of other REITs.


47


Below are the calculations of FFO and FFO Core and the reconciliations to net income, which we believe is the most comparable U.S. GAAP financial measure (in thousands):

 
 
Three Months Ended March 31,
FFO (NAREIT) AND FFO-CORE
 
2020
 
2019
Net income attributable to Whitestone REIT
 
$
1,612

 
$
2,774

  Adjustments to reconcile to FFO:(1)
 
 
 
 
Depreciation and amortization of real estate assets
 
6,909

 
6,395

Depreciation and amortization of real estate assets of real estate partnership (pro rata)(2)
 
449

 
621

Loss on disposal of assets and properties
 
207

 
2

Loss on sale or disposal of properties or assets of real estate partnership (pro rata)(2)
 
53

 
3

Net income attributable to noncontrolling interests
 
35

 
65

FFO (NAREIT)
 
$
9,265

 
$
9,860

 
 
 
 
 
Share-based compensation expense
 
$
1,326

 
$
1,951

 
 
 
 
 
FFO Core
 
$
10,591

 
$
11,811



(1) 
Includes pro-rata share attributable to real estate partnership.

(2) 
Included in equity in earnings of real estate partnership on the consolidated statements of operations and comprehensive loss.


Property Net Operating Income (“NOI”)

Management believes that NOI is a useful measure of our property operating performance. We define NOI as operating revenues (rental and other revenues) less property and related expenses (property operation and maintenance and real estate taxes). Other REITs may use different methodologies for calculating NOI and, accordingly, our NOI may not be comparable to other REITs. Because NOI excludes general and administrative expenses, depreciation and amortization, involuntary conversion, interest expense, interest income, provision for income taxes, gain or loss on sale or disposition of assets, and our pro rata share of NOI of equity method investments, it provides a performance measure that, when compared year over year, reflects the revenues and expenses directly associated with owning and operating commercial real estate properties and the impact to operations from trends in occupancy rates, rental rates and operating costs, providing perspective not immediately apparent from net income. We use NOI to evaluate our operating performance since NOI allows us to evaluate the impact that factors such as occupancy levels, lease structure, lease rates and tenant base have on our results, margins and returns. In addition, management believes that NOI provides useful information to the investment community about our property and operating performance when compared to other REITs since NOI is generally recognized as a standard measure of property performance in the real estate industry. However, NOI should not be viewed as a measure of our overall financial performance since it does not reflect general and administrative expenses, depreciation and amortization, involuntary conversion, interest expense, interest income, provision for income taxes and gain or loss on sale or disposition of assets, the level of capital expenditures and leasing costs necessary to maintain the operating performance of our properties.

48

Below is the calculation of NOI and the reconciliations to net income, which we believe is the most comparable U.S. GAAP financial measure (in thousands):
 
 
Three Months Ended
 
 
March 31,
PROPERTY NET OPERATING INCOME
 
2020
 
2019
Net income attributable to Whitestone REIT
 
$
1,612

 
$
2,774

General and administrative expenses
 
5,100

 
6,002

Depreciation and amortization
 
6,971

 
6,464

Equity in earnings of real estate partnership
 
(192
)
 
(492
)
Interest expense
 
6,693

 
6,533

Interest, dividend and other investment income
 
(62
)
 
(245
)
Provision for income taxes
 
87

 
118

Gain on sale of assets and properties
 
(46
)
 
—

Management fee, net of related expenses
 
108

 
(8
)
Loss on sale or disposal of assets and properties
 
253

 
2

NOI of real estate partnership (pro rata)
 
1,096

 
1,759

Net income attributable to noncontrolling interests
 
35

 
65

NOI
 
$
21,655

 
$
22,972


Liquidity and Capital Resources
 
Our short-term liquidity requirements consist primarily of distributions to holders of our common shares and OP units, including those required to maintain our REIT status and satisfy our current quarterly distribution target of $0.105 per share and OP unit, recurring expenditures, such as repairs and maintenance of our properties, non-recurring expenditures, such as capital improvements and tenant improvements, debt service requirements, and, potentially, acquisitions of additional properties.

     During the three months ended March 31, 2020, our cash provided from operating activities was $5,213,000 and our total distributions were $12,186,000.  Therefore, we had distributions in excess of cash flow from operations of approximately $6,973,000. We anticipate that cash flows from operating activities and our borrowing capacity under our unsecured revolving credit facility will provide adequate capital for our working capital requirements, anticipated capital expenditures and scheduled debt payments in the short term. We also believe that cash flows from operating activities and our borrowing capacity will allow us to make all distributions required for us to continue to qualify to be taxed as a REIT for federal income tax purposes.

Our long-term capital requirements consist primarily of maturities under our longer-term debt agreements, development and redevelopment costs, and potential acquisitions. We expect to meet our long-term liquidity requirements with net cash from operations, long-term indebtedness, sales of common shares, issuance of OP units, sales of underperforming properties and non-core properties and other financing opportunities, including debt financing. We believe we have access to multiple sources of capital to fund our long-term liquidity requirements, including the incurrence of additional debt and the issuance of additional equity. However, our ability to incur additional debt will be dependent on a number of factors, including our degree of leverage, the value of our unencumbered assets and borrowing restrictions that may be imposed by lenders. To ensure adequate liquidity for a sustained period, we recently drew down $30 million of the availability of our revolving credit facility as a precautionary measure to preserve our financial flexibility. As of March 31, 2020, subject to any potential future paydowns or increases in the borrowing base, we have $8.7 million remaining availability under the revolving credit facility. Our ability to access the capital markets will be dependent on a number of factors as well, including general market conditions for REITs and market perceptions about our Company. In light of the impact of the COVID-19 pandemic and other dynamics in the capital markets impacted by COVID-19 and the economic slowdown, our access to capital may be diminished due to, among other things:

•
the potential reduction in the borrowing base under our 2019 Facility due to the potential reduction in real estate values and a reduction in our NOI as a result of our tenants’ inability or unwillingness to pay rent timely or at all and increased vacancy rates due to the risk of tenants closing their businesses and delays in leasing vacant space due to potential lack of demand for retail space;

49

•
the price of our common shares being below our estimates of our net asset value, which would result in any offering of our common shares to be dilutive to our existing shareholders.

