10-K 1 rreoii-20161231x10k.htm 10-K Document

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

FORM 10-K
(Mark One)
þ
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2016
o
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 000-55430
reitseclogoa11.jpg
Resource Real Estate Opportunity REIT II, Inc.   
(Exact name of registrant as specified in its charter)
Maryland
 
80-0854717
(State or other jurisdiction of
 
(I.R.S. Employer
incorporation or organization)
 
Identification No.)
 
1845 Walnut Street, 18th Floor, Philadelphia, PA 19103
(Address of principal executive offices) (Zip code)
(215) 231-7050
(Registrant's telephone number, including area code)
 
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
 
Name of exchange on which registered
None
 
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $0.1 per share
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes o No þ
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(a) of the Act. Yes o No þ
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. þ
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
o
 
Accelerated filer
o

Non-accelerated filer
o
(Do not check if a smaller reporting company)
Smaller reporting company
þ
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes o No þ
There is no established market for the registrant’s shares of common stock.  On March 28, 2017, the board of directors of the Registrant approved an estimated value per share of the Registrant’s common stock of $9.10. For a full description of the methodologies used to calculate the Registrant’s estimated value per share as of December 31, 2016, see Part II, Item 5, “Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities - Market Information.”There were 159,029 shares of common stock held by non-affiliates as of June 30, 2016, the last day of the registrant's most recently completed second fiscal quarter. As of March 23, 2017, there were 59,428,703 outstanding shares of common stock of Resource Real Estate Opportunity REIT II, Inc. Registrant incorporates by reference portions of the Resource Real Estate Opportunity REIT II, Inc. Definitive Proxy Statement for the 2017 Annual Meeting of Stockholders (Items 10, 11, 12, 13, and 14 of Part III).


RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
INDEX TO ANNUAL REPORT
ON FORM 10-K

 
 
PAGE
 
 
PART I
 
 
  Item 1.
  Item 1A.
  Item 1B.
  Item 2.
  Item 3.
  Item 4.
 
 
 
PART II
 
 
  Item 5.
  Item 6
  Item 7.
  Item 7A.
  Item 8.
  Item 9.
  Item 9A.
  Item 9B.
 
 
 
PART III
 
 
  Item 10.
  Item 11.
  Item 12.
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  Item 13.
  Item 14.
 
 
 
PART IV.
 
 
  Item 15.
 
 
 




Forward-Looking Statements
Certain statements included in this Annual Report on Form 10-K are forward-looking statements.  Forward-looking statements relate to expectations, beliefs, projections, future plans and strategies, anticipated events or trends and similar expressions concerning matters that are not historical facts.  In some cases, you can identify forward-looking statements by terms such as “anticipate,” “believe,” “could,” “estimate,” “expects,” “intend,” “may,” “plan,” “potential,” “project,” “should,” “will” and “would” or the negative of these terms or other comparable terminology.  Such statements are subject to the risks and uncertainties more particularly described in Item 1A of this Annual Report on Form 10-K. These risks and uncertainties could cause actual results to differ materially.  Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof.  We undertake no obligation to publicly revise or update these forward-looking statements to reflect events or circumstances after the date of this report, except as may be required under applicable law.




PART I

ITEM 1.
BUSINESS
General
Resource Real Estate Opportunity REIT II, Inc. is a Maryland corporation that was formed on September 28, 2012. As used herein, the terms “we,” “our” and “us” refer to Resource Real Estate Opportunity REIT II, Inc. and, as required by context RRE Opportunity OP II, LP, a Delaware limited partnership, and to its subsidiaries. We focus primarily on acquiring underperforming or distressed real estate and real estate loans. We elected to be taxed as a real estate investment trust, or REIT, and to operate as a REIT beginning with our taxable year ended December 31, 2014. Our objective is to invest in multifamily assets across the entire spectrum of investments in order to provide stockholders with growing cash flow and increasing asset values.
As of December 31, 2016, we owned 16 multifamily properties, as described further in “Item 2. Properties”. We intend to continue to purchase a diversified portfolio of underperforming U.S. commercial real estate and real estate-related debt, including properties that may benefit from extensive renovations that may increase their long-term values.
We are externally managed by Resource Real Estate Opportunity Advisor II, LLC, which we refer to as our Advisor, an indirect wholly owned subsidiary of Resource America, Inc., or RAI, operating in the real estate, financial fund management and commercial finance sectors. To provide its services, the Advisor draws upon RAI, its management team and their collective investment experience.
On September 8, 2016, RAI was acquired by C-III Capital Partners, LLC ("C-III"), a leading commercial real estate services company engaged in a broad range of activities. C-III controls our Advisor and Resource Real Estate Opportunity Manager II, LLC, our property manager (our “Manager”). C-III also controls all of the shares of common stock held by RAI and our Advisor.
Our Offerings
On February 6, 2014, our Registration Statement on Form S-11 (File No. 333-184476), covering a public offering of up to 100,000,000 shares of common stock in our primary offering and 10,000,000 shares of common stock under our distribution reinvestment plan, was declared effective under the Securities Act of 1933, as amended (the "Securities Act"). We retained Resource Securities, Inc., an affiliate of our Advisor, as the dealer manager for our offering. We offered up to 100,000,000 shares of common stock in our primary offering at an aggregate offering price of up to $1.0 billion, or $10 per share with discounts available to certain categories of purchasers. The Company is also offering up to 10,000,000 shares pursuant to the Company's distribution reinvestment plan at a purchase price equal to $8.65 per share ($8.56 per share prior to March 31, 2017). We terminated the primary portion of our initial public offering on February 10, 2016. We continue to offer shares to our existing stockholders pursuant our distribution reinvestment plan.
Our Business Strategy
Our business strategy has a particular focus on multifamily assets, although we may also purchase interests in other types of commercial property assets consistent with our investment objectives. We intend to acquire (i) underperforming multifamily rental properties which we will renovate and stabilize in order to increase rents, (ii) distressed real estate owned by financial institutions, usually as a result of foreclosure, and non-performing or distressed loans, including first- and second-priority mortgage loans and other loans which we will resolve, and (iii) performing loans, including first- and second-priority mortgage loans and other loans we originate or purchases either directly or with a co-investor or joint venture partner. We believe multiple opportunities exist within the multifamily industry today and will continue to present themselves over the next few years to real estate investors who possess the following characteristics: (i) extensive experience in multifamily investing, (ii) strong management platforms specializing in operational and financial performance optimization, (iii) financial sophistication allowing them to benefit from complex opportunities and (iv) the overall scale and breadth of a national real estate platform in both the equity and debt markets. We seek to utilize our sponsor's dedicated multifamily investing and lending relationships to take advantage of the full range of opportunities across the entire multifamily spectrum of investments. We may make adjustments to our target portfolio based on real estate market conditions and investment opportunities. We will not forego a good investment because it does not precisely fit our expected portfolio composition. Thus, to the extent that our Advisor, presents us with investment opportunities that allow us to meet the requirements to be treated as a REIT, under the Internal Revenue Code of 1986, as amended (the "Internal Revenue Code"), and to maintain our exclusion from regulation as an investment company under the Investment Company Act of 1940, as amended, our portfolio composition may vary from what we initially expect.

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Our Operating Policies and Strategies
Our Advisor has the primary responsibility for the selection of investments, the negotiation of the acquisition of these investments, and financing, asset-management and disposition decisions. A majority of our Board of Directors and a majority of the Conflicts Committee, which includes only our three independent directors, approve certain significant proposed real estate property investments and real estate-related debt investments. Our Board of Directors meets regularly to monitor the execution of our investment strategies and our progress in achieving our investment objectives.
We may use leverage for our acquisitions in the form of both REIT level financing and individual investment financing. Such financing, both at the REIT level and at the individual investment level, may also be obtained from the seller of an investment. Although there is no limit on the amount we can borrow to acquire a single real estate investment, we may not leverage our assets with debt financing such that our total liabilities exceed 75% of the aggregate cost of our assets unless a majority of our Conflicts Committee finds substantial justification for borrowing a greater amount.
Our Advisor and our Property Manager
Our Advisor manages our day-to-day operations and our portfolio of real estate investments, and provides asset management, marketing, investor relations, and other administrative services on our behalf, all subject to the supervision of our Board of Directors. Our Advisor has invested approximately $1.3 million in us and as of December 31, 2016 it owned 136,739 shares of our common stock and 50,000 shares of our convertible stock. Under certain circumstances, the convertible shares may be converted into shares of our common stock. As of December 31, 2016 our Advisor has granted 19,968 shares of its convertible stock to employees of RAI and its subsidiaries and affiliates. The shares granted vest ratably over three years; 6,115 of the shares have vested as of December 31, 2016.
We have a management agreement with Resource Real Estate Opportunity Manager II, LLC, an affiliate of our Advisor, or our Manager, to provide property management services, as applicable, for most, if not all, of the properties or other real estate related assets we acquire, provided our Advisor is able to control the operational management of such acquisitions. Our Manager may subcontract with an affiliate or third party to provide day-to-day property management, construction management and/or other property specific functions as applicable for the properties it manages.
Resource Property Management, LLC, d/b/a “Resource Residential,” an affiliate of RAI, is a property management company. Resource Residential is a subsidiary of US Residential Group LLC ("USRG"), a Dallas-based property manager that is a wholly owned subsidiary of C-III, the parent of our sponsor. Resource Residential has over 500 employees. Our Manager has subcontracted with Resource Residential to manage most of the real estate assets that we own. The senior managers and employees of Resource Residential, acting through our Manager, assist in providing property management as well as construction management services to us.
Competition
We believe that the current market for properties that meet our investment objectives is extremely competitive and many of our competitors have greater resources than we do. We believe that our multifamily communities are suitable for their intended purposes and adequately covered by insurance. There are a number of comparable properties located in the same submarkets that might compete with them. We compete with numerous other entities engaged in real estate investment activities, including individuals, corporations, banks and insurance company investment accounts, other REITs, real estate limited partnerships, the U.S. Government and other entities, to acquire, manage and sell real estate properties and real estate related assets. Many of our expected competitors enjoy significant competitive advantages that result from, among other things, a lower cost of capital and enhanced operating efficiencies. In addition, the number of entities and the amount of funds competing for suitable investments may increase.
Environmental
As an owner of real estate, we are subject to various environmental laws of federal, state and local governments. Compliance with existing laws has not had a material adverse effect on our financial condition or results of operations, and management does not believe it will have such an impact in the future. However, we cannot predict the impact of unforeseen environmental contingencies or new or changed laws or regulations on properties in which we hold an interest, or on properties that may be acquired directly or indirectly in the future.

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Employees and Economic Dependency
We have no paid employees. The employees of our Advisor or its affiliates provide management, acquisition, advisory and certain administrative services for us. We are dependent on our Advisor and its affiliates for certain services that are essential to us, including the identification, evaluation, negotiation, purchase and disposition of properties and other investments; management of the daily operations of our portfolio; and other general and administrative responsibilities. In the event that these affiliated companies are unable to provide the respective services, we will be required to obtain such services from other sources.
Access to Company Information
We electronically file our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and all amendments to those reports with the United States Securities and Exchange Commission (“SEC”). The public may read and copy any of the reports that are filed with the SEC at the SEC's Public Reference Room at 100 F Street, NE, Washington, DC 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at (800)-SEC-0330. The SEC maintains an Internet site at www.sec.gov that contains reports, proxy and information statements and other information regarding issuers that file electronically.
We make available free of charge, the Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and all amendments to those reports on our website, www.resourcereit2.com, or by responding to requests addressed to our investor relations group. These reports are available as soon as reasonably practicable after such material is electronically filed or furnished to the SEC.
ITEM 1A.     RISK FACTORS

Below are some of the risks and uncertainties that could cause our actual results to differ materially from those presented in our forward-looking statements. The risks and uncertainties described below are not the only ones we face but do represent those risks and uncertainties that we believe are material to our business, operating results, prospects, and financial condition. Additional risks and uncertainties not presently known to us or that we currently deem immaterial may also harm our business.

Risks Related to an Investment in Us
There is no public trading market for your shares; therefore, it will be difficult for you to sell your shares.
There is no current established public market for our shares and our charter does not require our directors to seek stockholder approval to liquidate our assets by a specified date nor list our shares on an exchange by a specified date. Our charter limits your ability to transfer or sell your shares unless the prospective stockholder meets the applicable suitability and minimum purchase standards. Our charter also prohibits the ownership of more than 9.8% of our stock, unless exempted by our board of directors, which may inhibit large investors from desiring to purchase your shares. Moreover, our share redemption program includes numerous restrictions that limit your ability to sell your shares to us, and our board of directors may amend, suspend or terminate our share redemption program upon 30 days’ notice without stockholder approval. Therefore, it will be difficult for you to sell your shares promptly or at all. If you are able to sell your shares, you would likely have to sell them at a substantial discount to their public offering price. It is also likely that your shares would not be accepted as the primary collateral for a loan.
If we are unable to find suitable investments, we may not be able to achieve our investment objectives or pay distributions.
Our ability to achieve our investment objectives and to pay distributions depends upon the performance of our Advisor, in the acquisition of our investments, including the determination of any financing arrangements. Competition from competing entities may reduce the number of suitable investment opportunities offered to us or increase the bargaining power of property owners seeking to sell. Additionally, disruptions and dislocations in the credit markets have materially impacted the cost and availability of debt to finance real estate acquisitions, which is a key component of our acquisition strategy. This lack of available debt could result in a further reduction of suitable investment opportunities and create a competitive advantage to other entities that have greater financial resources than we do. We are also subject to competition in seeking to acquire real estate-related debt investments. We can give no assurance that our Advisor will be successful in obtaining suitable investments on financially attractive terms or that, if our advisor makes investments on our behalf, our objectives will be achieved.

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Because we are dependent upon our Advisor and its affiliates to conduct our operations, any adverse changes in the financial health of our Advisor or its affiliates or our relationship with them could hinder our operating performance and the return on our stockholders’ investment.
We are dependent on our Advisor to manage our operations and our portfolio of real estate assets. Our Advisor has no prior operating history and it depends largely upon the fees and other compensation that it receives from us in connection with the purchase, management and sale of assets to conduct its operations. Any adverse changes in the financial condition of our Advisor or our relationship with our Advisor could hinder its ability to successfully manage our operations and our portfolio of investments.
Our ability to achieve our investment objectives and to conduct our operations is dependent upon the performance of our Advisor, which is a subsidiary of our sponsor and its parent company, RAI. Our sponsor’s business is sensitive to trends in the general economy, as well as the commercial real estate and credit markets. To the extent that any decline in our sponsor’s revenues and operating results impacts the performance of our Advisor, our results of operations, and financial condition could also suffer.
The loss of or the inability to hire additional or replacement key real estate and debt finance professionals at Resource Real Estate could delay or hinder implementation of our investment strategies, which could limit our ability to make distributions and decrease the value of your investment.
Our success depends to a significant degree upon the contributions of Messrs. Alan F. Feldman and Kevin M. Finkel, each of whom would be difficult to replace. Messrs. Feldman and Finkel may not remain associated with Resource Real Estate. If either of these persons were to cease their association with us, our operating results could suffer. We do not intend to maintain key person life insurance on any person.
We believe that our future success depends, in large part, upon Resource Real Estate, Inc. and its affiliates’ ability to retain highly skilled managerial, operational and marketing professionals. Competition for such professionals is intense, and Resource Real Estate and its affiliates may be unsuccessful in attracting and retaining such skilled individuals. If Resource Real Estate loses or is unable to obtain the services of highly skilled professionals, our ability to implement our investment strategies could be delayed or hindered and the value of your investment may decline.
If we make distributions from sources other than our cash flow from operations, we will have less funds available for the acquisition of properties, your overall return may be reduced and the value of a share of our common stock may be diluted.
For the year ended December 31, 2015, we paid distributions of $14.1 million. We funded 100% of these distributions with proceeds from debt financing. For the year ended December 31, 2016, we paid distributions of $34.6 million. We funded 100% of these distributions with proceeds from debt financing. We will declare distributions when our board of directors determines we have sufficient cash flow. Our board of directors considers many factors before authorizing a cash distribution, including current and projected cash flow from operations, capital expenditure needs, general financial conditions and REIT qualification requirements. We expect to have little, if any, cash flow from operations available for cash distributions until we have executed our value-add strategy for a substantial portion of our investments. It is therefore likely that, at least during the early stages of our development, and from time to time during our operational stage, our board will declare cash distributions that will be paid in advance of our receipt of cash flow that we expect to receive during a later period. In these instances, where we do not have sufficient cash flow to cover our distributions, we expect to use the proceeds from the issuance of securities or proceeds from borrowings or asset sales to pay distributions. We may borrow funds, issue new securities or sell assets to make and cover our declared distributions, all or a portion of which could be deemed a return of capital. We may also fund such distributions from third-party borrowings or from advances from our advisor or sponsor or from our advisor’s deferral of its asset management fee. If we fund cash distributions from borrowings, sales of assets or the net proceeds from securities issuances, we will have less funds available for the acquisition of real estate and real estate-related assets and your overall return may be reduced. Further, to the extent cash distributions exceed cash flow from operations, a stockholder’s basis in our stock will be reduced and, to the extent distributions exceed a stockholder’s basis, the stockholder may recognize capital gain. Our organizational documents do not limit the amount of distributions we can fund from sources other than from cash flows from operations.
The value of a share of our common stock has been diluted as a result of our payment of stock distributions and will be further diluted if we make additional stock distributions.

We have issued stock distributions to our stockholders and may continue to issue such stock distributions in the future. We seek to purchase assets that may have limited operating cash flows. While our objective is to acquire assets that appreciate in value, there can be no assurance that assets we acquire will appreciate in value. Therefore, investors who purchased shares early in our offering, as compared with later investors, received more shares for the same cash investment as a result of any stock

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distributions. Because they own more shares, upon a sale or liquidation of the company, these early investors will receive more sales proceeds or liquidating distributions relative to their invested capital compared to later investors. Furthermore, unless our assets appreciate in an amount sufficient to offset the dilutive effect of the prior stock distributions, the value per share for investors who purchased our stock later in the offering will be below the value per share of earlier investors.
Future interest rate increases in response to inflation may inhibit our ability to conduct our business and acquire or dispose of real property or real estate-related debt investments at attractive prices and your overall return may be reduced.

While we expect a significant amount of our leases to be short term multi-family leases that are not affected by inflation, we will be exposed to inflation risk with respect to income from any long-term leases on real property and from related real estate debt investments as these may constitute a source of our cash flows from operations. High inflation may in the future tighten credit and increase prices. Further, if interest rates rise, such as during an inflationary period, the cost of acquisition capital to purchasers may also rise, which could adversely impact our ability to dispose of our assets at attractive sales prices. Should we be required to acquire, hold or dispose of our assets during a period of inflation, our overall return may be reduced.
Our rights and the rights of our stockholders to recover claims against our directors and officers are limited, which could reduce your and our recovery against them if they negligently cause us to incur losses.
Maryland law provides that a director has no liability in that capacity if he performs his duties in good faith, in a manner he reasonably believes to be in our best interests and with the care that an ordinarily prudent person in a like position would use under similar circumstances. Our charter provides that our directors and officers will not be liable to us or our stockholders for monetary damages and that we will generally indemnify them for losses unless our directors are negligent or engage in misconduct or our independent directors are grossly negligent or engage in willful misconduct. As a result, you and we may have more limited rights against our directors and officers than might otherwise exist under common law, which could reduce our and your recovery from these persons if they act in a negligent manner. Our charter also requires us, to the maximum extent permitted by Maryland law, to indemnify and, without requiring a preliminary determination of the ultimate entitlement to indemnification, pay or reimburse reasonable expenses in advance of the final disposition of a proceeding to any individual who is a present or former director or officer and who is made or threatened to be made a party to the proceeding by reason of his or her service in that capacity or any individual who, while a director or officer and at our request, serves or has served as a director, officer, partner, member, manager or trustee of another corporation, partnership, limited liability company, joint venture, trust, employment benefit plan or other enterprise and who is made or threatened to be made a party to the proceeding by reason of his or her service in that capacity.
We may change our targeted investments, our policies and our operations without stockholder consent.
We expect to invest in multifamily rental properties, and debt or securities secured by multifamily rental properties, but we may also invest a relatively small portion of our proceeds in other real estate asset classes throughout the United States. Also, we are not restricted as to the following:
•
where we may acquire real estate investments in the United States;
•
the percentage of our proceeds that may be invested in properties as compared with the percentage of our portfolio that we may invest in real estate-related debt investments or mortgage loans, each of which may be leveraged and will have differing risks and profit potential; or
•
the percentage of our portfolio that may be invested in any one real estate investment (the greater the percentage of our subscription proceeds invested in one asset, the greater the potential adverse effect on us if that asset is unprofitable).
Though this is our current target portfolio, we may make adjustments to our target portfolio based on real estate market conditions and investment opportunities, and we may change our targeted investments and investment guidelines at any time without the consent of our stockholders, which could result in our making investments that are different from, and possibly riskier than, the investments described in this prospectus. A change in our targeted investments or investment guidelines could adversely affect the value of our common stock and our ability to make distributions to you.
Our board of directors determines our major policies, including our policies regarding financing, growth, debt capitalization, REIT qualification and distributions. Our board of directors may amend or revise these and other policies without a vote of the stockholders. Under Maryland General Corporation Law and our charter, our stockholders have a right to vote only on limited matters. Our board’s broad discretion in setting policies and our stockholders’ inability to exert control over those policies increases the uncertainty and risks you face as a stockholder.

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Investing in mezzanine debt, B-Notes or other subordinated debt involves greater risks of loss than senior loans secured by the same properties.
We may invest in mezzanine debt, B-Notes and other subordinated debt. These types of investments carry a higher degree of risk of loss than senior secured debt investments, because in the event of default and foreclosure, holders of senior liens will be paid in full before subordinated investors and, depending on the value of the underlying collateral, there may not be sufficient assets to pay all or any part of amounts owed to subordinated investors. Moreover, mezzanine debt, B-Notes and other subordinate debt investments may have higher loan-to-value ratios than conventional senior lien financing, resulting in less equity in the collateral and increasing the risk of loss of principal. If a borrower defaults or declares bankruptcy, we may be subject to agreements restricting or eliminating our rights as a creditor, including rights to call a default, foreclose on collateral, accelerate maturity or control decisions made in bankruptcy proceedings. In addition, the prices of lower credit quality securities are generally less sensitive to interest rate changes than more highly rated investments, but more sensitive to economic downturns or individual issuer developments. An economic downturn, for example, could cause a decline in the price of lower credit quality securities because the ability of obligors of instruments underlying the securities to make principal and interest payments may be impaired.
Risks Related to Conflicts of Interest
Because we rely on affiliates of Resource Real Estate for the provision of advisory and property management, if Resource Real Estate is unable to meet its obligations we may be required to find alternative providers of these services, which could result in a significant and costly disruption of our business.
Resource Real Estate, through one or more of its subsidiaries, owns and controls our Advisor and our Manager. The operations of our Advisor and our Manager rely substantially on Resource Real Estate. In the event that Resource Real Estate becomes unable to meet its obligations as they become due, we might be required to find alternative service providers, which could result in a significant disruption of our business and would likely adversely affect the value of your investment in us. Further, given the non-solicitation agreement we have with our advisor, it would be difficult for us to utilize any current employees that provide services to us.
Our Advisor and its affiliates, including all of our executive officers, two of our directors and other key real estate professionals face conflicts of interest caused by their compensation arrangements with us, which could result in actions that are not in the long-term best interests of our stockholders.
All of our executive officers and two of our directors are also officers, directors, managers or key professionals of our Advisor and other affiliated Resource Real Estate and/or C-III entities. Our Advisor and its affiliates receive substantial fees from us. These fees could influence our advisor’s advice to us as well as the judgment of affiliates of our advisor. Among other matters, these compensation arrangements could affect their judgment with respect to:
•
the continuation, renewal or enforcement of our agreements with our Advisor and its affiliates, including the advisory agreement and the management agreement;
•
sales of properties and other investments, which may entitle our Advisor to disposition fees and the possible issuance to our Advisor of shares of our common stock through the conversion of our convertible stock;
•
acquisitions of properties and investments in loans, which entitle our Advisor to acquisition and asset management fees, and, in the case of acquisitions or investments from other Resource Real Estate-sponsored programs, might entitle affiliates of our Advisor to disposition fees in connection with its services for the seller;
•
borrowings to acquire properties and other investments, which borrowings will increase the acquisition and asset management fees payable to our Advisor;
•
whether and when we seek to list our common stock on a national securities exchange, which listing could entitle our Advisor to the issuance of shares of our common stock through the conversion of our convertible stock; and
•
whether and when we seek to sell the company or its assets, which sale could entitle our Advisor to disposition fees and to the issuance of shares of our common stock through the conversion of our convertible stock and terminate the asset management fee.
The fees our Advisor receives in connection with the acquisition and management of assets are based on the cost of the investment, and not based on the quality of the investment or the quality of the services rendered to us. This may influence our Advisor to recommend riskier transactions to us.
Our Advisor will face conflicts of interest relating to the acquisition of assets and such conflicts may not be resolved in our favor, which could limit our ability to make distributions and reduce your overall investment return.

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We rely on our sponsor and other key real estate professionals at our Advisor to identify suitable investment opportunities for us. The executive officers and several of the other key real estate professionals at our Advisor are also the key real estate professionals at the advisors to other Resource Real Estate-sponsored programs and joint ventures. As such, Resource Real Estate-sponsored programs and joint ventures rely on many of the same real estate professionals as will future programs. Many investment opportunities that are suitable for us may also be suitable for other Resource Real Estate programs and joint ventures. When these real estate professionals direct an investment opportunity to any Resource Real Estate-sponsored program or joint venture, they, in their sole discretion, will offer the opportunity to the program or joint venture for which the investment opportunity is most suitable based on the investment objectives, portfolio and criteria of each program or joint venture. For so long as we are externally advised, our charter provides that it shall not be a proper purpose of the corporation for us to purchase real estate or any significant asset related to real estate unless our Advisor has recommended the investment to us. Thus, the real estate professionals of our Advisor could direct attractive investment opportunities to other entities. Such events could result in us investing in properties that provide less attractive returns, which may reduce our ability to make distributions to you.
Our Advisor will face conflicts of interest relating to joint ventures that we may form with affiliates of our Advisor, which conflicts could result in a disproportionate benefit to the other venture partners at our expense.
If approved by our conflicts committee, we may enter into joint venture agreements with other Resource Real Estate-sponsored programs or affiliated entities for the acquisition, development or improvement of properties or other investments. Our Advisor and the advisors to the other Resource Real Estate-sponsored programs have the same executive officers and key employees; and these persons will face conflicts of interest in determining which Resource Real Estate program or investor should enter into any particular joint venture agreement. These persons may also face a conflict in structuring the terms of the relationship between our interests and the interests of the Resource Real Estate-affiliated co-venturer and in managing the joint venture. Any joint venture agreement or transaction between us and a Resource Real Estate-affiliated co-venturer will not have the benefit of arm’s-length negotiation of the type normally conducted between unrelated co-venturers. The Resource Real Estate-affiliated co-venturer may have economic or business interests or goals that are or may become inconsistent with our business interests or goals. These co-venturers may thus be either to our and your benefit or detriment.
Our Advisor, the real estate professionals assembled by our Advisor, their affiliates and our officers face competing demands relating to their time, and this may cause our operations and your investment to suffer.
We rely on our Advisor, the real estate professionals our Advisor has assembled and their affiliates and officers for the day-to-day operation of our business. Our Advisor, its real estate professionals and affiliates, including our officers and employees, have interests in other Resource Real Estate programs and engage in other business activities. As a result of their interests in other Resource Real Estate programs and the fact that they have engaged in and they will continue to engage in other business activities, they face conflicts of interest in allocating their time among us, our Advisor and other Resource Real Estate-sponsored programs and other business activities in which they are involved. Should our Advisor breach its fiduciary duty to us by inappropriately devoting insufficient time or resources to our business, the returns on our investments may suffer.
Our executive officers and two of our directors face conflicts of interest related to their positions in our Advisor and its affiliates which could hinder our ability to implement our business strategy and to generate returns to you.
Our executive officers and two of our directors are also executive officers, directors, managers and key professionals of our Advisor and other affiliated Resource Real Estate and/or C-III entities. Their loyalties to these other entities could result in actions or inactions that breach their fiduciary duties to us and are detrimental to our business, which could harm the implementation of our business strategy and our investment and leasing opportunities. If we do not successfully implement our business strategy, we may be unable to generate the cash needed to make distributions to you and to maintain or increase the value of our assets.
Risks Related to This Offering and Our Corporate Structure
Our charter limits the number of shares a person may own, which may discourage a takeover that could otherwise result in a premium price to our stockholders.
Our charter, with certain exceptions, authorizes our directors to take such actions as are necessary and desirable to preserve our qualification as a REIT. To help us comply with the REIT ownership requirements of the Internal Revenue Code, our charter prohibits a person from directly or constructively owning more than 9.8% of our outstanding shares, unless exempted by our board of directors. This restriction may have the effect of delaying, deferring or preventing a change in control of us, including an extraordinary transaction (such as a merger, tender offer or sale of all, or substantially all, of our assets) that might provide a premium price for holders of our common stock.

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Our charter permits our board of directors to issue stock with terms that may subordinate the rights of our common stockholders or discourage a third party from acquiring us in a manner that could result in a premium price to our stockholders.
Our board of directors may increase or decrease the aggregate number of shares of stock or the number of shares of stock of any class or series that we have authority to issue and classify or reclassify any unissued common stock or preferred stock and establish the preferences, conversion or other rights, voting powers, restrictions, limitations as to distributions, qualifications and terms or conditions of redemption of any such stock. Our board of directors could authorize the issuance of preferred stock with terms and conditions that could have priority as to distributions and amounts payable upon liquidation over the rights of the holders of our common stock. Such preferred stock could also have the effect of delaying, deferring or preventing a change in control of us, including an extraordinary transaction (such as a merger, tender offer or sale of all, or substantially all, of our assets) that might provide a premium price to holders of our common stock. A majority of our conflicts committee must approve any issuance of preferred stock.
Your investment return may be reduced if we are required to register as an investment company under the Investment Company Act; if we or our subsidiaries become an unregistered investment company, we could not continue our business.
Neither we nor any of our subsidiaries intend to register as investment companies under the Investment Company Act of 1940, as amended (the “Investment Company Act”). If we or our subsidiaries were obligated to register as investment companies, we would have to comply with a variety of substantive requirements under the Investment Company Act that impose, among other things:
•
limitations on capital structure;
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restrictions on specified investments;
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prohibitions on transactions with affiliates; and
•
compliance with reporting, record keeping, voting, proxy disclosure and other rules and regulations that would significantly increase our operating expenses.
Under the relevant provisions of Section 3(a)(1) of the Investment Company Act, an investment company is any issuer that:
•
pursuant to Section 3(a)(1)(A), is or holds itself out as being engaged primarily, or proposes to engage primarily, in the business of investing, reinvesting or trading in securities (the “primarily engaged test”); or
•
pursuant to Section 3(a)(1)(C), is engaged or proposes to engage in the business of investing, reinvesting, owning, holding or trading in securities and owns or proposes to acquire “investment securities” having a value exceeding 40% of the value of such issuer’s total assets (exclusive of U.S. government securities and cash items) on an unconsolidated basis (the “40% test”). “Investment securities” excludes U.S. government securities and securities of majority-owned subsidiaries that are not themselves investment companies and are not relying on the exception from the definition of investment company under Section 3(c)(1) or Section 3(c)(7) (relating to private investment companies).

We believe that we and our operating partnership will not be required to register as an investment company. With respect to the 40% test, most of the entities through which we and our operating partnership will own our assets will be majority-owned subsidiaries that will not themselves be investment companies and will not be relying on the exceptions from the definition of investment company under Section 3(c)(1) or Section 3(c)(7).
With respect to the primarily engaged test, we and our operating partnership are holding companies and do not intend to invest or trade in securities ourselves. Rather, through the majority-owned subsidiaries of our operating partnership, we and our operating partnership are primarily engaged in the non-investment company businesses of these subsidiaries, namely the business of purchasing or otherwise acquiring real estate and real estate-related assets.
If any of the subsidiaries of our operating partnership fail to meet the 40% test, we believe they will usually, if not always, be able to rely on Section 3(c)(5)(C) of the Investment Company Act for an exception from the definition of an investment company. (Otherwise, they should be able to rely on the exceptions for private investment companies pursuant to Section 3(c)(1) and Section 3(c)(7) of the Investment Company Act.) As reflected in no-action letters, the SEC staff’s position on Section 3(c)(5)(C) generally requires that an issuer maintain at least 55% of its assets in “mortgages and other liens on and interests in real estate,” or qualifying assets; at least 80% of its assets in qualifying assets plus real estate-related assets; and no more than 20% of the value of its assets in other than qualifying assets and real estate-related assets, which we refer to as miscellaneous assets. To constitute a qualifying asset under this 55% requirement, a real estate interest must meet various criteria based on no-action letters. We expect that any of the subsidiaries of our operating partnership relying on Section 3(c)(5)(C) will invest at least 55% of its assets in qualifying assets, and approximately an additional 25% of its assets in other types of real estate-related assets. If any subsidiary relies on Section 3(a)(5)(C), we expect to rely on guidance published by the SEC staff or on our analyses of guidance published with respect to types of assets to determine which assets are qualifying real estate assets and real estate-related assets.

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To maintain compliance with the Investment Company Act, our subsidiaries may be unable to sell assets we would otherwise want them to sell and may need to sell assets we would otherwise wish them to retain. In addition, our subsidiaries may have to acquire additional assets that they might not otherwise have acquired or may have to forego opportunities to make investments that we would otherwise want them to make and would be important to our investment strategy. Moreover, the SEC or its staff may issue interpretations with respect to various types of assets that are contrary to our views and current SEC staff interpretations are subject to change, which increases the risk of non-compliance and the risk that we may be forced to make adverse changes to our portfolio. In this regard, we note that in 2011 the SEC issued a concept release indicating that the SEC and its staff were reviewing interpretive issues relating to Section 3(c)(5)(C) and soliciting views on the application of Section 3(c)(5)(C) to companies engaged in the business of acquiring mortgages and mortgage-related instruments. If we were required to register as an investment company but failed to do so, we would be prohibited from engaging in our business and criminal and civil actions could be brought against us. In addition, our contracts would be unenforceable unless a court required enforcement and a court could appoint a receiver to take control of us and liquidate our business.

Rapid changes in the values of our assets may make it more difficult for us to maintain our qualification as a REIT or our exception from the definition of an investment company under the Investment Company Act.
If the market value or income potential of our qualifying real estate assets changes as compared to the market value or income potential of our non-qualifying assets, or if the market value or income potential of our assets that are considered “real estate-related assets” under the Investment Company Act or REIT qualification tests changes as compared to the market value or income potential of our assets that are not considered “real estate-related assets” under the Investment Company Act or REIT qualification tests, whether as a result of increased interest rates, prepayment rates or other factors, we may need to modify our investment portfolio in order to maintain our REIT qualification or exception from the definition of an investment company. If the decline in asset values or income occurs quickly, this may be especially difficult, if not impossible, to accomplish. This difficulty may be exacerbated by the illiquid nature of many of the assets that we may own. We may have to make investment decisions that we otherwise would not make absent REIT and Investment Company Act considerations.
You may not be able to sell your shares under our share redemption program and, if you are able to sell your shares under the program, you may not be able to recover the amount of your investment in our shares.
Our board of directors has approved the share redemption program, but may amend, suspend or terminate our share redemption program upon 30 days’ notice without stockholder approval.  Our board of directors may reject any request for redemption of shares.  Further, there are many limitations on your ability to sell your shares pursuant to the share redemption program.  Any stockholder requesting repurchase of their shares pursuant to our share redemption program will be required to certify to us that such stockholder acquired the shares by either (1) a purchase directly from us or (2) a transfer from the original investor by way of (i) a bona fide gift not for value to, or for the benefit of, a member of the stockholder’s immediate or extended family, (ii) a transfer to a custodian, trustee or other fiduciary for the account of the stockholder or his or her immediate or extended family in connection with an estate planning transaction, including by bequest or inheritance upon death or (iii) operation of law.
In addition, our share redemption program contains other restrictions and limitations.  We expect to redeem shares on a quarterly basis. Shares will be redeemed pro rata among all stockholders requesting redemption in such quarter, with a priority given to redemptions upon the death, qualifying disability, or confinement to a long-term care facility of a stockholder; next, to stockholders who demonstrate, in the discretion of our board of directors, another involuntary, exigent circumstance, such as bankruptcy; next, to stockholders subject to a mandatory distribution requirement under such stockholder’s IRA; and, finally, to other redemption requests. 
You must hold your shares for at least one year prior to seeking redemption under the share redemption program, except that our board of directors may waive this one-year holding requirement with respect to redemptions sought upon the death, qualifying disability, or confinement to a long-term care facility of a stockholder or for other exigent circumstances, and that if a stockholder is redeeming all of his or her shares the board of directors may waive the one-year holding requirement with respect to shares purchased pursuant to the distribution reinvestment plan. We will not redeem more than 5% of the weighted average number of shares outstanding during the twelve-month period immediately prior to the date of redemption.  Our board of directors will determine from time to time, and at least quarterly, whether we have sufficient excess cash to repurchase shares.  Generally, the cash available for redemption will be limited to proceeds from our distribution reinvestment plan plus 1% of the operating cash flow from the previous fiscal year (to the extent positive).
Other than redemptions following the death, qualifying disability or confinement to a long-term care facility of a stockholder, the purchase price for such shares we repurchase under our redemption program will be as follows.

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For those shares held by the redeeming stockholder for at least one year, 92.5% of our most recent applicable net asset value ("NAV") per share as of the applicable redemption date;
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For those shares held by the redeeming stockholder for at least two years, 95.0% of our most recent applicable NAV per share as of the applicable redemption date;
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For those shares held by the redeeming stockholder for at least three years, 97.5% of our most recent applicable NAV per share as of the applicable redemption date; and
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For those shares held by the redeeming stockholder for at least four years, 100% of our most recent applicable NAV per share as of the applicable redemption date.
In addition, the purchase price per share will be adjusted for any stock combinations, splits, recapitalizations and the like with respect to the shares of common stock and reduced by the aggregate amount of net sale or refinance proceeds per share, if any, distributed to the redeeming stockholder prior to the redemption date.
Accordingly, you may receive less by selling your shares back to us than you would receive if our investments were sold for their estimated values and such proceeds were distributed in our liquidation.
Your interest in us will be diluted if we issue additional shares, which could reduce the overall value of your investment.
Our stockholders do not have preemptive rights to any shares we issue in the future. Our charter authorizes us to issue 1,010,050,000 shares of capital stock, of which 1,000,000,000 shares are designated as common stock, 50,000 shares are designated as convertible stock and 10,000,000 are designated as preferred stock. Our board of directors may increase the number of authorized shares of capital stock without stockholder approval. After you purchase shares in this offering, our board may elect to (1) sell additional equity securities in future public or private offerings; (2) issue shares of our common stock upon the exercise of the options we may grant to our independent directors or to employees of our advisor or property manager; (3) issue shares to our Advisor, its successors or assigns, in payment of an outstanding obligation or as consideration in a related-party transaction; (4) issue shares of common stock upon the conversion of our convertible stock; or (5) issue shares of our common stock to sellers of properties we acquire in connection with an exchange of limited partnership interests of our operating partnership. To the extent we issue additional equity interests, your percentage ownership interest in us will be diluted. Further, depending upon the terms of such transactions, most notably the offering price per share, which may be less than the price paid per share in any public offering and the value of our properties, existing stockholders may also experience a dilution in the book value of their investment in us.
Payment of substantial fees and expenses to our Advisor and its affiliates reduces cash available for investment and distribution and increases the risk that you will not be able to recover the amount of your investment in our shares.
Our Advisor and its affiliates perform services for us in connection with the selection and acquisition of our investments, the management and leasing of our properties and the administration of our other investments. We pay them substantial fees for these services, which result in immediate dilution to the value of your investment and reduce the amount of cash available for investment or distribution to stockholders.
We also pay significant fees to our Advisor and its affiliates during our operational stage. Those fees include property management and debt servicing fees, asset management fees and obligations to reimburse our advisor and its affiliates for expenses they incur in connection with their providing services to us, including certain personnel services.
We may also pay significant fees during our listing/liquidation stage. The subordinated incentive fee that we will pay to our Advisor upon our investors receiving an agreed upon return on their investment is structured in the form of convertible stock. Our Advisor has exchanged 5,000 shares of our common stock for 50,000 shares of our convertible stock. Under limited circumstances, these shares may be converted into shares of our common stock satisfying our obligation to pay our advisor an incentive fee and diluting our stockholders’ interest in us.  Our convertible stock will convert into shares of common stock on one of two events.  First, it will convert if we have paid distributions to common stockholders such that aggregate distributions are equal to 100% of the price at which we sold our outstanding shares of common stock plus an amount sufficient to produce a 7% cumulative, non-compounded, annual return at that price.  Alternatively, the convertible stock will convert if we list our shares of common stock on a national securities exchange and, on the 31st trading day after listing, the value of our company based on the average trading price of our shares of common stock since the listing, plus prior distributions, combine to meet the same 7% return threshold for our common stockholders.  Each of these two events is a “Triggering Event.” 