Despite these challenges, we believe we have sufficient access to capital for the foreseeable future, but we can provide no assurance that, if the impact of the COVID-19 pandemic continues for an extended period of time significantly worsens, that such capital will be available to us on attractive terms or at all.

While we did not incur significant disruptions during the three months ended March 31, 2020 from the COVID-19 pandemic, we are unable to predict and determine the impact that the COVID-19 pandemic will have on our financial condition, results of operations and cash flows in the long term. We have taken a number of proactive measures to maintain the strength of our business and manage the impact of the COVID-19 pandemic on our operations and liquidity, including the following:

•
To ensure adequate liquidity for a sustained period, we recently drew down $30 million of the availability of the revolving credit facility as a precautionary measure to preserve our financial flexibility. As of March 31, 2020, subject to any potential future paydowns or increases in the borrowing base, we have $8.7 million remaining availability under the revolving credit facility. As of March 31, 2020, we have cash, cash equivalents and restricted cash of approximately $36,879,000.
•
We have taken a prudent pause in acquisitions activity and are carefully evaluating development and redevelopment activities on an individual basis.
•
Our board of trustees has reduced our quarterly dividend resulting in over $30 million of annualized savings. The board of trustees will regularly reassess the dividend, particularly as there is more clarity on the duration and severity of the COVID-19 pandemic and as business conditions improve.
•
We have put in place a temporary response team to address tenant concerns. The response team is in ongoing communication with our tenants and is assisting tenants in identifying local, state and federal resources that may be available to support their businesses and employees during the pandemic, including stimulus funds that may be available under the Coronavirus Aid, Relief, and Economic Security Act of 2020.
•
We are proactively implementing expense reductions at the property level to minimize cost pass-throughs to our tenants and at the corporate level to preserve profitability.
•
The health and safety of our employees and their families is a top priority. We have adapted our operations to protect employees, including by implementing a work from home policy.

The impact of the COVID-19 pandemic on our rental revenue and, as a result, cash from operations, for the second quarter of 2020 and thereafter cannot, however, be determined at present, though we believe that we will continue to see significant decreases in our collection of contracted rent from our tenants and may see tenant closures or bankruptcies. If and when economic conditions improve and favorable opportunities arise, we intend to continue acquiring additional properties that meet our Community Centered Property® strategy through equity issuances and debt financing.

On April 30, 2020, the Company entered into a loan in the principal amount of $1,733,510 from U.S. Bank National Association, one of the Company’s existing lenders, pursuant to the Paycheck Protection Program (the “PPP Loan”) of the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”). The PPP Loan matures on May 6, 2022 (the “Maturity Date”), accrues interest at 1.00% per annum and may be prepaid in whole or in part without penalty. Principal and interest are payable in 18 monthly installments of $96,864.28, beginning on December 6, 2020, plus a final payment equal to all unpaid principal and accrued interest on the Maturity Date.  Pursuant to the CARES Act, the Company can apply for, and be granted, forgiveness for all or a portion of the PPP Loan and such forgiveness will be determined, subject to limitations and ongoing rulemaking by the U.S. Small Business Administration, based on the use of loan proceeds for payroll costs, mortgage interest, rent or utility costs and the maintenance of employee and compensation levels.  The Company intends to use all proceeds from the PPP Loan to retain employees and maintain payroll and make mortgage payments, lease payments and utility payments to support business continuity throughout the COVID-19 pandemic, which amounts are intended to be eligible for forgiveness, subject to the provisions of the CARES Act.  However, no assurance is provided that the Company will obtain forgiveness of the PPP Loan in whole or in part.

On May 15, 2019, our universal shelf registration statement on Form S-3 was declared effective by the SEC, allowing us to offer up to $750 million in securities from time to time, including common shares, preferred shares, debt securities, depositary shares and subscription rights.


50

On May 31, 2019, we entered into nine equity distribution agreements for an at-the-market equity distribution program (the “2019 equity distribution agreements”) providing for the issuance and sale of up to an aggregate of $100 million of the Company’s common shares pursuant to our Registration Statement on Form S-3 (File No. 333-225007). Actual sales will depend on a variety of factors determined by us from time to time, including (among others) market conditions, the trading price of our common shares, capital needs and our determinations of the appropriate sources of funding for us, and were made in transactions that will be deemed to be “at-the-market” offerings as defined in Rule 415 under the Securities Act. We have no obligation to sell any of our common shares and can at any time suspend offers under the 2019 equity distribution agreements or terminate the 2019 equity distribution agreements. In light of the significant decline in the price of our common shares since the outbreak of COVID-19, we do not currently anticipate selling shares under the 2019 equity distribution agreements until the price of our common shares increases significantly. However, if necessary, we could choose to issue shares at prevailing market prices if our liquidity position so requires. During the three months ended March 31, 2020, we sold 170,942 common shares under the 2019 equity distribution agreements, with net proceeds to us of approximately $2.2 million. In connection with such sales, we paid compensation of approximately $34,000 to the sales agents.

We have used and anticipate using net proceeds from common shares issued pursuant to the 2019 equity distribution agreements for general corporate purposes, which may include acquisitions of additional properties, the repayment of outstanding indebtedness, capital expenditures, the expansion, redevelopment and/or re-tenanting of properties in our portfolio, working capital and other general purposes.

Our capital structure includes non-recourse mortgage debt that we have assumed or originated on certain properties. We may hedge the future cash flows of certain variable rate debt transactions principally through interest rate swaps with major financial institutions. See Note 8 (Derivatives and Hedging Activities) to the accompanying consolidated financial statements for a description of our current cash flow hedges.