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Upon a Triggering Event, our convertible stock will, unless our advisory agreement with our advisor has been terminated or not renewed on account of a material breach by our Advisor, generally be converted into a number of shares of common stock equal to 1/50,000 of the quotient of:
(A) 15% of the amount, if any, by which
▪
(1) the value of the company as of the date of the event triggering the conversion plus the total distributions paid to our stockholders through such date on the then outstanding shares of our common stock exceeds
▪
(2) the sum of the aggregate issue price of those outstanding shares plus a 7% cumulative, non-compounded, annual return on the issue price of those outstanding shares as of the date of the event triggering the conversion, divided by
(B) the value of the company divided by the number of outstanding shares of common stock, in each case, as of the date of the event triggering the conversion. 
However, if our advisory agreement with our Advisor expires without renewal or is terminated (other than because of a material breach by our advisor) prior to a Triggering Event, then upon a Triggering Event the holder of the convertible stock will be entitled to a prorated portion of the number of shares of common stock determined by the foregoing calculation, where such proration is based on the percentage of time we were advised by our advisor.  As a result, following conversion, the holder of the convertible stock will be entitled to a portion of amounts distributable to our stockholders, which such amounts distributable to the holder could be significant. 
Our Advisor can influence whether our common stock is listed for trading on a national securities exchange.  Accordingly, our advisor can influence the conversion of the convertible stock issued to it and the resulting dilution of other stockholders’ interests.
These fees and other potential payments increase the risk that the amount available for distribution to common stockholders upon a liquidation of our portfolio would be less than the purchase price of the shares in this offering. Substantial consideration paid to our Advisor and its affiliates also increases the risk that you will not be able to resell your shares at a profit, even if our shares are listed on a national securities exchange.
If we are unable to obtain funding for future capital needs, cash distributions to our stockholders could be reduced and the value of our investments could decline.
If we need additional capital in the future to improve or maintain our properties or for any other reason, we may have to obtain financing from sources beyond our cash flow from operations, such as borrowings, sales of assets or future equity offerings. These sources of funding may not be available on attractive terms or at all. If we cannot procure additional funding for capital improvements, our investments may generate lower cash flows or decline in value, or both, which would limit our ability to make distributions to you and could reduce the value of your investment.
Our board of directors could opt into certain provisions of the Maryland General Corporation Law in the future, which may discourage others from trying to acquire control of us and may prevent our stockholders from receiving a premium price for their stock in connection with a business combination.
Under Maryland law, “business combinations” between a Maryland corporation and certain interested stockholders or affiliates of interested stockholders are prohibited for five years after the most recent date on which the interested stockholder becomes an interested stockholder. These business combinations include a merger, consolidation, share exchange, or, in circumstances specified in the statute, an asset transfer or issuance or reclassification of equity securities. Also under Maryland law, control shares of a Maryland corporation acquired in a control share acquisition have no voting rights except to the extent approved by a vote of two-thirds of the votes entitled to be cast on the matter. Shares owned by the acquirer, an officer of the corporation or an employee of the corporation who is also a director of the corporation are excluded from the vote on whether to accord voting rights to the control shares. Should our board opt into these provisions of Maryland law, it may discourage others from trying to acquire control of us and increase the difficulty of consummating any offer.
Because Maryland law permits our board to adopt certain anti-takeover measures without stockholder approval, investors may be less likely to receive a “control premium” for their shares.
In 1999, the State of Maryland enacted legislation that enhances the power of Maryland corporations to protect themselves from unsolicited takeovers. Among other things, the legislation permits our board, without stockholder approval, to amend our charter to:

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stagger our board of directors into three classes;
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require a two-thirds stockholder vote for removal of directors;
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provide that only the board can fix the size of the board;
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provide that all vacancies on the board, however created, may be filled only by the affirmative vote of a majority of the remaining directors in office; and
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require that special stockholder meetings may only be called by holders of a majority of the voting shares entitled to be cast at the meeting.
Under Maryland law, a corporation can opt to be governed by some or all of these provisions if it has a class of equity securities registered under the Exchange Act, and has at least three independent directors. Our charter does not prohibit our board from opting into any of the above provisions permitted under Maryland law. Becoming governed by any of these provisions could discourage an extraordinary transaction (such as a merger, tender offer or sale of all or substantially all of our assets) that might provide a premium price for holders of our securities.
If we internalize our management functions, we could incur significant costs associated with being self-managed and may not be able to retain or replace key personnel; and we may have increased exposure to litigation as a result of internalizing our management functions.
We may internalize management functions provided by our Advisor, our Manager and their respective affiliates by acquiring assets and personnel from our advisor, our property manager or their affiliates. In the event we were to acquire our advisor or our property manager, we cannot be sure of the terms relating to any such acquisition.
If we internalize, we would no longer bear the costs of the various fees and expenses we expect to pay to our Advisor and to our Manager under their respective agreements; however, our direct expenses would increase due to the inclusion of general and administrative costs, including legal, accounting, and other expenses related to corporate governance, SEC reporting and compliance. We would also incur the compensation and benefits costs of our officers and other employees and consultants that are now paid by our advisor, our property manager or their affiliates. We cannot reasonably estimate the amount of fees to our advisor, property manager and other affiliates we would save, and the costs we would incur, if we acquired these entities. If the expenses we assume as a result of an internalization are higher than the expenses we avoid paying to our advisor, our property manager and their affiliates, our net income per share and funds from operations per share would be lower than they otherwise would have been had we not acquired these entities, potentially decreasing the amount of funds available for distribution.
Additionally, if we internalize our management functions, we would employ personnel and would be subject to potential liabilities commonly faced by employers, such as workers’ disability and compensation claims, potential labor disputes and other employee-related liabilities and grievances. Also, there can be no assurances that we will be successful in retaining key personnel at our advisor or property manager in the event of an internalization transaction. In addition, we could have difficulty integrating the functions currently performed by our advisor, our property manager and their affiliates. Currently, the officers and employees of our Advisor, our Manager, and their affiliates perform asset management, property management, and general and administrative functions, including accounting and financial reporting, for multiple entities. We may fail to properly identify the appropriate mix of personnel and capital needs to operate as a stand-alone entity. An inability to manage an internalization transaction effectively could result in our incurring additional costs and/or experiencing deficiencies in our disclosures controls and procedures or our internal control over financial reporting. Such deficiencies could cause us to incur additional costs and our management’s attention could be diverted from effectively managing our properties and overseeing other real estate-related assets.
In addition, in recent years, internalization transactions have been the subject of stockholder litigation. Stockholder litigation can be costly and time-consuming, and there can be no assurance that any litigation expenses we might incur would not be significant or that the outcome of litigation would be favorable to us. Any amounts we are required to expend defending any such litigation will reduce the amount of funds available for investment by us in properties or other investments.
Risks Related to Investments in Real Estate
Economic and regulatory changes that impact the real estate market generally may decrease the value of our investments and weaken our operating results.
The properties we acquire and their performance are subject to the risks typically associated with real estate, including:
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downturns in national, regional and local economic conditions;
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competition;
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adverse local conditions, such as oversupply or reduction in demand and changes in real estate zoning laws that may reduce the desirability of real estate in an area;

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vacancies, changes in market rental rates and the need to periodically repair, renovate and re-let space;
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changes in the supply of or the demand for similar or competing properties in an area;
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changes in interest rates and the availability of permanent mortgage financing, which may render the sale of a property or loan difficult or unattractive;
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changes in governmental regulations, including those involving tax, real estate usage, environmental and zoning laws; and
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periods of high interest rates and tight money supply.
Any of the above factors, or a combination thereof, could result in a decrease in the value of our investments, which would have an adverse effect on our results of operations, reduce the cash available for distributions and the return on your investment.
We are subject to the risks associated with acquiring discounted real estate assets.
We are subject to the risks generally incident to the ownership of discounted real estate assets. Such assets may be purchased at a discount from historical cost due to substantial deferred maintenance, abandonment, undesirable locations or markets, or poorly structured financing of the real estate or debt instruments underlying the assets, which has since lowered their value. Further, the continuing instability in the financial markets may limit the availability of lines of credit and the degree to which people and entities have access to cash to pay rents or debt service on the underlying assets. Such illiquidity has the effect of increasing vacancies, increasing bankruptcies and weakening interest rates commercial entities can charge consumers, which can all decrease the value of already discounted real estate assets. Should conditions worsen, the continued inability of the underlying real estate assets to produce income may weaken our return on our investments, which in turn, may weaken your return on investment.
Further, irrespective of the instability the financial markets may have on the return produced by discounted real estate assets, the evolving efforts to correct the instability make the valuation of such assets highly unpredictable. The fluctuation in market conditions make judging the future performance of such assets difficult. There is a risk that we may not purchase real estate assets at absolute discounted rates and that such assets may continue to decline in value.
Residents of multifamily rental properties or tenants of other property classes we intend to acquire as discounted real estate assets who have experienced personal financial problems or a downturn in their business may delay enforcement of our rights, and we may incur substantial costs attempting to protect our investment.
The discounted real estate assets may involve investments in commercial leases with residents or tenants who have experienced a downturn in their residential or business leases and with residents or tenants who have experienced difficulties with their personal financial situations such as a job loss, bankruptcy or bad credit rating, resulting in their failure to make timely rental payments or their default under their leases or debt instruments. In the event of any default by residents or tenants at our properties, we may experience delays in enforcing our rights and may incur substantial costs attempting to protect our investment.
The bankruptcy or insolvency of any resident or tenant also may adversely affect the income produced by our properties. If any resident or tenant becomes a debtor in a case under the U.S. Bankruptcy Code, our actions may be restricted by the bankruptcy court and our financial condition and results of operations could be adversely affected.
The operating costs of our properties will not necessarily decrease if our income decreases.
Certain expenses associated with ownership and operation of a property may be intentionally increased to enhance the short- and long-term success of the property in the form of capital gain and current income, such as:
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increased staffing levels;
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enhanced technology applications; and
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increased marketing efforts.
Certain expenses associated with the ownership and operation of a property are not necessarily reduced by events that adversely affect the income from the property, such as:
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real estate taxes;
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insurance costs; and
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maintenance costs.

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For example, if the leased property loses tenants or rents are reduced, then those costs described in the preceding sentence are not necessarily reduced. As a result, our cost of owning and operating leased properties may, in the future, exceed the income the property generates even though the property’s income exceeded its costs at the time it was acquired. This would decrease the amount of cash available to us to distribute to you and could negatively affect your return on investment.
We will be subject to the risks associated with acquiring bank-owned properties, commonly referred to as REO (“real estate owned” by a bank after foreclosure).
We will be subject to the risks generally incident to the acquisition and ownership of REO. An investment in REO assets may be riskier than traditional real estate transactions. For example, such additional risks may include:
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REO assets often will require certain additional planned capital expenditures to repair and maintain the property in order to prepare the property for sale, due to the previous owners’ inadequate maintenance of the property;
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REO assets may result in the purchaser discovering additional latent defects with the property requiring additional unplanned expenditures not initially budgeted for as part of the redevelopment and repositioning capital expenditures; and
•
the timing and closing of an REO acquisition may be delayed and we may incur additional costs because of the bank’s lack of adequate staff assigned to the bank’s REO portfolio or the deliberate process of following the bank’s specific rules and requirements for obtaining its approval prior to closing the transaction.
The risks associated with REO may adversely affect our results of operations, reduce the cash available for distributions and the return on your investment.
We will compete with third parties in acquiring, managing and selling properties and other investments, which could reduce our profitability and the return on your investment.
We believe that the current market for properties that meet our investment objectives is extremely competitive and many of our competitors have greater resources than we do. We will compete with numerous other entities engaged in real estate investment activities, including individuals, corporations, banks and insurance company investment accounts, other REITs, real estate limited partnerships, the U.S. Government and other entities, to acquire, manage and sell real estate and real estate-related assets. Many of our expected competitors enjoy significant competitive advantages that result from, among other things, a lower cost of capital and enhanced operating efficiencies. In addition, the number of entities and the amount of funds competing for suitable investments may increase.     
Competition with these entities may result in the following:
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greater demand for the acquisition of real estate and real estate-related assets, which results in increased prices we must pay for our real estate and real estate-related assets;
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delayed investment of our capital;
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decreased availability of financing to us; or
•
reductions in the size or desirability of the potential tenant base for one or more properties that we lease.
If such events occur, you may experience a lower return on your investment.

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Our joint venture partners could take actions that decrease the value of an investment to us and lower our stockholders’ overall return.
We may enter into joint ventures to acquire properties and other assets. We may also purchase and renovate properties in joint ventures or in partnerships, co‑tenancies or other co‑ownership arrangements. Such investments may involve risks not otherwise present with other methods of investment, including, for example, the following risks:
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that our co‑venturer, co‑tenant or partner in an investment could become insolvent or bankrupt;
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that such co‑venturer, co‑tenant or partner may at any time have economic or business interests or goals that are or that become inconsistent with our business interests or goals;
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that such co‑venturer, co‑tenant or partner may be in a position to take action contrary to our instructions or requests or contrary to our policies or objectives; or
•
that such co-venturer, co-tenant or partner may grant us a right of first refusal or buy/sell right to buy out such co-venturer or partner, and that we may be unable to finance such a buy-out if it becomes exercisable or we are required to purchase such interest at a time when it would not otherwise be in our best interest to do so. If our interest is subject to a buy/sell right, we may not have sufficient cash, available borrowing capacity or other capital resources to allow us to elect to purchase an interest of a co-venturer subject to the buy/sell right, in which case we may be forced to sell our interest as the result of the exercise of such right when we would otherwise prefer to keep our interest.
Any of the above might subject a property to liabilities in excess of those contemplated and thus reduce our returns on that investment and therefore your return on investment.
Properties that have significant vacancies, especially discounted real estate assets, may experience delays in leasing up or could be difficult to sell, which could diminish our return on these properties.
A property may incur vacancies either by the expiration of tenant leases or the continued default of tenants under their leases. Further, our potential investments in underperforming multifamily rental properties or other types of discounted properties may have significant vacancies at the time of acquisition. If vacancies continue for a prolonged period of time beyond the expected lease-up stage that we anticipate will follow any redevelopment or repositioning efforts, we may suffer reduced revenues resulting in less cash available for distributions. In addition, the resale value of the property could be diminished because the market value of a particular property depends principally upon the value of the cash flow generated by the leases associated with that property. Such a reduction on the resale value of a property could also reduce your return on investment.
We may have difficulty re-leasing underperforming or discounted properties because of the location or reputation of the property.
The nature of discounted real estate assets carries the risk that the properties underlying certain real estate investments may be located in areas of slow, stagnant, or declining economic growth. Such areas may experience high levels of crime and unemployment. In addition to the risks these conditions impose on the current tenants and owners of properties underlying the real estate investments, these conditions may harm the reputation of the property making it difficult to attract future more productive tenants and owners to the areas where the properties are located. The inability to re-lease or re-sell property abandoned, foreclosed upon, or purchased in these areas may result in an unproductive use of our resources and could negatively affect our performance and your return on investment.
Because we rely on our Manager, its affiliates and third parties to manage the day-to-day affairs of any properties we acquire, should the staff of a particular property perform poorly, our operating results for that property will similarly be hindered and our net income may be reduced.
We depend upon the performance of our property managers to effectively manage our properties and real estate-related assets. Rising vacancies across real estate properties have resulted in increased pressure on real estate investors and their property managers to maintain adequate occupancy levels. In order to do so, we may have to offer inducements, such as free rent and resident amenities, to compete for residents. Poor performance by those sales, leasing and other management staff members operating a particular property will necessarily translate into poor results of operations for that particular property. Should our Manager, its affiliates or third parties fail to identify problems in the day-to-day management of a particular property or fail to take the appropriate corrective action in a timely manner, our operating results may be hindered and our net income reduced.

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If we are unable to sell a property for the price, on the terms, or within the time frame we desire, it could limit our ability to pay cash distributions to you.
Many factors that are beyond our control affect the real estate market and could affect our ability to sell properties for the price, on the terms, or within the time frame that we desire. These factors include general economic conditions, the availability of financing, interest rates and other factors, including supply and demand. Because real estate investments are relatively illiquid, we have a limited ability to vary our portfolio in response to changes in economic or other conditions. Further, before we can sell a property on the terms we want, it may be necessary to expend funds to correct defects or to make improvements. However, we can give no assurance that we will have the funds available to correct such defects or to make such improvements. We may be unable to sell our properties at a profit. Our inability to sell properties at the time and on the terms we want could reduce our cash flow and limit our ability to make distributions to you and could reduce the value of your investment.
Government entities, community associations and contractors may cause unforeseen delays and increase costs to redevelop and reposition underperforming properties that we may acquire, which may reduce our net income and cash available for distributions to you.
We may seek to or be required to incur substantial capital obligations to redevelop or reposition existing properties that we acquire at a discount as a result of neglect of the previous owners or tenants of the properties and to sell the properties. Our advisor and its key real estate professionals will do their best to acquire properties that do not require excessive redevelopment or modifications and that do not contain hidden defects or problems. There could, however, be unknown and excessive costs, expenses and delays associated with a discounted property’s redevelopment, repositioning or interior and exterior upgrades. We will be subject to risks relating to the uncertainties associated with rezoning for redevelopment and other concerns of governmental entities, community associations and our construction manager’s ability to control costs and to build in conformity with plans and the established timeframe. We will pay a construction management fee to a construction manager, which may be our Manager or its affiliates, if new capital improvements are required.
If we are unable to increase rental rates or sell the redeveloped property at a price consistent with our underwritten projections due to local market or economic conditions to offset the cost of the redevelopment or repositioning the property, the return on your investment may suffer. To the extent we acquire discounted properties in major metropolitan areas where the local government has imposed rent controls, we may be prohibited from increasing the rental rates to a level sufficient to cover the particular property’s redevelopment costs and expenses.
Costs of responding to both known and previously undetected environmental contamination and hazardous conditions may decrease our cash flows and limit our ability to make distributions.
Real property and the operations conducted on real property are subject to federal, state and local laws and regulations relating to protection of the environment and human health. We could be subject to liability in the form of fines, penalties or damages for noncompliance with these laws and regulations. These laws and regulations generally govern wastewater discharges, air emissions, the operation and removal of underground and above-ground storage tanks, the use, storage, treatment, transportation and disposal of solid and hazardous materials, the remediation of contamination associated with the release or disposal of solid and hazardous materials, the presence of toxic building materials, and other health and safety-related concerns.
Some of these laws and regulations may impose joint and several liability on the tenants, current or previous owners or operators of real property for the costs to investigate or remediate contaminated properties, whether the contamination occurred prior to purchase, or whether the acts causing the contamination were legal. These costs could be substantial. Such laws often impose liability whether or not the owner or operator knew of, or was responsible for, the presence of such hazardous or toxic substances. Our tenants’ operations, the condition of properties at the time we buy them, operations in the vicinity of our properties, such as the presence of underground storage tanks, or activities of unrelated third parties may affect our properties.
Environmental laws also may impose liens on a property or restrictions on the manner in which a property may be used or businesses may be operated, and these restrictions may require substantial expenditures or prevent us from entering into leases with prospective tenants that may be impacted by such laws. Environmental laws provide for sanctions for noncompliance and may be enforced by governmental agencies or, in certain circumstances, by private parties. Certain environmental laws and common law principles could be used to impose liability for the release of and exposure to hazardous substances, including asbestos-containing materials and lead-based paint. Third parties may seek recovery from real property owners or operators for personal injury or property damage associated with exposure to released hazardous substances.

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The presence of hazardous substances, or the failure to properly manage or remediate these substances, may hinder our ability to sell, rent or pledge such property as collateral for future borrowings. Any material expenditures, fines, penalties, or damages we must pay will reduce our ability to make distributions and may reduce the value of your investment.
Properties acquired by us may have toxic mold that could result in substantial liabilities to us.

Litigation and concern about indoor exposure to certain types of toxic molds has been increasing as the public becomes aware that exposure to mold can cause a variety of health effects and symptoms, including allergic reactions. It is impossible to eliminate all mold and mold spores in the indoor environment. There can be no assurance that the properties acquired by us will not contain toxic mold. The difficulty in discovering indoor toxic mold growth could lead to an increased risk of lawsuits by affected persons and the risk that the cost to remediate toxic mold will exceed the value of the property. There is a risk that we may acquire properties that contain toxic mold and such properties may negatively affect our performance and your return on investment.
Uninsured losses relating to real property or excessively expensive premiums for insurance coverage could reduce our cash flows and the return on your investment.
There are types of losses, generally catastrophic in nature, such as losses due to wars, acts of terrorism, earthquakes, floods, hurricanes, pollution or environmental matters that are uninsurable or not economically insurable, or may be insured subject to limitations, such as large deductibles or co-payments. Insurance risks associated with potential acts of terrorism could sharply increase the premiums we pay for coverage against property and casualty claims. Additionally, mortgage lenders in some cases have begun to insist that commercial property owners purchase coverage against terrorism as a condition for providing mortgage loans. Such insurance policies may not be available at reasonable costs, if at all, which could inhibit our ability to finance or refinance our properties. In such instances, we may be required to provide other financial support, either through financial assurances or self-insurance, to cover potential losses. We may not have adequate coverage for such losses. If any of our properties incurs a casualty loss that is not fully insured, the value of our assets will be reduced by any such uninsured loss. In addition, other than any working capital reserve or other reserves we may establish, we have no source of funding to repair or reconstruct any uninsured property. Also, to the extent we must pay unexpectedly large amounts for insurance, we could suffer reduced earnings that would result in lower distributions.
Our costs associated with and the risk of failing to comply with the Americans with Disabilities Act, the Fair Housing Act and other tax credit programs may adversely affect cash available for distributions.
Our properties are generally expected to be subject to the Americans with Disabilities Act of 1990, as amended.  Under the Disabilities Act, all places of public accommodation are required to comply with federal requirements related to access and use by disabled persons.  The Disabilities Act has separate compliance requirements for “public accommodations” and “commercial facilities” that generally require that buildings and services be made accessible and available to people with disabilities.  The Disabilities Act’s requirements could require removal of access barriers and could result in the imposition of injunctive relief, monetary penalties or, in some cases, an award of damages.  We cannot assure you that we will be able to acquire properties that comply with the Disabilities Act or place the burden on the seller or other third party to ensure compliance with such laws. If we cannot, our funds used for compliance with these laws may affect cash available for distributions and the amount of distributions to you.
The multifamily rental properties we acquire must comply with Title III of the Disabilities Act, to the extent that such properties are “public accommodations” or “commercial facilities” as defined by the Disabilities Act. Compliance with the Disabilities Act could require removal of structural barriers to handicapped access in certain public areas of our apartment communities where such removal is readily achievable.  The Disabilities Act does not, however, consider residential properties, such as multifamily rental properties, to be public accommodations or commercial facilities, except to the extent portions of such facilities, such as the leasing office, are open to the public.
We also must comply with the Fair Housing Amendment Act of 1988 (“FHAA”), which requires that multifamily rental properties first occupied after March 13, 1991 be accessible to handicapped residents and visitors.  Compliance with the FHAA could require removal of structural barriers to handicapped access in a community, including the interiors of apartment units covered under the FHAA. Recently there has been heightened scrutiny of multifamily rental properties for compliance with the requirements of the FHAA and the Disabilities Act and an increasing number of substantial enforcement actions and private lawsuits have been brought against multifamily rental properties to ensure compliance with these requirements.  Noncompliance with the FHAA and the Disabilities Act could result in the imposition of fines, awards of damages to private litigants, payment of attorneys’ fees and other costs to plaintiffs, substantial litigation costs and substantial costs of remediation.