As discussed in Note 2 (Summary of Significant Accounting Policies) to the accompanying consolidated financial statements, pursuant to the terms of our $15.1 million 4.99% Note, due January 6, 2024 (see Note 7 (Debt) to the accompanying consolidated financial statements), which is collateralized by our Anthem Marketplace property, we were required by the lenders thereunder to establish a cash management account controlled by the lenders to collect all amounts generated by our Anthem Marketplace property in order to collateralize such promissory note. Amounts in the cash management account are classified as restricted cash.
  
Cash, Cash Equivalents and Restricted Cash
 
We had cash, cash equivalents and restricted cash of approximately $36,879,000 as of March 31, 2020, as compared to $15,643,000 on December 31, 2019.  The increase of $21,236,000 was primarily the result of the following:
 
Sources of Cash
 
•
Cash flow from operations of $5,213,000 for the three months ended March 31, 2020;

•
Net proceeds of $30,000,000 from the 2019 Facility;

•
Proceeds from issuance of common shares, net of offering costs of $2,209,000;

Uses of Cash

•
Payment of distributions to common shareholders and OP unit holders of $12,186,000;

•
Additions to real estate of $1,593,000;

•
Repurchase of common shares of $1,630,000; and

•
Payments of notes payable of $777,000.

     We place all cash in short-term, highly liquid investments that we believe provide appropriate safety of principal.


51

Debt

Debt consisted of the following as of the dates indicated (in thousands):
Description
 
March 31, 2020
 
December 31, 2019
Fixed rate notes
 
 
 
 
$10.5 million, 4.85% Note, due September 24, 2020 (1)
 
$
9,200

 
$
9,260

$100.0 million, 1.73% plus 1.35% to 1.90% Note, due October 30, 2022 (2)
 
100,000

 
100,000

$165.0 million, 2.24% plus 1.35% to 1.90% Note, due January 31, 2024 (3)
 
165,000

 
165,000

$80.0 million, 3.72% Note, due June 1, 2027
 
80,000

 
80,000

$19.0 million 4.15% Note, due December 1, 2024
 
18,922

 
19,000

$20.2 million 4.28% Note, due June 6, 2023
 
18,518

 
18,616

$14.0 million 4.34% Note, due September 11, 2024
 
13,421

 
13,482

$14.3 million 4.34% Note, due September 11, 2024
 
14,186

 
14,243

$15.1 million 4.99% Note, due January 6, 2024
 
14,348

 
14,409

$2.6 million 5.46% Note, due October 1, 2023
 
2,374

 
2,386

$50.0 million, 5.09% Note, due March 22, 2029
 
50,000

 
50,000

$50.0 million, 5.17% Note, due March 22, 2029
 
50,000

 
50,000

$1.1 million 4.53% Note, due November 28, 2020
 
1,081

 
—

Floating rate notes
 
 
 
 
Unsecured line of credit, LIBOR plus 1.40% to 1.90%, due January 31, 2023
 
139,500

 
109,500

Total notes payable principal
 
676,550

 
645,896

Less deferred financing costs, net of accumulated amortization
 
(1,141
)
 
(1,197
)
Total notes payable
 
$
675,409

 
$
644,699



(1)
Promissory note includes an interest rate swap that fixed the interest rate at 3.55% for the duration of the term through September 24, 2018 and 4.85% beginning September 25, 2018 through September 24, 2020.

(2) 
Promissory note includes an interest rate swap that fixed the LIBOR portion at 1.73%.

(3)
Promissory note includes an interest rate swap that fixed the LIBOR portion of the interest rate at an average rate of 2.24% for the duration of the term through January 31, 2024.


52

Scheduled maturities of our outstanding debt as of March 31, 2020 were as follows (in thousands):
 
 
 
Year
 
Amount Due
 
 
 
2020
 
$
11,605

2021
 
1,611

2022
 
101,683

2023
 
167,363

2024
 
228,573

Thereafter
 
165,715

Total
 
$
676,550


On January 31, 2019, we, through our Operating Partnership, entered into an unsecured credit facility (the “2019 Facility”) with the lenders party thereto, Bank of Montreal, as administrative agent (the “Agent”), SunTrust Robinson Humphrey, as syndication agent, and BMO Capital Markets Corp., U.S. Bank National Association, SunTrust Robinson Humphrey and Regions Capital Markets, as co-lead arrangers and joint book runners. The 2019 Facility amended and restated the 2018 Facility (as defined below).

The 2019 Facility is comprised of the following three tranches:

•
$250.0 million unsecured revolving credit facility with a maturity date of January 1, 2023 (the “2019 Revolver”);

•
$165.0 million unsecured term loan with a maturity date of January 31, 2024 (“Term Loan A”); and

•
$100.0 million unsecured term loan with a maturity date of October 30, 2022 (“Term Loan B” and together with Term Loan A, the “2019 Term Loans”).

Borrowings under the 2019 Facility accrue interest (at the Operating Partnership's option) at a Base Rate or an Adjusted LIBOR plus an applicable margin based upon our then existing leverage. As of March 31, 2020, the interest rate was 3.25%. The applicable margin for Adjusted LIBOR borrowings ranges from 1.40% to 1.90% for the 2019 Revolver and 1.35% to 1.90% for the 2019 Term Loans. Base Rate means the higher of: (a) the Agent’s prime commercial rate, (b) the sum of (i) the average rate quoted by the Agent by two or more federal funds brokers selected by the Agent for sale to the Agent at face value of federal funds in the secondary market in an amount equal or comparable to the principal amount for which such rate is being determined, plus (ii) 1/2 of 1.00%, and (c) the LIBOR rate for such day plus 1.00%. Adjusted LIBOR means LIBOR divided by one minus the Eurodollar Reserve Percentage. The Eurodollar Reserve Percentage means the maximum reserve percentage at which reserves are imposed by the Board of Governors of the Federal Reserve System on eurocurrency liabilities. Pursuant to the 2019 Facility, in the event of certain circumstances that result in the unavailability of LIBOR, including but not limited to LIBOR no longer being a widely recognized benchmark rate for newly originated dollar loans in the U.S. market, the Operating Partnership and the Agent will establish an alternate interest rate to LIBOR giving due consideration to prevailing market conventions and will amend the 2019 Facility to give effect to such alternate interest rate. LIBOR is expected to be discontinued after 2021. A number of our current debt agreements have an interest rate tied to LIBOR. Some of these agreements provide procedures for determining an alternative base rate in the event that LIBOR is discontinued, but not all do so. Regardless, there can be no assurances as to what alternative base rates may be and whether such base rate will be more or less favorable than LIBOR and any other unforeseen impacts of the potential discontinuation of LIBOR. The Company intends to monitor the developments with respect to the potential phasing out of LIBOR after 2021 and work with its lenders to ensure any transition away from LIBOR will have minimal impact on its financial condition, but can provide no assurances regarding the impact of the discontinuation of LIBOR.

The 2019 Facility includes an accordion feature that will allow the Operating Partnership to increase the borrowing capacity by $200.0 million, upon the satisfaction of certain conditions. As of March 31, 2020, $404.5 million was drawn on the 2019 Facility and our unused borrowing capacity was $110.5 million, assuming that we use the proceeds of the 2019 Facility to acquire properties, or to repay debt on properties, that are eligible to be included in the unsecured borrowing base. The Company used $446.2 million of proceeds from the 2019 Facility to repay amounts outstanding under the 2018 Facility and intends to use the remaining proceeds from the 2019 Facility for general corporate purposes, including property acquisitions,

53

debt repayment, capital expenditures, the expansion, redevelopment and re-tenanting of properties in its portfolio and working capital.
    
The Company, each direct and indirect material subsidiary of the Operating Partnership and any other subsidiary of the Operating Partnership that is a guarantor under any unsecured ratable debt will serve as a guarantor for funds borrowed by the Operating Partnership under the 2019 Facility. The 2019 Facility contains customary terms and conditions, including, without limitation, customary representations and warranties and affirmative and negative covenants including, without limitation, information reporting requirements, limitations on investments, acquisitions, loans and advances, mergers, consolidations and sales, incurrence of liens, dividends and restricted payments. In addition, the 2019 Facility contains certain financial covenants including the following:
    
•
maximum total indebtedness to total asset value ratio of 0.60 to 1.00;

•
maximum secured debt to total asset value ratio of 0.40 to 1.00;

•
minimum EBITDA (earnings before interest, taxes, depreciation, amortization or extraordinary items) to fixed charges ratio of 1.50 to 1.00;

•
maximum other recourse debt to total asset value ratio of 0.15 to 1.00; and

•
maintenance of a minimum tangible net worth (adjusted for accumulated depreciation and amortization) of $372 million plus 75% of the net proceeds from additional equity offerings (as defined therein).

We serve as the guarantor for funds borrowed by the Operating Partnership under the 2019 Facility. The 2019 Facility contains customary terms and conditions, including, without limitation, affirmative and negative covenants such as information reporting requirements, maximum secured indebtedness to total asset value, minimum EBITDA (earnings before interest, taxes, depreciation, amortization or extraordinary items) to fixed charges, and maintenance of a minimum net worth. The 2019 Facility also contains customary events of default with customary notice and cure, including, without limitation, nonpayment, breach of covenant, misrepresentation of representations and warranties in a material respect, cross-default to other major indebtedness, change of control, bankruptcy and loss of REIT tax status.
    
On March 22, 2019, we, through our Operating Partnership, entered into a Note Purchase and Guarantee Agreement (the “Note Agreement”) together with certain subsidiary guarantors as initial guarantor parties thereto (the “Subsidiary Guarantors”) and The Prudential Insurance Company of America and the various other purchasers named therein (collectively, the “Purchasers”) providing for the issuance and sale of $100 million of senior unsecured notes of the Operating Partnership, of which (i) $50 million are designated as 5.09% Series A Senior Notes due March 22, 2029 (the “Series A Notes”) and (ii) $50 million are designated as 5.17% Series B Senior Notes due March 22, 2029 (the “Series B Notes” and, together with the Series A Notes, the “Notes”) pursuant to a private placement that closed on March 22, 2019 (the “Private Placement”). Obligations under the Notes are unconditionally guaranteed by the Company and by the Subsidiary Guarantors.

The principal of the Series A Notes will begin to amortize on March 22, 2023 with annual principal payments of approximately $7.1 million. The principal of the Series B Notes will begin to amortize on March 22, 2025 with annual principal payments of $10.0 million. The Notes will pay interest quarterly on the 22nd day of March, June, September and December in each year until maturity.

The Operating Partnership may prepay at any time all, or from time to time part of, the Notes, in an amount not less than $1,000,000 in the case of a partial prepayment, at 100% of the principal amount so prepaid, plus a make-whole amount. The make-whole amount is equal to the excess, if any, of the discounted value of the remaining scheduled payments with respect to the Notes being prepaid over the aggregate principal amount of such Notes (as described in the Note Agreement). In addition, in connection with a Change of Control (as defined in the Note Purchase Agreement), the Operating Partnership is required to offer to prepay the Notes at 100% of the principal amount plus accrued and unpaid interest thereon.

The Note Agreement contains representations, warranties, covenants, terms and conditions customary for transactions of this type and substantially similar to the Operating Partnership’s existing senior revolving credit facility, including limitations on liens, incurrence of investments, acquisitions, loans and advances and restrictions on dividends and certain other restricted payments. In addition, the Note Agreement contains certain financial covenants substantially similar to the Operating Partnership’s existing senior revolving credit facility, including the following:

•
maximum total indebtedness to total asset value ratio of 0.60 to 1.00;

54


•
maximum secured debt to total asset value ratio of 0.40 to 1.00;

•
minimum EBITDA (earnings before interest, taxes, depreciation, amortization or extraordinary items) to fixed charges ratio of 1.50 to 1.00;

•
maximum other recourse debt to total asset value ratio of 0.15 to 1.00; and

•
maintenance of a minimum tangible net worth (adjusted for accumulated depreciation and amortization) of $372 million plus 75% of the net proceeds from additional equity offerings (as defined therein).