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Certain of our properties may be subject to the low income housing tax credits, historic preservation tax credits or other similar tax credit rules at the federal, state or municipal level. The application of these tax credit rules is extremely complicated and noncompliance with these rules may have adverse consequences for us. Noncompliance with applicable tax regulations may result in the loss of future or other tax credits and the fractional recapture of these tax credits already taken. Accordingly, noncompliance with these tax credit rules and related restrictions may adversely affect our ability to distribute any cash to our investors.
Our properties may be dispersed geographically and across various markets and sectors.
We may acquire and operate properties in different locations throughout the United States and in different markets and sectors. The success of our properties will depend largely on our ability to hire various managers and service providers in each area, market and sector where the properties are located or situated. It may be more challenging to manage a diverse portfolio. Failure to meet such challenges could reduce the value of your investment.
Because of the concentration of a significant portion of our assets in certain geographic markets, any adverse economic, real estate or business conditions in these markets could affect our operating results and our ability to make distributions to our stockholders

As of December 31, 2016, our real estate investments in Dallas, Texas, Atlanta, Georgia, Portland, Oregon, and Denver, Colorado represented approximately 19.4%, 9.9%, 14.6% and 16.6%, respectively, of the net book value of our rental properties, respectively. As a result, the geographic concentration of our portfolio makes it particularly susceptible to adverse economic developments in the Dallas, Atlanta, Portland, and Denver real estate markets. Any adverse economic or real estate developments in these markets, such as business layoffs or downsizing, industry slowdowns, relocations of businesses, changing demographics and other factors, or any decrease in demand for multifamily rentals resulting from the local business climate, could adversely affect our operating results and our ability to make distributions to stockholders.
Newly constructed and existing multifamily rental properties or other properties that compete with any properties we may acquire in any particular location could adversely affect the operating results of our properties and our cash available for distribution.
We may acquire properties in locations that experience increases in construction of multifamily rental or other properties that compete with our properties. This increased competition and construction could:
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make it more difficult for us to find residents to lease units in our apartment communities;
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force us to lower our rental prices in order to lease units in our apartment communities; or
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substantially reduce our revenues and cash available for distribution.
Our efforts to upgrade multifamily rental properties to increase occupancy and raise rental rates through redevelopment and repositioning may fail, which may reduce our net income and the cash available for distributions to you.
The success of our ability to upgrade any multifamily rental properties that we may acquire and realize capital gains and current income for you on these investments materially depends upon the status of the economy where the multifamily rental property is located. Our revenues will be lower if the rental market cannot bear the higher rental rate that accompanies the upgraded multifamily rental property due to job losses or other economic hardships. Should the local market be unable to support a higher rental rate for a multifamily rental property that we upgraded, we may not realize the premium rental we had assumed by a given upgrade and we may realize reduced rental income or a reduced gain or even loss upon the sale of the property. These events could cause us to reduce the cash available for distributions.
Repositioning risks could affect our profitability.
A component of our strategy is to renovate and reposition multifamily communities in order to effect long-term growth. Our renovation and repositioning activities generally entail certain risks, including the following:
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funds may be expended and management’s time devoted to projects that may not be completed due to a variety of factors, including without limitation, the inability to obtain necessary governmental approvals;
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construction costs of a renovation or repositioning project may exceed original estimates, possibly making the project economically unfeasible or the economic return on a repositioned property less than anticipated;
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increased material and labor costs, problems with subcontractors, or other costs due to errors and omissions which occur in the renovation process;

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projects may be delayed due to required governmental approvals, adverse weather conditions, labor shortages or other unforeseen complications;
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occupancy rates and rents at a repositioned property may be less than anticipated; and
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the operating expenses at a repositioned property may be higher than anticipated.
These risks may reduce the funds available for distribution to our stockholders. Further, the renovation and repositioning of properties is also subject to the general risks associated with real estate investments.
A concentration of our investments in any one property sector may leave our profitability vulnerable to a downturn or slowdown in such sector.
All of our investments are in the multifamily sector.  Vacancy rates in multifamily rental properties and other commercial real estate properties may be related to jobless rates. As a result, we are subject to risks inherent in investments in a single type of property. The potential effects on our revenues, and as a result, on cash available for distribution, resulting from increased jobless rates as well as a general downturn or slowdown in multifamily properties could be more pronounced than if we had more fully diversified our investments.
Increased competition and the increased affordability of single-family and multifamily homes and condominiums for sale or rent could limit our ability to retain residents, lease apartment units or increase or maintain rents.
Any multifamily rental property that we may acquire and own will most likely compete with numerous housing alternatives in attracting residents, including single-family and multifamily homes and condominiums. Due to the current economic conditions, competitive housing in a particular area and the increasing affordability of single-family and multifamily homes and condominiums to buy caused by relatively low mortgage interest rates and generous federal and state government programs to promote home ownership could adversely affect our ability to fully occupy any multifamily rental properties we may acquire. Further, single-family homes and condominiums available for rent could also adversely affect our ability to retain our residents, lease apartment units and increase or maintain rental rates.
Short-term multifamily leases expose us to the effects of declining market rent, which could adversely impact our ability to make cash distributions.
We expect that substantially all of our apartment leases will be for a term of one year or less. Because these leases generally permit the residents to leave at the end of the lease term or earlier in certain situations, such as when a resident loses his/her job, without penalty, our rental revenues may be impacted by declines in market rents more quickly than if our leases were for longer terms.
If we acquire student housing properties, these properties would be subject to an annual leasing cycle, short lease-up period, seasonal cash flows, changing university admission and housing policies and other risks inherent in the student housing industry.
Similar to multifamily rental properties, if we acquire student housing, we expect to generally lease such properties under short-term, 12-month leases, and in certain cases, under nine-month or shorter-term semester leases. As a result, we may experience significantly reduced cash flows during the summer months at properties leased under leases having terms shorter than 12 months. Student housing properties are also typically leased during a limited leasing season that usually begins in January and ends in August of each year. We are therefore highly dependent on the effectiveness of our marketing and leasing efforts and personnel during this season.
Changes in university admission policies or overall student enrollment levels could also adversely affect the investment return on student housing properties. For example, if a university reduces the number of student admissions or requires that a certain class of students, such as freshman, live in a university-owned facility, the demand for beds at our properties may be reduced and our occupancy rates may decline. We will also be required to form relationships directly or through third parties with colleges and universities for referrals of prospective student-residents or for mailing lists of prospective student-residents and their parents. Any failure to maintain good relationships with these colleges and universities could therefore have a material adverse effect on us. Federal and state laws require colleges to publish and distribute reports of on-campus crime statistics, which may result in negative publicity and media coverage associated with crimes occurring on or in the vicinity of our on-campus properties.

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If we acquire student housing properties, we may face significant competition from university-owned on-campus student housing, from other off-campus student housing properties and from traditional multifamily housing located within close proximity to universities.
On-campus student housing has certain inherent advantages over off-campus student housing in terms of physical proximity to the university campus and integration of on-campus facilities into the academic community. Colleges and universities can generally avoid real estate taxes and borrow funds at lower interest rates than us and other private sector operators. Competition from university-owned on-campus housing could adversely affect the performance of any student housing properties we may acquire.
If we invest in senior residential properties, we may incur liability for failing to comply with the FHAA and the Housing for Older Persons Act or certain state regulations.
Any senior residential properties we acquire will be required to qualify as housing for older persons and will be required to comply with the appropriate federal and state laws governing age and owner occupancy. Noncompliance with the FHAA and the Housing for Older Persons Act and certain state registration requirements could result in fines, awards of damages to private litigants, payment of attorneys’ fees and other substantial costs of remediation.
The condominium industry is subject to extensive regulation and other unique risks.
We may invest in condominium properties to convert the condominiums into multifamily rental units or market and sell the condominium units at discounted prices. These activities are subject to extensive laws and regulations of local, state and federal governments. These laws and regulations vary by municipality and state and their requirements can be burdensome and costly.
Further, condominium associations often serve as mini-governments in the form and manner by which they govern the activities and services impacting the residents of the condominium building. Our lack of control over any condominium association, where we own the building, could raise additional risks of undue delay or unexpected costs to sell the discounted condominium units or convert them into multifamily rental units. In addition, condominium buildings and their associations may also be subject to litigation from contractors, other condominium owners or other third parties and may be subject to other unknown liabilities not readily discoverable upon initial due diligence.
Changing market conditions, especially in the greater metropolitan areas may adversely impact our ability to sell condominium units at expected prices, or at all, which could hinder our results of operations and reduce our net income.
If we acquire a condominium building for conversion or to sell units at a discount, there could be a significant amount of time before we can redevelop or reposition the condominium units available for conversion or sale. The market value of a condominium unit being redeveloped or repositioned can vary significantly during this time due to changing market conditions. If we acquire condominiums or attempt to convert multifamily or hotel properties into condominiums, lower prices of condominium units and sales activities in major metropolitan markets or other markets where these properties may be located could adversely affect our results of operations and net income. Although demand in major metropolitan geographic areas historically has been strong, increased purchase price appreciation may reduce the likelihood of consumers seeking to purchase new residences, which would likely harm our ability to sell units in residential condominium buildings. If the prices of condominium units or sales activity decline in the key markets in which we may operate, our costs may not decline at all or at the same rate and, as a result, our business, results of operations and financial condition would be adversely affected.
Condominium purchasers may be unwilling or unable to purchase condominium units at times when mortgage-financing costs are high or as credit quality declines.
The majority of our potential purchasers for discounted condominium units will finance their purchases through third-party lenders. In general, housing demand is adversely affected by increases in interest rates, demand for increased down payments and by decreases in the availability of mortgage financing as a result of declining customer credit quality or other issues. Further, there are additional constraints on certain government-sponsored entities, such as Fannie Mae and Freddie Mac, for potential condominium purchasers in projects where a substantial number of units remain unsold in a particular condominium project. Even though we closely monitor the mortgage market for prospective buyers for condominium units, if mortgage interest rates increase or the average down payment requirement increases, the ability or willingness of prospective buyers to finance condominium unit purchases may be adversely affected.

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If we acquire condominium properties or mixed-use properties that combine hotel, multifamily or condominiums, a fire or other accident could occur in a single unit that causes the entire building to be uninhabitable.
We may experience greater risks in the condominium and mixed-use property investments because there could be a higher likelihood of an accident occurring in a building containing numerous individuals where we do not have the same ability to monitor or review the building as other property classes. A fire or other accident in a single unit could in turn cause the entire building to be uninhabitable. Even if there is insurance on the building, it may not be enough to cover all of the losses as a result of a fire or other accident.
If we acquire office, retail or certain other property types, the loss of anchor tenants for such properties could adversely affect our profitability.
If we acquire office properties or retail properties, we will be subject to the risk that significant tenants may be unable to make their lease payments or may decline to extend a lease upon its expiration. A lease termination by a tenant that occupies a large area of space in one of our office or retail properties (commonly referred to as an anchor tenant) could impact leases of other tenants. Other tenants may be entitled to modify the terms of their existing leases in the event of a lease termination by an anchor tenant or the closure of the business of an anchor tenant that leaves its space vacant, even if the anchor tenant continues to pay rent. Any such modifications or conditions could be unfavorable to us as the property owner and could decrease rents or expense recoveries. In the event of default by an anchor tenant, we may experience delays and costs in enforcing our rights as landlord to recover amounts due to us under the terms of our agreements with those parties.
If we acquire retail properties or mixed-use properties with a retail component, our investments may be affected by the economic downturn in the United States, which may continue to have an adverse impact on the retail industry generally. Slow or negative growth in the retail industry may result in defaults by retail tenants, which could have an adverse impact on our results of operations.
The retail industry is facing reductions in sales revenues and increased bankruptcies throughout the United States. Adverse economic conditions may result in an increase in distressed or bankrupt retail companies, which in turn could result in an increase in defaults by tenants at our commercial properties. Additionally, slow economic growth is likely to hinder new entrants into the retail market, which may make it difficult for us to fully lease our properties. Tenant defaults and decreased demand for retail space would have an adverse impact on the value of our retail properties and our results of operations.
Any retail tenants we have will face competition from numerous retail channels, which may reduce our profitability and ability to pay distributions.
Retailers will face continued competition from discount or value retailers, factory outlet centers, wholesale clubs, mail order catalogues and operators, television shopping networks and shopping via the Internet. If retail tenants’ rent payments are based on the amount of sales revenue that they generate, such competition could adversely affect our tenants and, consequently, our revenues and funds available for distribution.
Risks Related to Investments in Real Estate-Related Debt Assets
Our investments in real estate-related debt investments are subject to the risks typically associated with real estate.
Our investments in mortgage, mezzanine or other real estate loans will generally be directly or indirectly secured by a lien on real property (or the equity interests in an entity that owns real property) that, upon the occurrence of a default on the loan, could result in our acquiring ownership of the property. We will not know whether the values of the properties ultimately securing our loans will remain at the levels existing on the dates of origination of those loans. If the values of the underlying properties drop, our risk will increase because of the lower value of the security associated with such loans. In this manner, real estate values could impact the values of our loan investments. Our investments in other real estate-related debt investments may be similarly affected by real estate property values. Therefore, our real estate-related debt investments will be subject to the risks typically associated with real estate, which are described above under the heading “-Risks Related to Investments in Real Estate.”
If we make or invest in mortgage, mezzanine, bridge or other real estate loans, our loans will be subject to interest rate fluctuations that will affect our returns as compared to market interest rates; accordingly, the value of our stockholders’ investment would be subject to fluctuations in interest rates.
If we make or invest in fixed rate, long‑term loans and interest rates rise, the loans could yield a return that is lower than then‑current market rates. If interest rates decrease, we will be adversely affected to the extent that loans are prepaid because we

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may not be able to reinvest the proceeds at as high of an interest rate. If we invest in variable‑rate loans and interest rates decrease, our revenues will also decrease. For these reasons, if we invest in mortgage, mezzanine, bridge or other real estate loans, our returns on those loans and the value of our stockholders’ investment will be subject to fluctuations in interest rates.
Delays in liquidating defaulted mortgage loans could reduce our investment returns.
If we make or invest in mortgage loans and there are defaults under those mortgage loans, we may not be able to repossess and sell the underlying properties quickly. The resulting time delay could reduce the value of our investment in the defaulted mortgage loans. An action to foreclose on a property securing a mortgage loan is regulated by state statutes and regulations and is subject to many of the delays and expenses of other lawsuits if the defendant raises defenses or counterclaims. In the event of default by a mortgagor, these restrictions, among other things, may impede our ability to foreclose on or sell the mortgaged property or to obtain proceeds sufficient to repay all amounts due to us on the mortgage loan.
Government action may reduce recoveries on defaulted loans.
Legislative or regulatory initiatives by federal, state or local legislative bodies or administrative agencies, if enacted or adopted, could delay foreclosure, provide new defenses to foreclosure or otherwise impair our ability to foreclose on real estate-related debt investments in default. Various jurisdictions have considered or are currently considering such actions, and the nature or extent of the limitation on foreclosure that may be enacted cannot be predicted. Bankruptcy courts could, if this legislation is enacted, reduce the amount of the principal balance on a mortgage loan that is secured by a lien on the mortgaged property, reduce the interest rate, extend the term to maturity or otherwise modify the terms of a bankrupt borrower’s mortgage loan.
Property owners filing for bankruptcy may adversely affect us.
The filing of a petition in bankruptcy automatically stops or “stays” any actions to enforce the terms of all debt of the debtor, including a mortgage loan. The length of the stay and the costs associated with it will generally have an adverse impact on our profitability. Further, the bankruptcy court may take other actions that prevent us from foreclosing on the property. Any bankruptcy proceeding will, at a minimum, delay us in achieving our investment objectives and may adversely affect our profitability.
Investment in non‑conforming and non‑investment-grade loans may involve increased risk of loss.
Loans we may acquire may not conform to conventional loan criteria applied by traditional lenders and may not be rated or may be rated as non‑investment grade. Non‑investment-grade ratings for these loans typically result from the overall leverage of the loans, the lack of a strong operating history for the properties underlying the loans, the borrowers’ credit history, the properties’ underlying cash flow or other factors. As a result, loans we acquire may have a higher risk of default and loss than conventional loans. Any loss we incur may reduce distributions to stockholders and adversely affect the value of our common stock.
Our investments in subordinated loans may be subject to losses.
We may acquire subordinated loans. In the event a borrower defaults on a subordinated loan and lacks sufficient capacity to cure the default, we may suffer a loss of principal or interest. In the event a borrower declares bankruptcy, we may not have full recourse to the assets of the borrower, or the assets of the borrower may not be sufficient to satisfy the loan. If a borrower defaults on our loan or on debt senior to our loan, or in the event of a borrower bankruptcy, our loan will be satisfied only after the senior debt is paid in full. Where debt senior to our loan exists, the presence of intercreditor arrangements may limit our ability to amend our loan documents, assign our loans, accept prepayments, exercise our remedies (through “standstill periods”), and control decisions made in bankruptcy proceedings relating to borrowers.
To the extent that we make investments in real estate-related securities, a portion of those investments may be illiquid and we may not be able to adjust our portfolio in response to changes in economic and other conditions.
Certain of the real estate-related securities that we may purchase in connection with privately negotiated transactions will not be registered under the relevant securities laws, resulting in a prohibition against their transfer, sale, pledge or other disposition except in a transaction that is exempt from the registration requirements of, or is otherwise in accordance with, those laws. As a result, our ability to vary our portfolio in response to changes in economic and other conditions may be relatively limited. The mezzanine and certain of the other loans we may purchase will be particularly illiquid investments due to their short life, their unsuitability for securitization and the greater difficulty of recoupment in the event of a borrower’s default.

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Investments in non-performing real estate assets involve greater risks than investments in stabilized, performing assets and make our future performance more difficult to predict.

Traditional performance metrics of real estate assets are generally not as reliable for non-performing real estate assets as they are for performing real estate assets. Non-performing properties, for example, do not have stabilized occupancy rates. Similarly, non-performing loans do not have a consistent stream of loan servicing or interest payments. In addition, for non-performing loans, often there is greater uncertainty that the face amount of the note will be paid in full.
In addition, we may pursue more than one strategy to create value in a non-performing real estate investment. With respect to a property, these strategies may include development, redevelopment, or lease-up of such property. With respect to a loan, these strategies may include negotiating with the borrower for a reduced payoff, restructuring the terms of the loan or enforcing our rights as lender under the loan and foreclosing on the collateral securing the loan.
The factors described above make it challenging to evaluate non-performing investments.
Delays in restructuring or liquidating non‑performing real estate securities could reduce the return on our stockholders’ investment.
Real estate securities may become non‑performing after acquisition for a wide variety of reasons. Such non‑performing real estate investments may require a substantial amount of workout negotiations or restructuring, which may entail, among other things, a substantial reduction in the interest rate and a substantial write‑down of such loan or asset. However, even if a restructuring is successfully accomplished, upon maturity of such real estate security, replacement “takeout” financing may not be available. We may find it necessary or desirable to foreclose on some of the collateral securing one or more of our investments. Intercreditor provisions may substantially interfere with our ability to do so. Even if foreclosure is an option, the foreclosure process can be lengthy and expensive. Borrowers often resist foreclosure actions by asserting numerous claims, counterclaims and defenses, including, without limitation, lender liability claims and defenses, in an effort to prolong the foreclosure action. In some states, foreclosure actions can take up to several years or more to litigate. At any time during the foreclosure proceedings, the borrower may file for bankruptcy, which would have the effect of staying the foreclosure action and further delaying the foreclosure process. Foreclosure litigation tends to create a negative public image of the collateral property and may result in disrupting ongoing leasing and management of the property. Foreclosure actions by senior lenders may substantially affect the amount that we may earn or recover from an investment.
We will depend on debtors for our revenue, and, accordingly, our revenue and our ability to make distributions to our stockholders will be dependent upon the success and economic viability of such debtors.
The success of our real estate-related debt investments such as loans and debt and derivative securities will materially depend on the financial stability of the debtors underlying such investments. The inability of a single major debtor or a number of smaller debtors to meet their payment obligations could result in reduced revenue or losses. In the event of a debtor default or bankruptcy, we may experience delays in enforcing our rights as a creditor, and such rights may be subordinated to the rights of other creditors. These events could negatively affect the cash available for distribution to our stockholders and the value of our stockholders’ investment.
Prepayments can adversely affect the yields on our investments.
Prepayments on debt instruments, where permitted under the debt documents, are influenced by changes in current interest rates and a variety of economic, geographic and other factors beyond our control, and consequently, such prepayment rates cannot be predicted with certainty. If we are unable to invest the proceeds of such prepayments received, the yield on our portfolio will decline. Under certain interest rate and prepayment scenarios, we may fail to recoup fully our cost of acquisition of certain investments.
Our investments in real estate-related debt securities and preferred and common equity securities will be subject to the specific risks relating to the particular issuer of the securities and may involve greater risk of loss than secured debt financings.
Subject to certain REIT asset and income tests, we may make equity investments in REITs and other real estate companies. We may target a public company that owns commercial real estate or real estate-related assets when we believe its stock is trading at a discount to that company’s intrinsic value. We may eventually seek to acquire or gain a controlling interest in the companies that we target. We do not expect our non‑controlling equity investments in other public companies to exceed 10% of the proceeds of this offering, assuming we sell the maximum offering amount, or to represent a substantial portion of our assets at any one time. We may also invest in debt securities and preferred equity securities issued by REITs and other real estate companies. Our