In addition, the Note Agreement contains a financial covenant requiring that maximum unsecured debt not exceed the lesser of (i) an amount equal to 60% of the aggregate unencumbered asset value and (ii) the debt service coverage amount (as described in the Note Agreement). That covenant is substantially similar to the borrowing base concept contained in the Operating Partnership’s existing senior revolving credit facility.

The Note Agreement also contains default provisions, including defaults for non-payment, breach of representations and warranties, insolvency, non-performance of covenants, cross-defaults with other indebtedness and guarantor defaults. The occurrence of an event of default under the Note Agreement could result in the Purchasers accelerating the payment of all obligations under the Notes. The financial and restrictive covenants and default provisions in the Note Agreement are substantially similar to those contained in the Operating Partnership’s existing credit facility.

Net proceeds from the Private Placement will be used to refinance existing indebtedness. The Notes have not been and will not be registered under the Securities Act of 1933, as amended (the “Securities Act”), and may not be offered or sold in the United States absent registration or an applicable exemption from the registration requirements of the Securities Act. The Notes were sold in reliance on the exemption from registration provided by Section 4(a)(2) of the Securities Act.

As of March 31, 2020, our $171.0 million in secured debt was collateralized by eight properties with a carrying value of $268.8 million.  Our loans contain restrictions that would require the payment of prepayment penalties for the acceleration of outstanding debt and are secured by deeds of trust on certain of our properties and by assignment of the rents and leases associated with those properties. As of March 31, 2020, we were in compliance with all loan covenants.

Refer to Note 7 (Debt) to the accompanying consolidated financial statements for additional information regarding debt.

Capital Expenditures
 
We continually evaluate our properties’ performance and value. In light of the COVID-19 pandemic, we are continuing to monitor and, if necessary, reduce our capital expenditures to maintain financial flexibility. We may determine it is in our shareholders’ best interest to invest capital in properties that we believe have potential for increasing value. We also may have unexpected capital expenditures or improvements for our existing assets. Additionally, we intend to continue investing in similar properties outside of the markets on which we focus in cities with exceptional demographics to diversify market risk, and we may incur significant capital expenditures or make improvements in connection with any properties we may acquire.

Contractual Obligations

On March 22, 2019, we, through our Operating Partnership, entered into the Note Agreement together with the Purchasers providing for the issuance and sale of $100 million of senior unsecured notes of the Operating Partnership that mature in March 2029, with annual amortization of principal beginning in 2023 on $50 million of the senior unsecured notes in the amount of $7.1 million and in 2025 on $50 million of the senior unsecured notes in the amount of $10.0 million. Refer to Note 7 (Debt) to the accompanying consolidated financial statements for additional information regarding the Note Agreement.

On January 31, 2019, we, through our Operating Partnership, entered into the 2019 Facility. The 2019 Facility amended and restated our previous unsecured revolving credit facility, dated November 7, 2014, as amended on October 30, 2015 and December 8, 2016. Refer to Note 7 (Debt) to the accompanying consolidated financial statements for additional information regarding the 2019 Facility.
  

55

Distributions
 
On March 24, 2020 we announced that, in further pursuit of ensuring our financial flexibility, our Board of Trustees (the “Board”) determined to conserve additional liquidity by reducing our distribution in response to the COVID-19 pandemic. The distribution reduction is expected to result in over $30 million of annualized cash savings. The Board has declared a monthly cash distribution for the second quarter of 2020 of $0.035 per share on the Company’s common shares and operating partnership units. This amount represents a quarterly amount of $0.105, and an annualized amount of $0.42 per share.
    
The Board will regularly reassess the dividend, particularly as there is more clarity on the duration and severity of the national COVID-19 crisis and as business conditions improve.

The following table summarizes the cash distributions paid or payable to holders of our common shares and noncontrolling OP units during each quarter of 2019 and the three months ended March 31, 2020 (in thousands, except per share data):

 
 
Common Shares
 
Noncontrolling OP Unit Holders
 
Total
Quarter Paid
 
Distributions Per Common Share
 
 Amount Paid
 
Distributions Per OP Unit
 
 Amount Paid
 
Amount Paid
2020
 
 
 
 
 
 
 
 
 
 
First Quarter
 
$
0.2850

 
$
11,928

 
$
0.2850

 
$
258

 
$
12,186

Total
 
$
0.2850

 
$
11,928

 
$
0.2850

 
$
258

 
$
12,186

 
 
 
 
 
 
 
 
 
 
 
2019
 
 
 
 
 
 
 
 
 
 
Fourth Quarter
 
$
0.2850

 
$
11,580

 
$
0.2850

 
$
262

 
$
11,842

Third Quarter
 
0.2850

 
11,430

 
0.2850

 
264

 
11,694

Second Quarter
 
0.2850

 
11,316

 
0.2850

 
265

 
11,581

First Quarter
 
0.2850

 
11,301

 
0.2850

 
264

 
11,565

Total
 
$
1.1400

 
$
45,627

 
$
1.1400

 
$
1,055

 
$
46,682


Taxes
 
We elected to be taxed as a REIT under the Code beginning with our taxable year ended December 31, 1999.  As a REIT, we generally are not subject to federal income tax on income that we distribute to our shareholders.  If we fail to qualify as a REIT in any taxable year, we will be subject to federal income tax on our taxable income at regular corporate rates.  We believe that we are organized and operate in a manner to qualify and be taxed as a REIT, and we intend to operate so as to remain qualified as a REIT for federal income tax purposes.

Environmental Matters

Our properties are subject to environmental laws and regulations adopted by various governmental authorities in the jurisdictions in which our operations are conducted. From our inception, we have incurred no significant environmental costs, accrued liabilities or expenditures to mitigate or eliminate future environmental contamination.

Off-Balance Sheet Arrangements
 
Guarantees. We may guarantee the debt of a real estate partnership primarily because it allows the real estate partnership to obtain funding at a lower cost than could be obtained otherwise. This results in a higher return for the real estate partnership on its investment, and a higher return on our investment in the real estate partnership. We may receive a fee from the real estate partnership for providing the guarantee. Additionally, when we issue a guarantee, the terms of the real estate partnership’s partnership agreement typically provide that we may receive indemnification from the real estate partnership or have the ability to increase our ownership interest. See Note 6 (Investment in Real Estate Partnership) to the accompanying consolidated financial statements for information related to our guarantee of our real estate partnership’s debt.


56

Item 3.  Quantitative and Qualitative Disclosures About Market Risk.

Our future income, cash flows and fair value relevant to our financial instruments depend upon prevailing market interest rates. Market risk refers to the risk of loss from adverse changes in market prices and interest rates. Based upon the nature of our operations, we are not subject to foreign exchange rate or commodity price risk. The principal market risk to which we are exposed is the risk related to interest rate fluctuations. Many factors, including governmental monetary and tax policies, domestic and international economic and political considerations, and other factors that are beyond our control contribute to interest rate risk. Our interest rate risk objective is to limit the impact of interest rate fluctuations on earnings and cash flows and to lower our overall borrowing costs. To achieve this objective, we manage our exposure to fluctuations in market interest rates for our borrowings through the use of fixed rate debt instruments to the extent that reasonably favorable rates are obtainable.

All of our financial instruments were entered into for other than trading purposes.

Fixed Interest Rate Debt

As of March 31, 2020, $537.1 million, or approximately 79% of our total outstanding debt, was subject to fixed interest rates, which limit the risk of fluctuating interest rates. Although a change in the market interest rates affects the fair market value of our fixed interest rate debt, it does not impact net income to shareholders or cash flows. Our total outstanding fixed interest rate debt had an average effective interest rate as of March 31, 2020 of approximately 4.1% per annum with scheduled maturities ranging from 2020 to 2029 (see Note 7 (Debt) to the accompanying consolidated financial statements for further detail). Holding other variables constant, a 1% increase or decrease in interest rates would cause a $20.7 million decline or increase, respectively, in the fair value for our fixed rate debt.

Variable Interest Rate Debt

As of March 31, 2020, $139.5 million, or approximately 21% of our outstanding debt, was subject to floating interest rates of LIBOR plus 1.40% to 1.90% and not currently subject to a hedge. The impact of a 1% increase or decrease in interest rates on our non-hedged variable rate debt would result in a decrease or increase of annual net income of approximately $1.4 million, respectively.

Credit Risk

Credit risk may be increased as a result of the COVID-19 pandemic. We expect that the actions taken by the U.S. and international governments to decrease the impact of the COVID-19 pandemic will result in a continued decline in global economic activity generally, and may adversely affect the financial condition of our tenants in particular. While our rental income in the first quarter remained consistent with prior periods, we expect that many of our tenants may take actions to reduce expenses in the short or long term, which may include approaching us about extending payment terms. Although the full extent of the adverse impacts on our tenants cannot be predicted, in future periods we may experience reductions in on-time payments or closures of tenants’ businesses, which could have a material adverse effect on our results of operations, cash flows and financial condition.

Item 4.  Controls and Procedures.

Evaluation of Disclosure Controls and Procedures

The Company’s management is responsible for establishing and maintaining adequate disclosure controls and procedures as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Disclosure controls and procedures means controls and other procedures of the Company that are designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act, is recorded, processed, summarized, and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the Company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure. Based on the evaluation of our disclosure controls and procedures as of March 31, 2020, our principal executive and financial officers have concluded that such disclosure controls and procedures were effective.
    

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Changes in Internal Control Over Financial Reporting

As a result of the COVID-19 pandemic, our employees began working remotely in the first quarter of 2020. However, our remote working arrangements have not had a material effect on our internal control over financial reporting. There have been no significant changes in our internal control over financial reporting during the three months ended March 31, 2020 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.


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PART II. OTHER INFORMATION

Item 1. Legal Proceedings.

We are subject to various legal proceedings and claims that arise in the ordinary course of business.  These matters are generally covered by insurance.  While the resolution of these matters cannot be predicted with certainty, management believes the final outcome of such matters will not have a material adverse effect on our financial position, results of operations or liquidity.

On December 12, 2017, a property owner that owns a land parcel adjacent to a Whitestone property filed suit against Whitestone Pinnacle of Scottsdale - Phase II, LLC (“Whitestone Pinnacle”) alleging breach of contract and resulting in the delay of the construction of their assisted living facility. The claimant seeks approximately $2.3 million in restitution from Whitestone Pinnacle. The Company intends to vigorously defend the matter as it believes that these claims are without merit and that it has substantial legal and factual defenses to the claims and allegations contained in the complaint. Based upon the present status of this matter, the Company does not believe it is probable that a loss will be incurred. Accordingly, the Company has not recorded a charge as a result of this action.

Item 1A. Risk Factors.

There has been no material change in our risk factors from those previously disclosed in Part I, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2019 other than the following.

The COVID-19 pandemic is expected to, and the future outbreak of other highly infectious or contagious diseases may, materially and adversely impact the businesses of many of our tenants and materially and adversely impact and disrupt our business, income, cash flow, results of operations, financial condition, liquidity, prospects and ability to service our debt obligations, and our ability to pay dividends and other distributions to our stockholders.