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investments in debt securities and preferred and common equity securities will involve special risks relating to the particular issuer of the securities, including the financial condition and business outlook of the issuer. Issuers that are REITs and other real estate companies are subject to the inherent risks associated with real estate and real estate-related debt investments. Furthermore, debt securities and preferred and common equity securities may involve greater risk of loss than secured debt financings due to a variety of factors, including that such investments are generally unsecured and may also be subordinated to other obligations of the issuer. As a result, investments in debt securities and preferred and common equity securities are subject to risks of (i) limited liquidity in the secondary trading market, (ii) substantial market price volatility resulting from changes in prevailing interest rates, (iii) subordination to the prior claims of banks and other senior lenders to the issuer, (iv) the operation of mandatory sinking fund or call/redemption provisions during periods of declining interest rates that could cause the issuer to reinvest redemption proceeds in lower yielding assets, (v) the possibility that earnings of the issuer may be insufficient to meet its debt service and distribution obligations and (vi) the declining creditworthiness and potential for insolvency of the issuer during periods of rising interest rates and economic downturn. These risks may adversely affect the value of outstanding debt securities and preferred and common equity securities and the ability of the issuers thereof to make principal, interest or distribution payments to us.
Some of our portfolio investments will be carried at estimated fair value as determined by us and, as a result, there may be uncertainty as to the value of these investments.
Some of our portfolio investments will be in the form of securities that are recorded at fair value but have limited liquidity or are not publicly traded. The fair value of securities and other investments that have limited liquidity or are not publicly traded may not be readily determinable. We estimate the fair value of these investments on a quarterly basis. Because such valuations are inherently uncertain, because they may fluctuate over short periods of time, and because they may be based on numerous estimates, our determinations of fair value may differ materially from the values that would have been used if a ready market for these securities existed. The value of our common stock could be lower than perceived at the time of your investment if our determinations regarding the fair value of these investments are materially higher than the values that we ultimately realize upon their disposal.
Any credit ratings assigned to our investments will be subject to ongoing evaluations and revisions, and we cannot assure you that those ratings will not be downgraded.
Some of our investments may be rated by Moody's Investors Service, Fitch Ratings or Standard & Poor's. Any credit ratings on our investments are subject to ongoing evaluation by credit rating agencies, and we cannot assure you that any such ratings will not be changed or withdrawn by a rating agency in the future if, in its judgment, circumstances warrant. If rating agencies assign a lower-than-expected rating or reduce or withdraw, or indicate that they may reduce or withdraw, their ratings of our investments in the future, the value of these investments could significantly decline, which would adversely affect the value of our investment portfolio and could result in losses upon disposition or the failure of borrowers to satisfy their debt service obligations to us. In addition, changes to the methodology and assumptions in rating commercial mortgage-backed securities by rating agencies may decrease the amount or availability of new issue commercial mortgage-backed securities rated in the highest investment grade rating category.
Risks Associated with Debt Financing
We have incurred, and may continue to incur, mortgage indebtedness and other borrowings, which increases our risk of loss due to foreclosure.
We have incurred mortgage indebtedness and we may obtain additional lines of credit and long-term financing that may be secured by our properties and other assets. In some instances, we may acquire real properties by financing a portion of the price of the properties and mortgaging or pledging some or all of the properties purchased as security for that debt. We may also incur mortgage debt on properties that we already own in order to obtain funds to acquire additional properties. In addition, we may borrow as necessary or advisable to ensure that we maintain our qualification as a REIT for federal income tax purposes, including borrowings to satisfy the REIT requirement that we distribute at least 90% of our annual REIT taxable income to our stockholders (computed without regard to the dividends paid deduction and excluding net capital gain). We, however, can give you no assurance that we will be able to obtain such borrowings on satisfactory terms.
If we do mortgage a property and there is a shortfall between the cash flow from that property and the cash flow needed to service mortgage debt on that property, then the amount of cash available for distributions to stockholders may be reduced. In addition, incurring mortgage debt increases the risk of loss of a property since defaults on indebtedness secured by a property may result in lenders initiating foreclosure actions. In that case, we could lose the property securing the loan that is in default, reducing the value of your investment. For tax purposes, a foreclosure of any of our properties would be treated as a sale of the property for a purchase price equal to the outstanding balance of the debt secured by the mortgage. If the outstanding balance of the debt

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secured by the mortgage exceeds our tax basis in the property, we would recognize taxable income on foreclosure even though we would not necessarily receive any cash proceeds. We may give full or partial guaranties to lenders of mortgage debt on behalf of the entities that own our properties. When we give a guaranty on behalf of an entity that owns one of our properties, we will be responsible to the lender for satisfaction of the debt if it is not paid by such entity. If any mortgages contain cross-collateralization or cross-default provisions, a default on a single property could affect multiple properties.
We may also obtain recourse debt to finance our acquisitions and meet our REIT distribution requirements. If we have insufficient income to service our recourse debt obligations, our lenders could institute proceedings against us to foreclose upon our assets. If a lender successfully forecloses upon any of our assets, our ability to pay cash distributions to our stockholders will be limited and you could lose all or part of your investment.
High mortgage interest rates may make it difficult for us to finance or refinance properties, which could reduce the number of properties we can acquire, our net income and the amount of cash distributions we can make.
If mortgage debt is unavailable at reasonable interest rates, we may not be able to finance the purchase of properties. If we place mortgage debt on properties, we run the risk of being unable to refinance the properties when the loans become due, or of being unable to refinance on favorable terms. If interest rates are higher when we refinance the properties, our income could be reduced. If any of these events occur, our cash flow would be reduced. This, in turn, would reduce cash available for distribution to you and may hinder our ability to raise more capital by issuing more stock or by borrowing more money.
We may not be able to access financing sources on attractive terms, which could adversely affect our ability to execute our business plan.
We may finance our assets over the long term through a variety of means, including credit facilities, issuance of commercial mortgage-backed securities, and other structured financings. Our ability to execute this strategy will depend on various conditions in the markets for financing in this manner that are beyond our control, including lack of liquidity and greater credit spreads. We cannot be certain that these markets will remain an efficient source of long‑term financing for our assets. If our strategy is not viable, we will have to find alternative forms of long‑term financing for our assets. This could subject us to more recourse indebtedness and the risk that debt service on less efficient forms of financing would require a larger portion of our cash flows, thereby reducing cash available for distribution to our stockholders and funds available for operations, as well as for future business opportunities.
Disruptions in the financial and real estate markets could adversely affect the multifamily property sector’s ability to obtain financing from Fannie Mae and Freddie Mac, which could adversely impact us.
Fannie Mae and Freddie Mac are major sources of financing for the multifamily sector. Until recently, Fannie Mae and Freddie Mac had reported substantial losses and required significant amounts of additional capital. These losses coupled with the credit market’s poor perception of Fannie Mae and Freddie Mac, add to the considerable uncertainty surrounding the capital structure of both Fannie Mae and Freddie Mac. In response to the deteriorating financial condition of Fannie Mae and Freddie Mac and the credit market disruption that begin in 2007, the U.S. Congress and Treasury undertook a series of actions to stabilize these government-sponsored enterprises and the financial markets. Pursuant to legislation enacted in 2008, the U.S. government placed both Fannie Mae and Freddie Mac under its conservatorship. Despite additional funding for both government-sponsored entities, the U.S. government has stated that it remains committed to reducing their portfolios. In August 2012, the U.S. Treasury modified its investment in Fannie Mae and Freddie Mac to accelerate the reduction of Fannie Mae’s and Freddie Mac’s investment portfolios and to require a sweep of all quarterly profits generated by Fannie Mae and Freddie Mac. In May 2014, the U.S. Senate Banking Committee approved legislation to wind down Fannie Mae and Freddie Mac and redesign the U.S. mortgage finance system, which legislation has to date not been acted on in the broader Senate. If new U.S. government legislation or regulations (i) heighten Fannie Mae’s and Freddie Mac’s underwriting standards, (ii) adversely affect interest rates and (iii) continue to reduce the amount of capital they can make available to the multifamily sector, it could reduce or remove entirely a vital resource for multifamily financing. Any potential reduction in loans, guarantees and credit enhancement arrangements from Fannie Mae and Freddie Mac could jeopardize the effectiveness of the multifamily sector’s available financing and decrease the amount of available liquidity and credit that could be used to acquire and diversify our portfolio of multifamily assets as well as dispose of our multifamily assets upon our liquidation.
Lenders may require us to enter into restrictive covenants relating to our operations, which could limit our ability to make distributions to our stockholders.
When providing financing, a lender may impose restrictions on us that affect our distribution and operating policies and our ability to incur additional debt. Loan documents we enter into may contain covenants that limit our ability to further mortgage

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the property, discontinue insurance coverage or replace Resource Real Estate Opportunity Advisor II as our advisor. These or other limitations may limit our flexibility and our ability to achieve our operating plans.
Increases in interest rates could increase the amount of our debt payments and limit our ability to pay distributions to our stockholders.
We expect that we will incur indebtedness in the future. Increases in interest rates may increase our interest costs, which would reduce our cash flows and our ability to pay distributions. In addition, if we need to repay existing debt during periods of higher interest rates, we might have to sell one or more of our investments in order to repay the debt, which sale at that time might not permit realization of the maximum return on such investments.
We have broad authority to incur debt, and high debt levels could hinder our ability to make distributions and decrease the value of your investment.
Our charter limits our leverage to 300% of our net assets, and we may exceed this limit with the approval of the conflicts committee of our board of directors. High debt levels would cause us to incur higher interest charges and higher debt service payments and may also be accompanied by restrictive covenants. These factors could limit the amount of cash we have available to distribute and could result in a decline in the value of your investment.
Federal Income Tax Risks
Our failure to continue to qualify as a REIT would subject us to federal income tax and reduce cash available for distribution to stockholders.
We elected to be taxed as a REIT under the Internal Revenue Code commencing with our taxable year ended December 31, 2014. We intend to continue to operate in a manner so as to continue to qualify as a REIT for federal income tax purposes. Qualification as a REIT involves the application of highly technical and complex Internal Revenue Code provisions for which only a limited number of judicial and administrative interpretations exist. Even an inadvertent or technical mistake could jeopardize our REIT status. Our continued qualification as a REIT will depend on our satisfaction of certain asset, income, organizational, distribution, stockholder ownership and other requirements on a continuing basis. Moreover, new tax legislation, administrative guidance or court decisions, in each instance potentially with retroactive effect, could make it more difficult or impossible for us to continue to qualify as a REIT. If we fail to continue to qualify as a REIT in any taxable year, we would be subject to federal and applicable state and local income tax on our taxable income at corporate rates, in which case we might be required to borrow or liquidate some investments in order to pay the applicable tax. Losing our REIT status would reduce our net income available for investment or distribution to you because of the additional tax liability. In addition, distributions to stockholders would no longer qualify for the dividends-paid deduction and we would no longer be required to make distributions. Furthermore, if we fail to qualify as a REIT in any taxable year for which we have elected to be taxed as a REIT, we would generally be unable to elect REIT status for the four taxable years following the year in which our REIT status is lost.
Complying with REIT requirements may force us to borrow funds to make distributions to you or otherwise depend on external sources of capital to fund such distributions.
To continue to qualify as a REIT, we are required to distribute annually at least 90% of our taxable income, subject to certain adjustments, to our stockholders. To the extent that we satisfy the distribution requirement, but distribute less than 100% of our taxable income, we will be subject to federal corporate income tax on our undistributed taxable income. In addition, we may elect to retain and pay income tax on our net long-term capital gain. In that case, if we so elect, a stockholder would be taxed on its proportionate share of our undistributed long-term gain and would receive a credit or refund for its proportionate share of the tax we paid. A stockholder, including a tax-exempt or foreign stockholder, would have to file a federal income tax return to claim that credit or refund. Furthermore, we will be subject to a 4% nondeductible excise tax if the actual amount that we distribute to our stockholders in a calendar year is less than a minimum amount specified under federal tax laws.
From time-to-time, we may generate taxable income greater than our net income (loss) for GAAP. In addition, our taxable income may be greater than our cash flow available for distribution to you as a result of, among other things, investments in assets that generate taxable income in advance of the corresponding cash flow from the assets (for instance, if a borrower defers the payment of interest in cash pursuant to a contractual right or otherwise).
If we do not have other funds available in the situations described in the preceding paragraphs, we could be required to borrow funds on unfavorable terms, sell investments at disadvantageous prices or find another alternative source of funds to make distributions sufficient to enable us to distribute enough of our taxable income to satisfy the REIT distribution requirement and to avoid corporate income tax and the 4% excise tax in a particular year. These alternatives could increase our costs or reduce our equity.

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Because of the distribution requirement, it is unlikely that we will be able to fund all future capital needs, including capital needs in connection with investments, from cash retained from operations. As a result, to fund future capital needs, we likely will have to rely on third-party sources of capital, including both debt and equity financing, which may or may not be available on favorable terms or at all. Our access to third-party sources of capital will depend upon a number of factors, including our current and potential future earnings and cash distributions.
Despite our qualification for taxation as a REIT for federal income tax purposes, we may be subject to other tax liabilities that reduce our cash flow and our ability to make distributions to you.
Despite our qualification for taxation as a REIT for federal income tax purposes, we may be subject to certain federal, state and local taxes on our income and assets, including taxes on any undistributed income or property. Any of these taxes would decrease cash available for distribution to you. For instance:
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In order to continue to qualify as a REIT, we must distribute annually at least 90% of our REIT taxable income (which is determined without regard to the dividends paid deduction or net capital gain for this purpose) to you.
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To the extent that we satisfy the distribution requirement but distribute less than 100% of our REIT taxable income, we will be subject to federal corporate income tax on the undistributed income.
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We will be subject to a 4% nondeductible excise tax on the amount, if any, by which distributions we pay in any calendar year are less than the sum of 85% of our ordinary income, 95% of our capital gain net income and 100% of our undistributed income from prior years.
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If we have net income from the sale of foreclosure property that we hold primarily for sale to customers in the ordinary course of business or other non-qualifying income from foreclosure property, we must pay a tax on that income at the highest corporate income tax rate.
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If we sell an asset, other than foreclosure property, that we hold primarily for sale to customers in the ordinary course of business and do not qualify for a safe harbor in the Internal Revenue Code, our gain would be subject to the 100% “prohibited transaction” tax.
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Any domestic taxable REIT subsidiary, or TRS, of ours will be subject to federal corporate income tax on its income, and on any non-arm’s-length transactions between us and any TRS, for instance, excessive rents charged to a TRS could be subject to a 100% tax.
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We may be subject to tax on income from certain activities conducted as a result of taking title to collateral.
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We may be subject to state or local income, property and transfer taxes, such as mortgage recording taxes.

Complying with REIT requirements may cause us to forego otherwise attractive opportunities or liquidate otherwise attractive investments.
To continue to qualify as a REIT for federal income tax purposes, we must continually satisfy tests concerning, among other things, the sources of our income, the nature and diversification of our assets, the amounts we distribute to stockholders and the ownership of our stock. As discussed above, we may be required to make distributions to ourstockholders at disadvantageous times or when we do not have funds readily available for distribution. Additionally, we may be unable to pursue investments that would be otherwise attractive to us in order to satisfy the requirements for qualifying as a REIT.
We must also ensure that at the end of each calendar quarter, at least 75% of the value of our assets consists of cash, cash items, government securities and qualified real estate assets, including certain mortgage loans and mortgage-backed securities. The remainder of our investment in securities (other than government securities and qualified real estate assets) generally cannot include more than 10% of the outstanding voting securities of any one issuer or more than 10% of the total value of the outstanding securities of any one issuer. In addition, in general, no more than 5% of the value of our assets can consist of the securities of any one issuer (other than government securities and qualified real estate assets) and no more than 25% of the value of our gross assets (20% for tax years after 2017) may be represented by securities of one or more TRSs. Finally, for the taxable years after 2015, no more than 25% of our assets may consist of debt investments that are issued by “publicly offered REITs” and would not otherwise be treated as qualifying real estate assets. If we fail to comply with these requirements at the end of any calendar quarter, we must correct such failure within 30 days after the end of the calendar quarter to avoid losing our REIT status and suffering adverse tax consequences, unless certain relief provisions apply. As a result, compliance with the REIT requirements may hinder our ability to operate solely on the basis of profit maximization and may require us to liquidate investments from our portfolio, or refrain from making, otherwise attractive investments. These actions could have the effect of reducing our income and amounts available for distribution to stockholders.
Our acquisition of debt or securities investments may cause us to recognize income for federal income tax purposes even though no cash payments have been received on the debt investments.
We may acquire debt or securities investments in the secondary market for less than their face amount. The amount of such discount will generally be treated as a “market discount” for federal income tax purposes. If these debt or securities investments provide for “payment-in-kind” interest, we may recognize “original issue discount,” or OID, for federal income tax purposes.

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Moreover, we may acquire distressed debt investments that are subsequently modified by agreement with the borrower. If the amendments to the outstanding debt constitute “significant modifications” under the applicable Treasury Regulations, the modified debt may be considered to have been reissued to us in a debt-for-debt exchange with the borrower. In that event, if the debt is considered to be “publicly traded” for federal income tax purposes, the modified debt in our hands may be considered to have been issued with OID to the extent the fair market value of the modified debt is less than the principal amount of the outstanding debt. In the event the debt is not considered to be “publicly traded” for federal income tax purposes, we may be required to recognize taxable income to the extent that the principal amount of the modified debt exceeds our cost of purchasing it. Also, certain loans that we originate and later modify and certain previously modified debt we acquire in the secondary market may be considered to have been issued with the OID at the time it was modified.
In general, we will be required to accrue OID on a debt instrument as taxable income in accordance with applicable federal income tax rules even though no cash payments may be received on such debt instrument on a current basis.
In the event a borrower with respect to a particular debt instrument encounters financial difficulty rendering it unable to pay stated interest as due, we may nonetheless be required to continue to recognize the unpaid interest as taxable income. Similarly, we may be required to accrue interest income with respect to subordinate mortgage-backed securities at the stated rate regardless of when their corresponding cash payments are received.
In order to meet the REIT distribution requirements, it might be necessary for us to arrange for short-term, or possibly long-term borrowings, or to pay distributions in the form of our shares or other taxable in-kind distributions of property. We may need to borrow funds at times when the market conditions are unfavorable. Such borrowings could increase our costs and reduce the value of your investment. In the event in-kind distributions are made, your tax liabilities associated with an investment in our common stock for a given year may exceed the amount of cash we distribute to our stockholders during such year.
Complying with REIT requirements may limit our ability to hedge effectively.
The REIT provisions of the Internal Revenue Code may limit our ability to hedge our operations effectively. Our aggregate gross income from non-qualifying hedges, fees and certain other non-qualifying sources cannot exceed 5% of our annual gross income. As a result, we might have to limit our use of advantageous hedging techniques or implement those hedges through a TRS. Any hedging income earned by a TRS would be subject to federal, state and local income tax at regular corporate rates. This could increase the cost of our hedging activities or expose us to greater risks associated with interest rate or other changes than we would otherwise incur.
Liquidation of assets may jeopardize our REIT qualification.
To continue to qualify as a REIT, we must comply with requirements regarding our assets and our sources of income. If we are compelled to liquidate our investments to satisfy our obligations to our lenders, we may be unable to comply with these requirements, ultimately jeopardizing our qualification as a REIT, or we may be subject to a 100% prohibited transaction tax on any resulting gain if we sell assets that are treated as dealer property or inventory.
The prohibited transactions tax may limit our ability to engage in transactions, including disposition of assets and certain methods of securitizing loans, which would be treated as sales for federal income tax purposes.
A REIT’s net income from prohibited transactions is subject to a 100% tax. In general, prohibited transactions are sales or other dispositions of dealer property, other than foreclosure property, but including loans held primarily for sale to customers in the ordinary course of business. We might be subject to the prohibited transaction tax if we were to dispose of or securitize loans in a manner that is treated as a sale of the loans, for federal income tax purposes. In order to avoid the prohibited transactions tax, we may choose not to engage in certain sales of loans and may limit the structures we use for any securitization financing transactions, even though such sales or structures might otherwise be beneficial to us. Additionally, we may be subject to the prohibited transaction tax upon a disposition of real property. Although a safe-harbor exception to prohibited transaction treatment is available, we cannot assure you that we can comply with such safe harbor or that we will avoid owning property that may be characterized as held primarily for sale to customers in the ordinary course of our trade or business. Consequently, we may choose not to engage in certain sales of real property or may conduct such sales through a TRS.
It may be possible to reduce the impact of the prohibited transaction tax by conducting certain activities through a TRS. However, to the extent that we engage in such activities through a TRS, the income associated with such activities will be subject to a corporate income tax. In addition, the IRS may attempt to ignore or otherwise recast such activities in order to impose a prohibited transaction tax on us, and there can be no assurance that such recast will not be successful.
We also may not be able to use secured financing structures that would create taxable mortgage pools, other than in a TRS or through a subsidiary REIT.
We may recognize substantial amounts of REIT taxable income, which we would be required to distribute to you, in a year in which we are not profitable under GAAP principles or other economic measures.