The World Health Organization has declared COVID-19 to constitute a "Public Health Emergency of International Concern" and characterized COVID-19 as a pandemic. As a result, U.S. and many local governments have implemented enhanced screenings, quarantine or shelter in place requirements and travel restrictions. For example, local governments in Texas and Arizona, where many of our properties are located, have mandated a stay in place order, closed non-essential businesses until April 30, 2020, and closed other types of service businesses, such as bars and restaurants, though such businesses can continue to provide take out and drive through services. On April 17, 2020, the Texas governor announced initial steps to begin the process of reopening the Texas economy. On April 29, 2020, the Arizona governor extended stay in place order through May 15 and announced initial steps to begin the process of reopening the Arizona economy. However, the timing and ultimate impact of any such steps on the economy as a whole and on our and our tenants’ businesses and financial condition remains uncertain.

A number of our tenants operate service and retail businesses that require in-person interactions with their customers to generate revenues, and the spread of COVID-19 has decreased customers’ willingness to frequent, and mandated stay in place orders have prevented customers from frequenting some of our tenants’ businesses. Even if such orders are lifted, customer traffic may continue to be adversely impacted. Some tenants may also seek concessions from us for paying lease charges as a result of such mandatory closures or reduced hours. As of the date of this Report, we have received payment of approximately 64% of contractual base rent and common area maintenance reimbursables billed for the month of April. As is believed to be the case with retail landlords across the U.S., we have received a number of rent relief requests from tenants, most often in the form of rent deferral requests, which we are evaluating on a case-by-case basis. Collections and rent relief requests to-date may not be indicative of collections or requests in any future period. The impact of the COVID-19 pandemic on our rental revenue for the second quarter of 2020 and thereafter cannot be determined at present. 

Also, some of our tenants have closed or may close and may not re-open even after the aforementioned restrictions are lifted, which could have a material impact on occupancy at our properties which could result in an increase in the number of co-tenancy claims due to falling below required occupancy thresholds and may impact our results. Additionally, a decrease in retail demand could make it difficult for us to renew or re-lease our properties at lease rates equal to or above historical rates, or at all, and we could incur significant re-leasing costs. The current decreased customer traffic or continued decreased traffic in the future could adversely impact our ability to successfully execute our leasing strategy and operational objectives.

Furthermore, in the event of any default by a tenant for non-payment of lease charges or early or limited cessation of operations, we might not be able to fully recover and/or experience delays and additional costs in enforcing our rights as landlord to recover amounts due to us under the terms of our agreements with such parties due to potential moratoriums

59

imposed by various jurisdictions in light of the COVID-19 pandemic on landlord initiated commercial eviction and collection actions. Further, one or more of our tenants may seek the protection of the bankruptcy laws as a result of the prolonged impact of the COVID-19 pandemic which could result in the termination of its lease causing a reduction in our income. Tenant bankruptcies may make it more difficult for us to lease the remainder of the property or properties in which the bankrupt tenant operates and adversely impact our ability to successfully execute our re-leasing strategy.

Many experts predict that the outbreak will trigger, or may have already triggered, a period of global economic slowdown or a global recession. A sustained downturn in the U.S. economy and reduced consumer spending as well as consumer activity at brick-and-mortar commercial establishments due to the prolonged existence and threat of the COVID-19 pandemic could impose an economic recession in the U.S. which could impact our tenants’ ability to meet their lease obligations due to poor operating results, lack of liquidity or other reasons and therefore decrease the revenue generated by our properties or the value of our properties. Our ability to lease space and negotiate and maintain favorable rents could also be negatively impacted by a prolonged recession in the U.S. economy. Moreover, the demand for leasing space in our properties could substantially decline during a significant downturn in the U.S. economy which could result in a decline in our occupancy percentage and reduction in rental revenues.

In addition, the COVID-19 pandemic has also led to complete or partial shutdowns of manufacturing facilities and distribution centers in many countries, which could result in temporary or long-term disruptions in our tenants’ supply chains from suppliers, or otherwise delay the delivery of inventory or other goods necessary for our tenants’ operations.

Our tenants may also be negatively impacted if the outbreak of COVID-19 occurs within their workforce or otherwise disrupts their management. Further, certain of our tenants may not be eligible for or may not be successful in securing stimulus funds under the Coronavirus Aid, Relief, and Economic Security Act of 2020.

As a result of these and other factors, some of our tenants have been unable to and others may become unable to operate their businesses and make rental payments to us on a timely basis or otherwise under their leases. Because substantially all of our income is derived from rentals of commercial real property, our business, income, cash flow, results of operations, financial condition, liquidity, prospects and ability to service our debt obligations and our ability to pay dividends and other distributions to our shareholders would be adversely affected if a significant number of tenants are unable to meet their obligations or their revenues decline.

In addition, the COVID-19 pandemic, or a future pandemic, could have material and adverse effects on our business, income, cash flow, results of operations, financial condition, liquidity, prospects and ability to service our debt obligations and our ability to pay dividends and other distributions to our shareholders due to, among other factors:

•
during the first quarter of 2020, we drew down $30 million of the availability of our revolving credit facility as a precautionary measure to preserve our financial flexibility, after which we have $8.7 million remaining availability. Difficulty accessing debt and equity capital on attractive terms, or at all, and a severe disruption and instability in the global financial markets or deteriorations in credit and financing conditions may affect our access to capital necessary to fund business operations or address maturing liabilities on a timely basis and our tenants’ abilities to fund their business operations and meet their obligations to us;
•
in the first quarter of 2020, we reduced our quarterly dividends, and the financial impact of the COVID-19 pandemic could continue to negatively impact our ability to pay dividends to our stockholders;
•
the financial impacts could negatively impact our future compliance with financial covenants of our 2019 Credit Facility and other debt agreements and could result in a default and potentially an acceleration of indebtedness, which non-compliance could also negatively impact our ability to make additional borrowings under our 2019 Credit Facility or otherwise pay dividends to our shareholders; the worsening of estimated future cash flows due to a change in our plans, policies, or views of market and economic conditions as it relates to one or more of our adversely impacted properties could result in the recognition of substantial impairment charges imposed on our assets;
•
the credit quality of our tenants could be negatively impacted and we may significantly decrease our revenues;
•
a general decline in business activity and demand for real estate transactions could adversely affect our ability or desire to grow our portfolio of properties, or to sell properties as part of our capital recycling strategy;
•
as a result of remote working arrangements we implemented in response to the COVID-19 pandemic, we may be subject to increased risk of an information or cyber-security incident, fraud, a failure to maintain the uninterrupted operation of our information systems due to, among other things, an increase in remote work; and
•
the potential negative impact on the health of our personnel, particularly if a significant number of them are impacted, could result in a deterioration in our ability to ensure business continuity during a disruption.


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The extent to which the COVID-19 pandemic, or a future pandemic, impacts our operations and those of our tenants will depend on future developments, which are highly uncertain and cannot be predicted with confidence, including the scope, severity and duration of such pandemic, the actions taken to contain the pandemic or mitigate its impact, and the direct and indirect economic effects of the pandemic and containment measures, among others. The situation is rapidly changing and additional impacts to the business may arise that we are not aware of currently. The rapid development and fluidity of this situation precludes any prediction as to the full adverse impact of the COVID-19 pandemic, but a prolonged outbreak as well as related mitigation efforts could continue to have a material impact on our revenues and could materially and adversely affect our business, results of operations and financial condition.

Changes to the U.S. federal income tax laws, including the enactment of certain tax reform measures, could have an adverse impact on our business and financial results.
 
In recent years, numerous legislative, judicial and administrative changes have been made to the U.S. federal income tax laws applicable to investments in real estate and REITs, including the passage of the Tax Cuts and Jobs Act of 2017.  Federal legislation intended to ameliorate the economic impact of the COVID-19 pandemic, the Coronavirus Aid, Relief and Economic Security Act, or the CARES Act, has been enacted that makes technical corrections to, or modifies on a temporary basis, certain of the provisions of the Tax Cut and Jobs Act of 2017, and it is possible that additional such legislation may be enacted in the future. The full impact of the Tax Cuts and Jobs Act of 2017 and the CARES Act may not become evident for some period of time.  In addition, there can be no assurance that future changes to the U.S. federal income tax laws or regulatory changes will not be proposed or enacted that could impact our business and financial results. The REIT rules are constantly under review by persons involved in the legislative process and by the Internal Revenue Service and the U.S. Treasury Department, which may result in revisions to regulations and interpretations in addition to statutory changes. If enacted, certain of such changes could have an adverse impact on our business and financial results.
 
We cannot predict whether, when, or to what extent any new U.S. federal tax laws, regulations, interpretations, or rulings will impact the real estate investment industry or REITs. Prospective investors are urged to consult their tax advisors regarding the effect of potential future changes to the federal tax laws on an investment in our shares.

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

(a)
During the period covered by this Form 10-Q, we did not sell any equity securities that were not registered under the Securities Act of 1933, as amended.

(b)
Not applicable.

(c)
During the three months ended March 31, 2020, certain of our employees tendered owned common shares to satisfy the tax withholding on the lapse of certain restrictions on restricted common shares issued under the 2018 Plan. The following table summarizes all of these repurchases during the three months ended March 31, 2020.

Period
 
Total Number of Shares Purchased (1)
 
Average Price Paid Per Share
 
Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs
 
Maximum Number of Shares that May Yet be Purchased Under the Plans or Programs
January 1, 2020 through January 31, 2020
 
119,693

 
$
13.62

 
N/A
 
N/A
February 1, 2020 through February 29, 2020
 
—

 
—

 
N/A
 
N/A
March 1, 2020 through March 31, 2020
 
33,218

 
8.04

 
N/A
 
N/A
      Total
 
152,911

 
$
12.41

 
 
 
 

(1)    The number of shares purchased represents common shares held by employees who tendered owned common shares to satisfy the tax withholding on the lapse of certain restrictions on restricted common shares issued under the 2018 Plan. With respect to these shares, the price paid per share is based on the fair market value at the time of tender.

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Item 3. Defaults Upon Senior Securities.

None.


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Item 4. Mine Safety Disclosures.

Not applicable.

Item 5. Other Information.

None.


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Item 6. Exhibits.

The exhibits listed on the accompanying Exhibit Index are filed, furnished and incorporated by reference (as stated therein) as part of this Report.


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EXHIBIT INDEX
Exhibit No.
Description
101.INS***
XBRL Instance Document
 
 
101.SCH***
XBRL Taxonomy Extension Schema Document
 
 
101.CAL***
XBRL Taxonomy Extension Calculation Linkbase Document
 
 
101.LAB***
XBRL Taxonomy Extension Label Linkbase Document
 
 
101.PRE***
XBRL Taxonomy Extension Presentation Linkbase Document
 
 
101.DEF***
XBRL Taxonomy Extension Definition Linkbase Document
 ________________________
 
*       Filed herewith.
**     Furnished herewith.
***    The following financial information of the Registrant for the quarter ended March 31, 2020, formatted in XBRL (eXtensible Business Reporting Language): (i) the Consolidated Balance Sheets as of March 31, 2020 (unaudited) and December 31, 2019, (ii) the Consolidated Statements of Operations and Comprehensive Loss for the three months ended March 31, 2020 and 2019 (unaudited), (iii) the Consolidated Statements of Changes in Equity for the three months ended March 31, 2020 and 2019 (unaudited), (iv) the Consolidated Statement of Cash Flows for the three months ended March 31, 2020 and 2019 (unaudited) and (v) the Notes to the Consolidated Financial Statements (unaudited).
    



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


 
 
 
 
 
WHITESTONE REIT
 
 
 
Date:
May 11, 2020
 
 
/s/ James C. Mastandrea 
 
 
 
 
James C. Mastandrea
 
 
 
 
Chief Executive Officer
 
 
 
 
(Principal Executive Officer)
 
Date:
May 11, 2020
 
 
/s/ David K. Holeman
 
 
 
 
David K. Holeman
 
 
 
 
Chief Financial Officer
 
 
 
 
(Principal Financial and Principal Accounting Officer)


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