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We may recognize substantial amounts of REIT taxable income in years in which we are not profitable under GAAP or other economic measures as a result of the differences between GAAP and tax accounting methods. For instance, certain of our assets will be marked-to-market for GAAP purposes but not for tax purposes, which could result in losses for GAAP purposes that are not recognized in computing our REIT taxable income. Additionally, we may deduct our capital losses only to the extent of our capital gains in computing our REIT taxable income for a given taxable year. Consequently, we could recognize substantial amounts of REIT taxable income and would be required to distribute such income to you, in a year in which we are not profitable under GAAP or other economic measures.
We may distribute our common stock in a taxable distribution, in which case our stockhodlers may sell shares of our common stock to pay tax on such distributions, and our stockholders may receive less in cash than the amount of the dividend that is taxable.
We may make taxable distributions that are payable in cash and common stock. The IRS has issued private letter rulings to other REITs treating certain distributions that are paid partly in cash and partly in stock as taxable distributions that would satisfy the REIT annual distribution requirement and qualify for the dividends paid deduction for federal income tax purposes. Those rulings may be relied upon only by taxpayers to whom they were issued, but we could request a similar ruling from the IRS. Accordingly, it is unclear whether and to what extent we will be able to make taxable distributions payable in cash and common stock. If we made a taxable dividend payable in cash and common stock, taxable stockholders receiving such distributions will be required to include the dividend as taxable income to the extent of our current and accumulated earnings and profits, as determined for federal income tax purposes. As a result, our stockholders may be required to pay income tax with respect to such distributions in excess of the cash distributions received. If a U.S. stockholder sells the common stock that it receives as a dividend in order to pay this tax, the sales proceeds may be less than the amount recorded in earnings with respect to the dividend, depending on the market price of our common stock at the time of the sale. Furthermore, with respect to certain non-U.S. stockholders, we may be required to withhold U.S. federal income tax with respect to such dividends, including in respect of all or a portion of such dividend that is payable in common stock.
REIT distribution requirements could adversely affect our ability to execute our business plan.
We generally must distribute annually at least 90% of our REIT taxable income (which is determined without regard to the dividends paid deduction or net capital gain for this purpose) in order to continue to qualify as a REIT. We intend to make distributions to our stockholders to comply with the REIT requirements of the Internal Revenue Code and to avoid corporate income tax and the 4% excise tax. We may be required to make distributions to stockholders at times when it would be more advantageous to reinvest cash in our business or when we do not have funds readily available for distribution. Thus, compliance with the REIT requirements may hinder our ability to operate solely on the basis of maximizing profits.
Our qualification as a REIT could be jeopardized as a result of an interest in joint ventures or investment funds.
We may hold certain limited partner or non-managing member interests in partnerships or limited liability companies that are joint ventures or investment funds. If a partnership or limited liability company in which we own an interest takes or expects to take actions that could jeopardize our qualification as a REIT or require us to pay tax, we may be forced to dispose of our interest in such entity. In addition, it is possible that a partnership or limited liability company could take an action which could cause us to fail a REIT gross income or asset test, and that we would not become aware of such action in time to dispose of our interest in the partnership or limited liability company or take other corrective action on a timely basis. In that case, we could fail to continue to qualify as a REIT unless we are able to qualify for a statutory REIT “savings” provision, which may require us to pay a significant penalty tax to maintain our REIT qualification.

Distributions paid by REITs do not qualify for the reduced tax rates that apply to other corporate distributions.
The maximum tax rate for “qualified dividends” paid by corporations to non-corporate stockholders is currently 20%. Distributions paid by REITs, however, generally are taxed at ordinary income rates (subject to a maximum rate of 39.6% for non-corporate stockholders), rather than the preferential rate applicable to qualified dividends.
Legislative or regulatory tax changes could adversely affect us or stockholders.
At any time, the federal income tax laws can change. Laws and rules governing REITs or the administrative interpretations of those laws may be amended. Any of those new laws or interpretations may take effect retroactively and could adversely affect us or stockholders.
Retirement Plan Risks Retirement Plan Risks
If the fiduciary of an employee benefit plan subject to ERISA (such as a profit sharing, Section 401(k) or pension plan) or an owner of a retirement arrangement subject to Section 4975 of the Internal Revenue Code (such as an IRA) fails to meet the fiduciary and other standards under ERISA or the Internal Revenue Code as a result of an investment in our stock, the fiduciary could be subject to penalties and other sanctions.

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There are special considerations that apply to employee benefit plans subject to ERISA (such as profit sharing, Section 401(k) or pension plans) and other retirement plans or accounts subject to Section 4975 of the Internal Revenue Code (such as an IRA) that are investing in our shares. Fiduciaries and IRA owners investing the assets of such a plan or account in our common stock should satisfy themselves that:
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the investment is consistent with their fiduciary and other obligations under ERISA and the Internal Revenue Code;
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the investment is made in accordance with the documents and instruments governing the plan or IRA, including the plan’s or account’s investment policy;
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the investment satisfies the prudence and diversification requirements of Sections 404(a)(1)(B) and 404(a)(1)(C) of ERISA and other applicable provisions of ERISA and the Internal Revenue Code;
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the investment in our shares, for which no public market currently exists, is consistent with the liquidity needs of the plan or IRA;
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the investment will not produce an unacceptable amount of “unrelated business taxable income” for the plan or IRA;
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our stockholders will be able to comply with the requirements under ERISA and the Internal Revenue Code to value the assets of the plan or IRA annually; and
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the investment will not constitute a prohibited transaction under Section 406 of ERISA or Section 4975 of the Internal Revenue Code.

With respect to the annual valuation requirements described above, we will provide an estimated value for our shares annually. We can make no claim whether such estimated value will or will not satisfy the applicable annual valuation requirements under ERISA and the Internal Revenue Code. The Department of Labor or the Internal Revenue Service may determine that a plan fiduciary or an IRA custodian is required to take further steps to determine the value of our common stock. In the absence of an appropriate determination of value, a plan fiduciary or an IRA custodian may be subject to damages, penalties or other sanctions. See Part II, Item 5, “Market for Registrant’s Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities - Market Information” of this Annual Report on Form 10-K.

Failure to satisfy the fiduciary standards of conduct and other applicable requirements of ERISA and the Internal Revenue Code may result in the imposition of civil and criminal penalties and could subject the fiduciary to claims for damages or for equitable remedies, including liability for investment losses. In addition, if an investment in our shares constitutes a prohibited transaction under ERISA or the Internal Revenue Code, the fiduciary or IRA owner who authorized or directed the investment may be subject to the imposition of excise taxes with respect to the amount invested. In addition, the investment transaction must be undone. In the case of a prohibited transaction involving an IRA owner, the IRA may be disqualified as a tax-exempt account and all of the assets of the IRA may be deemed distributed and subjected to tax. ERISA plan fiduciaries and IRA owners should consult with counsel before making an investment in our common stock.
If our assets are deemed to be plan assets, the Advisor and we may be exposed to liabilities under Title I of ERISA and the Internal Revenue Code.
In some circumstances where an ERISA plan holds an interest in an entity, the assets of the entity are deemed to be ERISA plan assets unless an exception applies. This is known as the “look-through rule.” Under those circumstances, the obligations and other responsibilities of plan sponsors, plan fiduciaries and plan administrators, and of parties in interest and disqualified persons, under Title I of ERISA or Section 4975 of the Internal Revenue Code, may be applicable, and there may be liability under these and other provisions of ERISA and the Internal Revenue Code. We believe that our assets should not be treated as plan assets because the shares should qualify as “publicly-offered securities” that are exempt from the look-through rules under applicable Treasury Regulations. We note, however, that because certain limitations are imposed upon the transferability of shares so that we may qualify as a REIT, and perhaps for other reasons, it is possible that this exemption may not apply. If that is the case, and if the Advisor or we are exposed to liability under ERISA or the Internal Revenue Code, our performance and results of operations could be adversely affected. Prior to making an investment in us, you should consult with your legal and other advisor's concerning the impact of ERISA and the Internal Revenue Code on your investment and our performance.
If you invest in our shares through an IRA or other retirement plan, you may be limited in your ability to withdraw required minimum distributions.

If you establish an IRA or other retirement plan through which you invest in our shares, federal law may require you to withdraw required minimum distributions ("RMDs") from such plan in the future. Our share redemption program limits the amount of redemptions that can be made in a given year. Additionally, you will not be eligible to have your shares redeemed until you have held your shares for at least one year. As a result, you may not be able to have your shares redeemed at a time in which you need liquidity to satisfy the RMD requirements under your IRA or other retirement plan. Even if you are able to have your shares redeemed, such redemption may be at a price less than the price at which the shares were initially purchased, depending on how long you have held your shares. If you fail to withdraw RMDs from your IRA or other retirement plan, you may be subject to certain tax penalties.

32


ITEM 1B.
UNRESOLVED STAFF COMMENTS
Not applicable.
ITEM 2.
PROPERTIES

As of December 31, 2016, we owned 16 multifamily properties encompassing approximately 4.6 million rentable square feet and 4,855 units. We acquired these properties from third parties unaffiliated with us or our Advisor. The following is a summary of our real estate properties as of December 31, 2016:
Multifamily Community Name
 
City and State
 
Number of Units
 
Date of Acquisition
 
Purchase Price (1) (in thousands)
 
Year of Construction
 
Average Unit Size (Sq. Ft.)
 
Physical Occupancy Rate (2)
 
Effective Monthly Revenue per Unit (3)
 
Mortgage Debt Secured by Property (in thousands)
Adair off Addison
 
Dallas, TX
 
152

 
6/4/2014
 
$
9,500

 
1980
 
856

 
94.1
%
 
$
1,094

 
$
7,650

Overton Trails Apartment Homes
 
Fort Worth, TX
 
360

 
12/19/2014
 
$
47,000

 
1999
 
952

 
87.2
%
 
$
1,528

 
$
31,075

Uptown Buckhead
 
Atlanta, GA
 
216

 
3/30/2015
 
$
32,500

 
1989
 
739

 
92.6
%
 
$
1,238

 
$
20,200

Crosstown at Chapel Hill
 
Chapel Hill, NC
 
411

 
5/19/2015
 
$
46,750

 
1990/1996
 
1,005

 
90.5
%
 
$
1,045

 
$
32,000

The Brookwood
 
Homewood, AL
 
274

 
8/21/2015
 
$
30,050

 
1968/1972
 
1,051

 
90.5
%
 
$
1,134

 
$
21,342

Adair off Addison Apartment Homes
 
Dallas, TX
 
200

 
8/27/2015
 
$
21,250

 
1979
 
1,098

 
88.5
%
 
$
1,244

 
$
17,850

1000 Spalding Crossing
 
Atlanta, GA
 
252

 
9/24/2015
 
$
41,000

 
1995
 
989

 
89.7
%
 
$
1,317

 
$
24,600

Montclair Terrace
 
Portland, OR
 
188

 
10/29/2015
 
$
32,750

 
1968
 
918

 
88.3
%
 
$
1,335

 
$
21,300

Grand Reserve
 
Naperville, IL
 
319

 
12/18/2015
 
$
66,700

 
1997
 
1,025

 
90.6
%
 
$
1,681

 
$
42,832

Verdant Apartment Homes
 
Boulder, CO
 
216

 
12/18/2015
 
$
65,200

 
1991
 
850

 
89.4
%
 
$
1,844

 
$
37,300

Arcadia Apartment Homes
 
Centennial, CO
 
300

 
1/22/2016
 
$
60,250

 
1984
 
977

 
88.7
%
 
$
1,488

 
$
40,200

Riverlodge
 
Austin, TX
 
498

 
3/23/2016
 
$
57,000

 
2001
 
993

 
89.4
%
 
$
1,231

 
$
28,715

Breckenridge
 
Portland, OR
 
357

 
5/16/2016
 
$
81,500

 
1985
 
763

 
88.5
%
 
$
1,449

 
$
52,975

Santa Rosa
 
Irving, TX
 
476

 
6/28/2016
 
$
70,000

 
1991
 
966

 
92.9
%
 
$
1,259

 
$
45,700

Windbrooke
 
Buffalo Grove, IL
 
236

 
12/22/2016
 
$
48,250

 
1986
 
903

 
90.7
%
 
$
1,593

 
$
38,320

The Woods of Burnsville
 
Burnsville, MN
 
400

 
12/23/2016
 
$
51,000

 
1984
 
953

 
95.5
%
 
$
1,053

 
$
—

 
(1)
Purchase price excludes closing costs and acquisition expenses.
(2)
Physical occupancy rate is defined as the units occupied as of December 31, 2016 divided by the total number of residential units
(3)
Effective monthly rental revenue per unit has been calculated based on the leases in effect as of December 31, 2016, adjusted for any tenant concessions, such as free rent. Effective monthly rental revenue per unit only includes base rents for occupied units, including affordable housing payments and subsidies. It does not include other charges for storage, parking, pets, cleaning, clubhouse or other miscellaneous amounts.



33


ITEM 3.
LEGAL PROCEEDINGS
From time to time, we are party to legal proceedings, which arise in the ordinary course of our business. We are not currently involved in any legal proceedings of which the outcome is reasonably likely to have a material adverse effect on our results of operations or financial condition, nor are we aware of any such legal proceedings contemplated by governmental authorities.
ITEM 4.
MINE SAFETY PROPERTIES
Not applicable.


34


PART II

ITEM 5.
MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
Stockholder Information
As of March 23, 2017, we had 59,428,703 shares of common stock outstanding held by a total of 12,892 stockholders.
Estimated Value Per Share
On March 30, 2017, our board of directors approved an estimated value per share of the Company’s common stock of $9.10 based on the estimated market value of the Company’s portfolio of investments as of December 31, 2016. We are providing this estimated value per share to assist broker-dealers that participated in our public offerings in meeting their customer account statement reporting obligations under National Association of Securities Dealers Conduct Rule 2340 as required by the Financial Industry Regulatory Authority (“FINRA”). This valuation was performed in accordance with the provisions of Practice Guideline 2013-01, Valuations of Publicly Registered Non-Listed REITs, issued by the Investment Program Association (“IPA”) in April 2013 (the “IPA Valuation Guidelines”).
Our conflicts committee, composed solely of all of our independent directors, is responsible for the oversight of the valuation process, including the review and approval of the valuation process and methodology used to determine the estimated value per share, the consistency of the valuation and appraisal methodologies with real estate industry standards and practices and the reasonableness of the assumptions used in the valuations and appraisals. With the approval of the conflicts committee, we engaged Duff & Phelps, LLC (“Duff & Phelps”) to provide a calculation of the range in estimated value per share of our common stock as of December 31, 2016. Duff & Phelps held discussions with senior management of our Advisor, and conducted appraisals, investigations, research, review and analysis as it deemed necessary. Duff & Phelps based this range in estimated value per share upon its estimates of the “as is” market values of our interests in 16 multifamily properties. Duff & Phelps made adjustments to the aggregate estimated values of our investments to reflect balance sheet assets and liabilities provided by the our management, before calculating a range of estimated values based on the number of outstanding shares of the our common stock as of December 31, 2016. The valuation report Duff & Phelps prepared (the “Valuation Report”) summarized the key inputs and assumptions involved in the appraisal of each of our investments. Duff & Phelps’s valuation was designed to follow the prescribed methodologies of the IPA Valuation Guidelines. The methodologies and assumptions used to determine the estimated value of our investments are described further below.
Upon the conflicts committee’s receipt and review of the Valuation Report and in light of other factors considered by our conflicts committee and the conflicts committee’s own extensive knowledge of our assets and liabilities, the conflicts committee concluded that the range in estimated value per share of $8.50 to $9.77, with an approximate midpoint value of $9.10 per share, as indicated in the Valuation Report, was appropriate. Upon recommendation by the Advisor, the Conflicts Committee recommended to our board of directors that it adopt $9.10 as the estimated value per share of our common stock, which approximates the midpoint value. Our board of directors unanimously agreed to accept the recommendation of the conflicts committee and approved $9.10 as the estimated value per share of our common stock, which determination is ultimately and solely the responsibility of the board of directors.

35


The following table summarizes the material components of the December 31, 2016 net asset value (in thousands, except per share amounts):
 
Net Asset Value as of December 31, 2016
 
Net Asset Value as of December 31, 2016 (per share)
Investments
$
898,950

 
$
15.20

Cash
111,510

 
1.88

Other Assets
2,306

 
0.04

Mortgage Notes Payable and Credit Facilities
(458,249
)
 
(7.75
)
Other Liabilities
(16,006
)
 
(0.27
)
Net asset value
$
538,511

 
$
9.10


The table below sets forth the calculation of our estimated net asset value per share as of December 31, 2016, as well as the calculation of our prior estimated net asset value per share as of December 31, 2015 (in thousands):
 
December 31, 2016
 
December 31, 2015
 
Change in
 
Net Asset Value per Share
 
Net Asset Value per Share (1)
 
Estimated Value per Share
Investments (2)
$
15.20

 
$
8.44

 
$
6.76

Cash (2)
1.88

 
3.43

 
(1.55
)
Other Assets (2)
0.04

 
0.27

 
(0.23
)
Mortgage Notes Payable and Credit Facilities (2)
(7.75
)
 
(2.94
)
 
(4.81
)
Other Liabilities
(0.27
)
 
(0.19
)
 
(0.08
)
 
$
9.10

 
$
9.01

 
$
0.09

(1)     For information relating to the December 31, 2015 net asset value per share and the assumptions and methodologies used by Duff & Phelps and our management, see our Annual Report on Form 10-K filed on March 31, 2016.
(2)    The increase in Investments, Mortgage Notes Payable and Credit Facilities, Other Liabilities, and the decrease in Cash and Other Assets were primarily the result of the acquisitions of Arcadia Apartment Homes, Riverlodge, Breckenridge, Santa Rosa, Windbrooke Crossing and The Woods at Burnsville in 2016.
As with any valuation, the methodologies used are based upon a number of estimates and assumptions that may not be accurate or complete. Different parties with different assumptions and estimates could derive a different estimated value per share, and these differences could be significant. In particular, due in part to (i) the high concentration of our total assets in real estate, and (ii) the number of shares of our common stock outstanding, even modest changes in key assumptions made in appraising our real estate properties could have a very significant impact on the estimated value of our shares. The estimated value per share is not audited and does not represent the fair value of our assets less the fair value of our liabilities according to U.S. generally accepted accounting principles (“GAAP”), nor does it represent a liquidation value of the our assets and liabilities or the amount our shares of common stock would trade at on a national securities exchange. The estimated value per share does not reflect a discount for the fact that we are externally managed, nor does it reflect a real estate portfolio premium/discount versus the sum of the individual property values. The estimated value per share also does not take into account estimated disposition costs and fees for real estate properties, debt prepayment penalties that could apply upon the prepayment of certain of our debt obligations or the impact of restrictions on the assumption of debt.
Methodology
Our goal in calculating an estimated value per share is to arrive at a value that is reasonable and supportable using what deems to be appropriate valuation and appraisal methodologies and assumptions and a process that is in accordance with the IPA Valuation Guidelines. The following is a summary of the valuation and appraisal methodologies used to calculate the estimated value per share:

36


Real Estate
Independent Valuation Firm
Duff & Phelps was recommended by the Advisor, and approved by the conflicts committee. Duff & Phelps is engaged in the business of appraising commercial real estate properties and is not affiliated with the Company or the Advisor. Duff & Phelps and its affiliates may from time to time in the future perform other commercial real estate, appraisal and valuation services for us and our affiliates in transactions related to the properties that are the subjects of the appraisals, so long as such other services do not adversely affect the independence of the applicable Duff & Phelps appraiser as certified in the applicable appraisal reports.
The compensation Duff & Phelps received for its appraisal of our real estate properties was based on the scope of work and was not contingent upon the development or reporting of a predetermined value or direction in value that favors the cause of us, the amount of the value opinion, the attainment of a stipulated result, or the occurrence of a subsequent event directly related to the intended use of the appraisal. The appraisal was performed in accordance with the Code of Ethics & Standards of Professional Appraisal Practice of the Appraisal Institute and the Uniform Standards of Professional Appraisal Practice, or USPAP, the real estate appraisal industry standards created by The Appraisal Foundation. The Valuation Report was reviewed, approved and signed by an individual with the professional designation of MAI (Member of the Appraisal Institute). The use of the Valuation Report is subject to the requirements of the Appraisal Institute relating to review by its duly authorized representatives. In preparing the Valuation Report, Duff & Phelps did not, and was not requested to, solicit third party indications of interest for our common stock in connection with possible purchases thereof or the acquisition of all or any part of us.
Duff & Phelps collected all reasonably available material information that it deemed relevant in estimating the market value of our real estate properties and other investments. In conducting its investigations and analyses, Duff & Phelps took into account customary and accepted financial and commercial procedures and considerations as it deemed relevant. Although Duff & Phelps reviewed information supplied or otherwise made available by us or the Advisor for reasonableness, each assumed and relied upon the accuracy and completeness of all such information and of all information supplied or otherwise made available to it by any other party and did not independently verify any such information. Duff & Phelps relied on management or the Advisor to advise it promptly if any information previously provided became inaccurate or was required to be updated during the period of its review.
In performing its analysis of our real estate properties and other investments, Duff & Phelps made numerous other assumptions as of various points in time. The Valuation Report, including the analyses, opinions and conclusions set forth in such report, are qualified by the assumptions, qualifications and limitations set forth in the Valuation Report.
Real Estate Valuation
Duff & Phelps estimated the “as is” market value of each of our real estate properties owned as of December 31, 2016, using various methodologies, including the direct capitalization approach, discounted cash flow analyses and sales comparison approach, and relied primarily on the discounted cash flow analyses for our properties. The sales comparison approach was utilized as a secondary approach to value. The discounted cash flow analyses focus on the operating cash flows expected from the properties and the anticipated proceeds of hypothetical sales at the end of assumed holding periods, which are then discounted to their present value. Discounted cash flow analyses were utilized for all 16 of our properties as they were either recently acquired and either not yet stabilized or are currently undergoing renovations. Real estate is currently carried in our financial statements at its amortized cost basis. Duff & Phelps performed its appraisals as of December 31, 2016.
The following summarizes the range of terminal capitalization rates and discount rates used to arrive at the estimated market values of our 16 properties:
 
Range in Values
 
Weighted Average Basis
Terminal Capitalization Rate
4.75% to 5.75%
 
5.20
%
Discount Rate
6.00% to 7.50%
 
6.85
%
While we believe that Duff & Phelps’ assumptions and inputs are reasonable, a change in these assumptions and inputs would significantly impact the calculation of the appraised value of our real estate properties and other assets and, thus, its estimated value per share. As of December 31, 2016, the majority of our real estate assets have non-stabilized occupancies. Appraisals may provide a sense of the value of the investment, but any appraisal of the property will be based on numerous estimates, judgments and assumptions that significantly affect the appraised value of the underlying property. An appraisal of a non-stabilized property, in particular, involves a high degree of subjectivity due to higher vacancy levels and uncertainties with respect to future market

37


rental rates and timing of lease-up and stabilization. Accordingly, different assumptions may materially change the appraised value of the property.
The total appraised value of our real estate properties using the appraisal methodologies described above was $538.7 million, compared to an aggregate purchase price, adjusted for related capital expenditures through December 31, 2016 of $390.9 million.
The table below illustrates the impact on the estimated value per share if the overall capitalization rates, terminal capitalization rates or discount rates were adjusted by 25 basis points, and assuming all other factors remain unchanged, with respect to the real estate properties referenced in the table above. Additionally, the table below illustrates the impact on the estimated value per share if the overall capitalization rates, terminal capitalization rates or discount rates were adjusted by 5% in accordance with the IPA Valuation Guidelines, assuming all other factors remain unchanged. The table is only hypothetical to illustrate possible results if only one change in assumptions was made, with all other factors held constant. Further, each of these assumptions could change by more than 25 basis points or 5%.
 
Change in Estimated Value per Share
 
Increase of 25 Basis Points
 
Decrease of 25 Basis Points
 
Increase of 5%
 
Decrease of 5%
Overall Capitalization Rate
N/A

 
N/A

 
N/A

 
N/A

Terminal Capitalization Rate
$
8.50

 
$
9.77

 
$
8.48

 
$
9.80

Discount Rate
$
9.04

 
$
9.17

 
$
9.02

 
$
9.19

Other Assets and Liabilities
Duff & Phelps made adjustments to the aggregate estimated values of our investments to reflect balance sheet assets and liabilities provided by our management.
Limitations of Estimated Value Per Share
As mentioned above, we are providing this estimated value per share to assist broker dealers that participated in our public offering in meeting their customer account statement reporting obligations. This valuation was performed in accordance with the provisions of the IPA Valuation Guidelines. The estimated value per share set forth above will first appear on the March 31, 2017 customer account statements that will be mailed in April 2017. As with any valuation methodology, the methodologies used are based upon a number of estimates and assumptions that may not be accurate or complete. Different parties with different assumptions and estimates could derive a different estimated value per share, and this difference could be significant. The estimated value per share is not audited and does not represent the fair value of our assets or liabilities according to GAAP.
Accordingly, with respect to the estimated value per share, we can give no assurance that:
•
a stockholder would be able to resell his or her shares at the estimated value per share;
•
a stockholder would ultimately realize distributions per share equal to our estimated value per share upon liquidation of our assets and settlement of its liabilities or a sale of the Company;
•
our shares of common stock would trade at the estimated value per share on a national securities exchange;
•
a third party would offer the estimated value per share in an arm’s-length transaction to purchase all or substantially all of our shares of common stock;
•
another independent third-party appraiser or third-party valuation firm would agree with the our estimated value per share; or
•
the methodology used to calculate our estimated value per share would be acceptable to FINRA or for compliance with ERISA reporting requirements.
Further, the estimated value per share as of December 31, 2016 is based on the estimated value of our investments as of December 31, 2016. We did not make any adjustments to the valuation for the impact of other transactions occurring subsequent to December 31, 2016, including, but not limited to, (i) the issuance of common stock under the distribution reinvestment plan, (ii) net operating income earned and distributions declared, (iii) the redemption of shares and (iv) the potential conversion of convertible stock into common stock. The value of our shares will fluctuate over time in response to developments related to

38


individual assets in our portfolio and the management of those assets and in response to the real estate and finance markets. Because of, among other factors, our high concentration of total assets in real estate and the number of shares of our common stock outstanding, any change in the value of individual assets in the portfolio, particularly changes affecting our real estate properties, could have a very significant impact on the value of our shares. The estimated value per share does not reflect a discount for the fact that we are externally managed, nor does it reflect a real estate portfolio premium/discount versus the sum of the individual property values. The estimated value per share also does not take into account estimated disposition costs and fees for real estate properties, debt prepayment penalties that could apply upon the prepayment of certain of our debt obligations or the impact of restrictions on the assumption of debt.

Distribution Reinvestment Plan

In accordance with our distribution reinvestment plan, participants in the distribution reinvestment plan acquire shares of common stock under the plan at a price equal to 95% of the current estimated value per share of our common stock. Commencing on the next distribution reinvestment plan purchase date, which is on March 31, 2017, participants will acquire shares of our common stock under the plan at a price equal to $8.65 per share.

As provided under the distribution reinvestment plan, for a participant to terminate participation effective for a particular distribution, we must have received notice of termination from the participant at least ten business days prior to the last day of the month to which the distribution relates. If a participant wishes to terminate participation in the distribution reinvestment plan effective for the April 2017 purchase date, participants must notify us in writing of such decision, and we must receive the notice by the close of business on April 14, 2017, which is ten business days prior to the last day of April 2017, as provided under the distribution reinvestment plan.

Notice of termination should be sent by facsimile to 877-894-1124 or by mail to c/o Resource Real Estate Opportunity REIT II, Inc., P.O. Box 219169, Kansas City, Missouri 64121.

Share Redemption Program

On March 30, 2017, our board of directors approved an estimated value per share of our common stock of $9.10. As a result, the price at which shares will now be redeemed under our share redemption program is as follows:

(1) For those shares held by the redeeming stockholder for at least one year, 92.5% of our estimated value per share, or $8.42;

(2) For those shares held by the redeeming stockholder for at least two years, 95.0% of our estimated share value, or $8.65;

(3) For those shares held by the redeeming stockholder for at least three years, 97.5% of our estimated share value, or $8.87; and

(4) For those shares held by the redeeming stockholder for at least four years, 100% of our estimated share value, or $9.10.

For a stockholder’s shares to be eligible for redemption in June 2017 or to withdraw a redemption request, we must receive a written notice from the stockholder or from an authorized representative of the stockholder in good order and on a form approved by us by June 15, 2017.

The complete share redemption program plan document is filed as an exhibit to our Current Report on Form 8-K filed with the SEC on February 27, 2015 and is available at the SEC’s website at http://www.sec.gov.
Unregistered Sale of Equity Securities
All securities sold by us during the year ended December 31, 2016 were sold in an offering registered under the Securities Act.
Redemption of Securities
Our board of directors has adopted a share redemption program that may enable stockholders to sell their shares to us after they have held them for at least one year, subject to the significant conditions and limitations of the program. In its sole discretion, our board of directors can amend, suspend or terminate the program upon 30 days’ notice without stockholder approval. Except for redemptions sought upon a stockholder’s death, qualifying disability or confinement to a long-term care facility and prior to the time we established an NAV per share of our common stock, the purchase price for shares redeemed under the redemption program was as follows:

39


•
For those shares held by the redeeming stockholder for at least one year, 92.5% of the price paid to acquire the shares from us;
•
For those shares held by the redeeming stockholder for at least two years, 95.0% of the price paid to acquire the shares from us;
•
For those shares held by the redeeming stockholder for at least three years, 97.5% of the price paid to acquire the shares from us; and
•
For those shares held by the redeeming stockholder for at least four years, 100% of the price paid to acquire the shares from us.
The purchase price per share for redemptions sought upon a stockholder’s death or qualifying disability or confinement to a long-term care facility, was equal to the average issue price per share of the stockholder’s shares.
The purchase price per share will be adjusted for any stock combinations, splits, recapitalizations and the like with respect to the shares of common stock and reduced by the aggregate amount of net sale or refinance proceeds per share, if any, distributed to the redeeming stockholder prior to the redemption date.

In connection with the approval by our board of directors of an estimated value per share of our common stock of $9.01 on March 29, 2016, the price at which shares were redeemed under our share redemption program subsequent to that date was as follows:
               
•
For those shares held by the redeeming stockholder for at least one year, 92.5% of our estimated value per share, or $8.33;
•
For those shares held by the redeeming stockholder for at least two years, 95.0% of our estimated share value, or $8.56;
•
For those shares held by the redeeming stockholder for at least three years, 97.5% of our estimated share value, or $8.78; and
•
For those shares held by the redeeming stockholder for at least four years, 100% of our estimated share value, or $9.01.

We will not redeem in excess of 5% of the weighted-average number of shares outstanding during the 12-month period immediately prior to the effective date of redemption.  Generally, the cash available for redemption will be limited to proceeds from our distribution reinvestment plan plus, if we had positive operating cash flow from the previous fiscal year, 1% of all operating cash flow from the previous fiscal year.  These limitations apply to all redemptions, including redemptions sought upon a stockholder’s death, qualifying disability or confinement to a long-term care facility. 
During the quarter ended December 31, 2016, we redeemed shares as follows:
Period
 
Total Number
of Shares
Redeemed (1)
 
Average Price Paid per Share
 
Cumulative Number
of Shares Purchased
as Part of a Publicly
Announced Plan or
Program (2)
 
Approximate Dollar
Value of Shares
Available That May
Yet Be Redeemed
Under the Program
October 2016
 
54,455
 
$8.40
 
116
 
(2)
November 2016
 
—
 
$—
 
—
 
(2)
December 2016
 
57,011
 
$8.75
 
173
 
(2)
(1)
All purchases of equity securities by the Company in the three months ended December 31, 2016 were made pursuant to our share redemption program.
(2)
We currently limit the dollar value and number of shares that may be repurchased under the program, as discussed above.
All redemption requests tendered were honored during the three months ended December 31, 2016.

40


Distribution Information
For the year ended December 31, 2016, we paid aggregate distributions of $34.6 million, including $14.0 million of distributions paid in cash and $20.6 million of distributions reinvested in shares of common stock through our distribution reinvestment plan. Distributions declared, distributions paid and cash flows provided by (used in) operating activities were as follows for year ended December 31, 2016 (in thousands):
 
 
Distributions Paid
 
 
 
 
 
Distributions Declared
 
Sources of Distributions Paid
2016
 
Cash
 
Distributions Reinvested (DRIP)
 
Total
 
Cash Provided By (Used In ) Operating Activities - Quarter to Date
 
Cash Provided By (Used In ) Operating Activities - Year to Date
 
Total
 
Per Share
 
Amount Paid from Operating Activities/Percent of Total Distributions Paid
 
Amount Paid from Debt Financing/Percent of Total Distributions Paid
First Quarter
 
$
3,405

 
$
5,001

 
$
8,406

 
$
(3,447
)
 
$
(3,447
)
 
$
8,626

 
$
0.149589

 
-/-
 
$8,406/100%
Second Quarter
 
3,481

 
5,145

 
8,626

 
701

 
(2,746
)
 
8,810

 
$
0.149589

 
-/-
 
$8,626/100%
Third Quarter
 
3,542

 
5,268

 
8,810

 
(1,152
)
 
(3,898
)
 
8,791

 
$
0.151233

 
-/-
 
$8,810/100%
Fourth Quarter
 
3,597

 
5,194

 
8,791

 
(2,128
)
 
(6,026
)
 
8,769

 
$
0.149589

 
-/-
 
$8,791/100%
Total
 
$
14,025

 
$
20,608


$
34,633

 
$
(6,026
)
 
 
 
$
34,996

 
 
 
 
 
 
We elected to be taxed as a REIT and to operate as a REIT beginning with our taxable year ended December 31, 2014. To maintain our qualification as a REIT, we will be required to make aggregate annual distributions to our common stockholders of at least 90% of our REIT taxable income (computed without regard to the dividends paid deduction and excluding net capital gain). Our Board of Directors may authorize distributions in excess of those required for us to maintain REIT status depending on our financial condition and such other factors as our Board of Directors deems relevant.
Our Board of Directors considers many factors before authorizing a cash distribution, including current and projected cash flow from operations, capital expenditure needs, general financial conditions and REIT qualification requirements. To the extent permitted by Maryland law, we may borrow funds, issue new securities or sell assets to make and cover our declared distributions, all or a portion of which could be deemed a return of capital. We may also fund such distributions from advances from our Advisor or sponsor or from our Advisor's deferral of its asset management fee, although we have no present intention to do so. Our organizational documents do not limit the amount of distributions we can fund from sources other than from cash flows from operations.
Our net loss for the year ended December 31, 2016 was $44.2 million and net cash used in operating activities was $6.0 million. Our cumulative cash distributions paid and net loss from inception through December 31, 2016 were $49.0 million and $70.1 million, respectively. We have funded our cumulative distributions, which includes net cash distributions and distributions reinvested by stockholders, with cash flow from operating activities and proceeds from debt financing. To the extent that we pay distributions from sources other than our cash flow from operating activities or gains from asset sales, we will have fewer funds available for investment in commercial real estate and real estate-related debt and the overall return to our stockholders may be reduced.
We have not established a minimum distribution level, and our charter does not require that we make distributions to our stockholders. We have and will continue to make distributions with respect to the shares of common stock in sole discretion of the board of directors. No distributions will be made with respect to shares of our convertible stock.
ITEM 6.
SELECTED FINANCIAL DATA
Selected financial data has been omitted as permitted under rules applicable to smaller reporting companies.



41


ITEM 7.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (unaudited)
The following discussion and analysis should be read in conjunction with the accompanying financial statements of Resource Real Estate Opportunity REIT II, Inc. and the notes thereto.
Overview
We are a Maryland corporation that intends to invest in multifamily assets across the entire spectrum of investments in order to provide investors with growing cash flow and increasing asset values. We intend to acquire (i) underperforming multifamily rental properties which we will renovate and stabilize in order to increase rents, (ii) distressed real estate owned by financial institutions, usually as a result of foreclosure, and non-performing or distressed loans, including first- and second-priority mortgage loans and other loans which we will resolve, and (iii) performing loans, including first- and second-priority mortgage loans and other loans we originate or purchase either directly or with a co-investor or joint venture partner. We believe multiple opportunities exist within the multifamily industry today and will continue to present themselves over the next few years to real estate investors who possess the following characteristics: (i) extensive experience in multifamily investing, (ii) strong management platforms specializing in operational and financial performance optimization, (iii) financial sophistication allowing them to benefit from complex opportunities and (iv) the overall scale and breadth of a national real estate platform in both the equity and debt markets. We may make adjustments to our target portfolio based on real estate market conditions and investment opportunities. We will not forego a good investment because it does not precisely fit our expected portfolio composition. Thus, to the extent that our Advisor presents us with investment opportunities that allow us to meet the requirements to be treated as a REIT, under the Internal Revenue Code, and to maintain our exclusion from regulation as an investment company under the Investment Company Act of 1940, our portfolio composition may vary from what we initially expect.
We commenced the public offering of our common stock in February 2014 and terminated the primary portion of the offering in February 2016. We describe this offering in “Liquidity and Capital Resources,” below.
Results of Operations
We were formed on September 28, 2012.  We commenced active real estate operations on June 4, 2014 with the acquisition of our first multi-family property.  As of December 31, 2016, we owned 16 multifamily properties. Our management is not aware of any material trends or uncertainties, favorable, or unfavorable, other than national economic conditions affecting our targeted portfolio, the multifamily residential housing industry and real estate generally, which may reasonably be expected to have a material impact on either capital resources or the revenues or incomes to be derived from the operation of such assets or those that we expect to acquire.

42


Year ended December 31, 2016 Compared to the Year ended December 31, 2015
We expect revenue and expenses to increase in future periods as we acquire additional properties and to decrease to the extent that we dispose of properties. The following table sets forth the results of our operations (in thousands):
 
Years Ended
 
December 31,
 
2016
 
2015
Revenues:
 
 
 
Rental income
$
52,928

 
$
14,661

Total revenues
52,928

 
14,661

 
 
 
 
Expenses:
 
 
 
Rental operating
25,467

 
8,235

Acquisition costs
9,079

 
9,136

Management fees
9,235

 
2,435

General and administrative
9,272

 
3,690

Loss on disposal of assets
2,516

 
1,680

Depreciation and amortization expense
30,964

 
9,270

Total expenses
86,533

 
34,446

Loss before other income (expense)
(33,605
)
 
(19,785
)
 
 
 
 
Other income (expense):
 
 
 
Interest income
209

 
129

Insurance proceeds in excess of cost basis
185

 
—

Interest expense
(10,950
)
 
(2,516
)
Net loss
$
(44,161
)
 
$
(22,172
)
Revenues: Rental income increased by $38.3 million during the year ended December 31, 2016 as compared to the year ended December 31, 2015. The increase is primarily due to the acquisition of six additional properties since December 31, 2015, as well as the implementation of our investment strategy to increase monthly rental income and occupancy rates after renovating and stabilizing operations and was primarily comprised of:
 
 
 
 
 
 
Increase in Effective
 
 

 

 
Monthly Revenue
Multifamily Community
 
Rental Increase (in thousands)
 
Change in Occupancy %
 
per Unit (in dollars)
Adair off Addison
 
$
318

 
11.2
 %
 
104

Overton Trails Apartment Homes
 
545

 
2.2
 %
 
167

Uptown Buckhead
 
736

 
6.0
 %
 
37

Crosstown at Chapel Hill
 
1,897

 
1.2
 %
 
162

The Brookwood
 
2,164

 
3.3
 %
 
10

Adair off Addison Apartment Homes
 
1,720

 
(2.5
)%
 
184

Montclair
 
2,194

 
(10.1
)%
 
532

1000 Spalding Crossing
 
2,576

 
(2.8
)%
 
64

Grand Reserve
 
5,451

 
(2.8
)%
 
240

Verdant Apartment Homes
 
4,051

 
(5.6
)%
 
279

Properties acquired in 2016
 
16,615

 
N/A

 
N/A

 
 
$
38,267

 
 
 
 


43


Expenses:  Our operating expenses for the year ended December 31, 2016 were from the ongoing operations of our business and the ownership of 16 operating properties and increased as a result of the acquisition of six additional properties since December 31, 2015.
Management fees increased by $6.8 million during the year ended December 31, 2016 as compared to the year ended December 31, 2015 primarily due to the increase in the asset management fee paid to the Advisor related to the ownership of six additional properties during the year ended December 31, 2016. The monthly asset management fee is equal to one-twelfth of 1.0% of the cost of each asset, without deduction for deprecation, bad debts or other non-cash reserves.     
General and administrative expenses increased by $5.6 million during the year ended December 31, 2016 as compared to the year ended December 31, 2015 primarily as a result of the following:
•Company level general and administrative expenses increased during the year ended December 31, 2016 as compared to the year ended December 31, 2015 primarily as a result of an increase of $3.2 million in payroll, rent and other costs allocated to us by our Advisor.
•Property level general and administrative expenses increased by $1.4 million during the year ended December 31, 2016 as compared to the year ended December 31, 2015 primarily related to the operations of our 16 multifamily properties, and increased as a result of the acquisition of six additional properties.
Loss on disposal of assets of $2.5 million related to the replacement of appliances at our rental properties in conjunction with unit upgrades.
Depreciation and amortization is comprised of the depreciation on our rental properties and amortization of intangible assets related to in-place leases which are amortized over a period of approximately six to nine months after acquisition. The increases (decreases) in the components of depreciation and amortization during the year ended December 31, 2016, as compared to the year ended December 31, 2015, were as follows (in thousands):
 
Properties owned during both periods
 
All other
 
Total
Depreciation
$
10,479

 
$
6,271

 
$
16,750

Amortization of intangibles
(268
)
 
5,212

 
4,944

 
$
10,211

 
$
11,483

 
$
21,694

The overall increase in depreciation expense for properties owned both periods is due to the additional $31.3 million in capital improvements made during 2016 in accordance with our planned renovations.
Interest expense increased by $8.4 million during the year ended December 31, 2016 as compared to the year ended December 31, 2015 as a result of seven additional mortgages either entered into or assumed during the year ended December 31, 2016, which were used to finance property acquisitions, as well as amortization of deferred financing costs.
Liquidity and Capital Resources
From February 2014 to February 2016, we offered in our public offering up to $1.0 billion in shares of common stock, $0.01 par value per share, at $10 per share. At the termination of the primary offering, we had raised $556.2 million in gross proceeds. We have also offered and continue to offer up to $95.0 million in shares of our common stock to be issued pursuant to our distribution reinvestment plan under which our stockholders may elect to have distributions reinvested in additional shares at $8.65 per share ($8.56 per share prior to March 31, 2017).
We derive the capital required to purchase real estate investments and conduct our operations from secured or unsecured financings from banks or other lenders, from proceeds from the sale of assets and from any undistributed funds from our operations.
We intend to allocate funds as necessary to aid our objective of preserving value for our investors by supporting the maintenance and viability of properties we acquire in the future. If such allocations and any other available income become insufficient to cover our operating expenses and liabilities, it may be necessary to obtain additional funds by borrowing, refinancing properties or liquidating our investment in one or more properties, debt investments or other assets we may hold. We cannot assure you that we will be able to access additional funds when we need them or upon acceptable terms.
We may seek to obtain REIT-level financing through a line of credit from third-party financial institutions or other commercial lenders. Our assets will serve as collateral for this type of debt incurred to acquire real estate investments. In addition to debt financing at the REIT-level, we have financed, and may continue to finance, the acquisition costs of individual real estate investments, as well as the acquisition costs of all or a group of real estate investments acquired by us, by causing our subsidiaries to borrow directly from third-party financial institutions or other commercial lenders. Under these circumstances, our Advisor

44


anticipates that certain properties will serve as collateral for the debt we incur to acquire those particular properties and that we will seek to obtain nonrecourse financing for the acquisition of the properties. However, there is no guarantee that our Advisor will be successful in obtaining financing arrangements on a property-by-property basis and that the loans would be nonrecourse to us. Finally, we may also obtain seller financing with respect to specific assets that we acquire.
Capital Expenditures
We deployed a total of $31.3 million during the year ended December 31, 2016 for capital expenditures. The properties in which we deployed the most capital during the year ended December 31, 2016 are listed separately and the capital expenditures made on all other properties are aggregated in "All other properties" below (in thousands):
 
 
Capital deployed
during the year ended
 
Remaining capital
budgeted

 
December 31, 2016
 
Overton Trails Apartment Homes
 
$
2,131

 
$
2,267

Uptown Buckhead
 
2,597

 
558

Crosstown at Chapel Hill
 
2,846

 
4,227

The Brookwood
 
3,946

 
2,995

Adair off Addison Apartment Homes
 
2,389

 
7,203

1000 Spalding Crossing
 
2,399

 
2,742

Grand Reserve
 
3,483

 
4,482

Verdant Apartment Homes
 
2,335

 
3,096

Arcadia Apartment Homes
 
3,514

 
5,261

Riverlodge
 
2,467

 
9,544

All other properties
 
3,227

 
29,363

 
 
$
31,334

 
$
71,738

Common Stock
As of December 31, 2016, we had an aggregate of 59,160,177 shares of $0.01 par value common stock outstanding, including the Advisor's additional purchase of 117,778 shares of common stock for $1.1 million, as follows (in thousands, except per share data):

 
Shares Issued
 
Gross Proceeds
Shares issued through initial public offering
 
55,791,297

 
$
556,197

Shares issued through stock distributions
 
246,365

 
—

Shares issued through distribution reinvestment plan
 
3,280,313

 
29,247

Advisor's initial investment, net of 5,000 share conversion
 
15,000

 
150

Total shares redeemed and retired
 
(172,798
)
 
(1,497
)
Shares outstanding as of December 31, 2016
 
59,160,177

 
$
584,097


45


Debt
The following table presents a summary of our mortgage notes payable, net (in thousands):
 
 
December 31, 2016
 
December 31, 2015
Collateral
 
Outstanding borrowings
 
Premium, net
 
Deferred Financing Costs, net
 
Carrying Value
 
Outstanding borrowings
 
Premium, net
 
Deferred Financing Costs, net
 
Carrying Value
Overton Trails Apartment Homes
 
$
31,075

 
$
—

 
$
(344
)
 
$
30,731

 
$
31,075

 
$
—

 
$
(382
)
 
$
30,693

Uptown Buckhead
 
20,200

 
—

 
(284
)
 
19,916

 
20,200

 
—

 
(320
)
 
19,880

Crosstown at Chapel Hill
 
32,000

 
—

 
(373
)
 
31,627

 
32,000

 
—

 
(491
)
 
31,509

The Brookwood - Key Bank
 
18,247

 
508

 
(239
)
 
18,516

 
18,603

 
621

 
(293
)
 
18,931

The Brookwood - Capital One
 
2,699

 
39

 
(41
)
 
2,697

 
2,739

 
47

 
(50
)
 
2,736

Adair off Addison and Adair off Addison Apartment Homes
 
25,500

 
—

 
(464
)
 
25,036

 
25,500

 
—

 
(583
)
 
24,917

1000 Spalding Crossing
 
24,600

 
—

 
(289
)
 
24,311

 
24,600

 
—

 
(349
)
 
24,251

Riverlodge
 
28,292

 
—

 
(393
)
 
27,899

 
—

 
—

 
—

 
—

Verdant Apartment Homes
 
37,300

 
—

 
(345
)
 
36,955

 
—

 
—

 
—

 
—

Arcadia Apartment Homes
 
40,200

 
—

 
(379
)
 
39,821

 
—

 
—

 
—

 
—

Grand Reserve
 
42,395

 
—

 
(446
)
 
41,949

 
—

 
—

 
—

 
—

Montclair Terrace
 
21,083

 
—

 
(345
)
 
20,738

 
—

 
—

 
—

 
—

Breckenridge
 
52,975

 
—

 
(697
)
 
52,278

 
—

 
—

 
—

 
—

Santa Rosa
 
45,700

 
—

 
(643
)
 
45,057

 
—

 
—

 
—

 
—

Windbrooke Crossing
 
38,320

 
—

 
(490
)
 
37,830

 
—

 
—

 
—

 
—

 
 
$
460,586

 
$
547

 
$
(5,772
)
 
$
455,361

 
$
154,717

 
$
668

 
$
(2,468
)
 
$
152,917






    

46


The following table presents additional information about our mortgage notes payable, net (in thousands, except percentages):
 
 
Maturity
Date
 
Margin over LIBOR
 
Annual Interest Rate
 
Average
Monthly Debt
Service
 
Average
Monthly Escrow
 
 
Overton Trails Apartment Homes
 
1/1/2025
 
1.91
%
 
2.68
%
 
$
118

 
$
155

 
(1) (3) (5)
Uptown Buckhead
 
7/1/2025
 
2.22
%
 
2.99
%
 
$
78

 
$
70

 
(1) (3) (5)
Crosstown at Chapel Hill
 
7/10/2020
 
1.70
%
 
2.47
%
 
$
95

 
$
—

 
(1) (4) (5)
The Brookwood - Key Bank
 
11/1/2021
 
—

 
4.73
%
 
$
104

 
$
27

 
 (2) (7)
The Brookwood - Capital One
 
11/1/2021
 
—

 
5.40
%
 
$
16

 
$
—

 
(2) (7)
Adair off Addison and Adair off Addison Apartment Homes
 
1/1/2021
 
1.55
%
 
2.32
%
 
$
87

 
$
—

 
(1) (3) (5)
1000 Spalding Crossing
 
1/1/2022
 
—

 
3.88
%
 
$
108

 
$
39

 
(2) (5)
Riverlodge
 
5/1/2022
 
—

 
3.76
%
 
$
144

 
$
130

 
(2) (7)
Verdant Apartment Homes
 
5/1/2023
 
—

 
3.89
%
 
$
154

 
$
26

 
(2) (5)
Arcadia Apartment Homes
 
5/1/2023
 
—

 
3.89
%
 
$
167

 
$
19

 
(2)
Grand Reserve
 
6/1/2023
 
2.57
%
 
3.34
%
 
$
185

 
$
88

 
(1) (3) (6)
Montclair Terrace
 
6/1/2023
 
2.45
%
 
3.22
%
 
$
93

 
$
21

 
(1) (3) (7)
Breckenridge
 
7/1/2023
 
2.36
%
 
3.13
%
 
$
213

 
$
54

 
(1) (3) (5)
Santa Rosa
 
9/1/2026
 
2.11
%
 
2.88
%
 
$
146

 
$
98

 
(1) (3) (5)
Windbrooke Crossing
 
1/1/2024
 
2.69
%
 
3.46
%
 
$
194

 
$
70

 
(1) (3) (5)

(1)
Variable rate based on one-month LIBOR of 0.77167% (as of December 31, 2016) plus a fixed margin
(2)
Fixed rate
(3)
Variable rate hedged with interest rate cap cash flow hedge
(4)
Fixed rate interest rate swap associated with the variable rate debt
(5)
Monthly interest-only payment currently required
(6)
Monthly fixed principal plus interest payment required
(7)
Fixed monthly payment of principal and interest payment required
On August 21, 2015, we recorded a fair value adjustment, which represented the fair value of the debt assumed over its principal amount in connection with The Brookwood Apartment Home acquisition. The fair value will be amortized to interest expense over the term of the related mortgages loans using the effective interest method. As of December 31, 2016, the net unamortized mortgage premium was $546,607 and was included as a component of mortgage loans payable in the accompanying consolidated balance sheets.
At December 31, 2016, the weighted average interest rate of all our outstanding indebtedness was 3.31%.
    


47


Operating Properties
As of December 31, 2016, our wholly-owned interests in multifamily properties were as follows:
Subsidiary
 
Apartment Complex
 
Number of Units
 
Property Location
RRE Bear Creek Holdings, LLC, or Bear Creek
 
Adair off Addison
 
152
 
Dallas, TX
RRE Oak Hill Holdings, LLC, or Oak Hill
 
Overton Trails Apartment Homes
 
360
 
Fort Worth, TX
RRE Buckhead Holdings, LLC, or Buckhead
 
Uptown Buckhead
 
216
 
Atlanta, GA
RRE Farrington Holdings, LLC, or Farrington
 
Crosstown at Chapel Hill
 
411
 
Chapel Hill, NC
RRE Mayfair Chateau Holdings, LLC, or Mayfair Chateau
 
The Brookwood
 
274
 
Homewood, AL
RRE Fairways of Bent Tree Holdings, LLC, or Fairways of Bent Tree
 
Adair off Addison Apartment Homes
 
200
 
Dallas, TX
RRE Spalding Crossing Holdings, LLC, or Spalding Crossing
 
1000 Spalding Crossing
 
252
 
Atlanta, GA
RRE Montclair Terrace Holdings, LLC, or Montclair Holdings
 
Montclair
 
188
 
Portland, OR
RRE Canterwood Holdings, LLC, or Canterwood
 
Verdant Apartment Homes
 
216
 
Boulder, CO
RRE Grand Reserve Holdings, LLC, or Grand Reserve
 
Grand Reserve
 
319
 
Naperville, IL
RRE Fox Ridge Holdings, LLC, or Fox Ridge
 
Arcadia Apartment Homes
 
300
 
Centennial, CO
RRE Riverlodge Holdings, LLC, or Riverlodge
 
Riverlodge
 
498
 
Austin, TX
RRE Breckenridge Holdings, LLC, or Breckenridge
 
Breckenridge
 
357
 
Portland, OR
RRE Santa Rosa Holdings, LLC, or Santa Rosa
 
Santa Rosa
 
476
 
Irving, TX
RRE Windbrooke Holdings, LLC, or Windbrooke Crossing
 
Windbrooke Crossing
 
236
 
Buffalo Grove, IL
RRE Woods Holdings, LLC, or The Woods of Burnsville
 
The Woods of Burnsville
 
400
 
Burnsville, MN
 
 
 
 
4,855
 
 
As four of our multifamily properties are located in the Dallas-Fort Worth area, three of our properties are located in the Atlanta area, two of our properties are located in Portland, Oregon and two of our properties are located in the Denver area, our portfolio is particularly susceptible to adverse economic developments in these real estate markets. Any adverse economic or real estate developments in these markets, such as business layoffs or downsizing, industry slowdowns, relocations of businesses, changing demographics and other factors, or any decrease in demand for multifamily rentals resulting from the local business climate, could negatively affect our liquidity and adversely affect our ability to fund our ongoing operations.
Organization and Offering Costs
Our Advisor has advanced funds to us for certain organization and offering costs.  We reimbursed the Advisor for all of the expenses paid or incurred by our Advisor or its affiliates on our behalf or in connection with the services provided to us in relation to our public offering.  This included all organization and offering costs other than selling commission and dealer manager fees.
Acquisition and Asset Management Costs    
In addition to making investments in accordance with our investment objectives, we expect to use our capital resources to make payments to our Advisor. During our acquisition stage, we expect to make payments to our Advisor in connection with the acquisition of real estate investments. In addition, we expect to continue to make payments to our Advisor for the management of our assets and costs incurred by our Advisor in providing services to us. We describe these payments in more detail in Note 11 of the notes to our consolidated financial statements.

48


Operating Expenses
Under our charter, our Advisor must reimburse us the amount by which our aggregate total operating expenses for the four fiscal quarters then ended exceed the greater of 2% of our average invested assets or 25% of our net income, unless the conflicts committee has determined that such excess expenses were justified based on unusual and non-recurring factors. “Average invested assets” means the average monthly book value of our assets invested, directly or indirectly, in equity interests in and loans secured by real estate during the 12-month period before deducting depreciation, bad debts or other non-cash reserves. “Total operating expenses” means all expenses paid or incurred by us, as determined under Generally Accepted Accounting Principles ("GAAP"), that are in any way related to our operation, including advisory fees, but excluding (a) the expenses of raising capital such as organization and offering expenses, legal, audit, accounting, underwriting, brokerage, listing, registration and other fees, printing and other such expenses and taxes incurred in connection with the issuance, distribution, transfer, registration and stock exchange listing of our stock; (b) interest payments; (c) taxes; (d) non-cash expenditures such as depreciation, amortization and bad debt reserves; (e) reasonable incentive fees based on the gain in the sale of our assets; and (f) acquisition fees, acquisition expenses (including expenses relating to potential investments that we do not close), disposition fees on the resale of property and other expenses connected with the acquisition, disposition and ownership of real estate interests, loans or other property (including the costs of foreclosure, insurance premiums, legal services, maintenance, repair and improvement of property). Operating expenses for the four quarters ended December 31, 2016 did not exceed the charter imposed limitation.
Distributions     
For the year ended December 31, 2016, the Company paid aggregate distributions of $34.6 million, including $14.0 million of distributions paid in cash and $20.6 million of distributions reinvested in shares of common stock through the our distribution reinvestment plan, as follows:
Authorization Date
 
Per
Common
Share
 
Record Dates
 
Distribution Date
 
Distributions reinvested in shares of Common Stock
 
Net Cash Distributions
 
Total Aggregate Distributions
December 17, 2015
 
$
0.00164384

 
December 31, 2015 through January 28, 2016
 
January 29, 2016
 
$
1,540

 
$
1,039

 
$
2,579

December 17, 2015
 
0.00164384

 
January 29, 2016 through February 26, 2016
 
February 29, 2016
 
1,618

 
1,103

 
2,721

February 24, 2016
 
0.00164384

 
February 27, 2016 through March 30, 2016
 
March 31, 2016
 
1,843

 
1,263

 
3,106

March 29, 2016
 
0.00164384

 
March 31, 2016 through April 29, 2016
 
April 30, 2016
 
1,635

 
1,105

 
2,740

March 29, 2016
 
0.00164384

 
April 30, 2016 through May 30, 2016
 
May 31, 2016
 
1,640

 
1,106

 
2,746

March 29, 2016
 
0.00164384

 
May 31, 2016 through June 29, 2016
 
June 30, 2016
 
1,870

 
1,270

 
3,140

June 15, 2016
 
0.00164384

 
June 30, 2016 through July 28, 2016
 
July 31, 2016
 
1,652

 
1,115

 
2,767

June 15, 2016
 
0.00164384

 
July 29, 2016 through August 30, 2016
 
August 31, 2016
 
1,891

 
1,269

 
3,160

June 15, 2016
 
0.00164384

 
August 31, 2016 through September 29, 2016
 
September 30, 2016
 
1,725

 
1,158

 
2,883

September 30, 2016
 
0.00164384

 
September 30, 2016 through October 30, 2016
 
October 31, 2016
 
1,729

 
1,161

 
2,890

September 30, 2016
 
0.00164384

 
October 31, 2016 through November 29, 2016
 
November 30, 2016
 
1,769

 
1,225

 
2,994

September 30, 2016
 
0.00164384

 
November 30, 2016 through December 29, 2016
 
December 30, 2016
 
1,696

 
1,211

 
2,907

 
 
 
 
 
 
 
 
$
20,608

 
$
14,025

 
$
34,633


49


On December 15, 2016, the Company's Board of Directors approved distributions in an amount of $0.00164384 per share of common stock for stockholders of record each day in the period from December 30, 2016 through and including March 30, 2017, payable on January 31, 2017, February 28, 2017 and March 31, 2017.
The following is a reconciliation of total aggregate distributions to total distributions declared for the year ended December 31, 2016 (in thousands):
Total aggregate distributions paid
 
$
34,633

Less: distribution payable at December 31, 2015
 
(2,778
)
Add: distribution payable at December 31, 2016
 
8,769

Total distributions declared
 
$
40,624


Cash distributions paid since inception were as follows (in thousands, except per share data):
Fiscal Year paid
 
Per Common Share per Day
 
Distribution invested in shares of Common Stock
 
Net Cash Distribution
 
Total Aggregate Distribution
2014
 
$
0.00071223

 
$
215

 
$
114

 
$
329

2015
 
0.00164384

 
8,424

 
5,654

 
14,078

2016
 
0.00164384

 
20,608

 
14,025

 
34,633

 
 
 
 
$
29,247

 
$
19,793

 
$
49,040

Funds from Operations and Modified Funds from Operations
Funds from operations, or FFO, is a non-GAAP financial performance measure that is widely recognized as a measure of REIT operating performance.  We use FFO as defined by the National Association of Real Estate Investment Trusts to be net income (loss), computed in accordance with GAAP excluding extraordinary items, as defined by GAAP, and gains (or losses) from sales of property (including deemed sales and settlements of pre-existing relationships), plus depreciation and amortization on real estate assets, and after related adjustments for unconsolidated partnerships, joint ventures and subsidiaries and noncontrolling interests.  We believe that FFO is helpful to our investors and our management as a measure of operating performance because it excludes real estate-related depreciation and amortization, gains and losses from property dispositions, and extraordinary items, and as a result, when compared year to year, reflects the impact on operations from trends in occupancy rates, rental rates, operating costs, development activities, general and administrative expenses, and interest costs, which are not immediately apparent from net income.  Historical cost accounting for real estate assets in accordance with GAAP implicitly assumes that the value of real estate and intangibles diminishes predictably over time.  Since real estate values have historically risen or fallen with market conditions, many industry investors and analysts have considered the presentation of operating results for real estate companies that use historical cost accounting alone to be insufficient.  As a result, our management believes that the use of FFO, together with the required GAAP presentations, is helpful for our investors in understanding our performance.  Factors that impact FFO include start-up costs, fixed costs, delay in buying assets, lower yields on cash held in accounts, income from portfolio properties and other portfolio assets, interest rates on acquisition financing and operating expenses.  In addition, FFO will be affected by the types of investments in our targeted portfolio which will consist of, but are not limited to, commercial real estate assets, principally (i) underperforming multifamily rental properties which we will renovate and stabilize in order to increase rents, (ii) distressed real estate owned by financial institutions, usually as a result of foreclosure, and non-performing or distressed loans, including first- and second-priority mortgage loans and other loans which we will resolve, and (iii) performing loans, including first- and second-priority mortgage loans and other loans we originate or purchase either directly or with a co-investor or joint venture partner.    
Since FFO was promulgated, GAAP has adopted several new accounting pronouncements, such that management and many investors and analysts have considered the presentation of FFO alone to be insufficient. Accordingly, in addition to FFO, we use modified funds from operations, or MFFO, as defined by the IPA.  MFFO excludes from FFO the following items:
(1)
acquisition fees and expenses;
(2)
straight-line rent amounts, both income and expense;
(3)
amortization of above- or below-market intangible lease assets and liabilities;
(4)
amortization of discounts and premiums on debt investments;
(5)
impairment charges;
(6)
gains or losses from the early extinguishment of debt;

50


(7)
gains or losses on the extinguishment or sales of hedges, foreign exchange, securities and other derivatives holdings except where the trading of such instruments is a fundamental attribute of our operations;
(8)
gains or losses related to fair-value adjustments for derivatives not qualifying for hedge accounting, including interest rate and foreign exchange derivatives;
(9)
gains or losses related to consolidation from, or deconsolidation to, equity accounting;
(10)
gains or losses related to contingent purchase price adjustments; and
(11)
adjustments related to the above items for unconsolidated entities in the application of equity accounting.
We believe that MFFO is helpful in assisting management assess the sustainability of operating performance in future periods and, in particular, after our acquisition stage is complete, primarily because it excludes acquisition expenses that affect property operations only in the period in which the property is acquired.  Although MFFO includes other adjustments, the exclusion of acquisition expenses is the most significant adjustment to us at the present time, as we are currently in our acquisition stage.  Thus, MFFO provides helpful information relevant to evaluating our operating performance in periods in which there is no acquisition activity.    
As explained below, management’s evaluation of our operating performance excludes the items considered in the calculation based on the following economic considerations.  Many of the adjustments in arriving at MFFO are not applicable to us.  Nevertheless, we explain below the reasons for each of the adjustments made in arriving at our MFFO definition:
•
Acquisition expenses. In evaluating investments in real estate, including both business combinations and investments accounted for under the equity method of accounting, management’s investment models and analysis differentiate costs to acquire the investment from the operations derived from the investment. Prior to 2009, acquisition costs for both of these types of investments were capitalized under GAAP; however, beginning in 2009, acquisition costs related to business combinations are expensed.  Both of these acquisition costs have been and will continue to be funded from the proceeds of our offering and debt proceeds and not from operations.  We believe by excluding expensed acquisition costs, MFFO provides useful supplemental information that is comparable for each type of real estate investment and is consistent with management’s analysis of the investing and operating performance of our properties.  Acquisition expenses include those paid to our Advisor or third parties.
•
Adjustments for straight-line rents and amortization of discounts and premiums on debt investments.  In the proper application of GAAP, rental receipts and discounts and premiums on debt investments are allocated to periods using various systematic methodologies. This application will result in income recognition that could be significantly different than underlying contract terms. By adjusting for these items, MFFO provides useful supplemental information on the realized economic impact of lease terms and debt investments and aligns results with management’s analysis of operating performance.
•
Adjustments for amortization of above or below market intangible lease assets.  Similar to depreciation and amortization of other real estate related assets that are excluded from FFO, GAAP implicitly assumes that the value of intangibles diminishes predictably over time and that these charges be recognized currently in revenue.  Since real estate values and market lease rates in the aggregate have historically risen or fallen with market conditions, management believes that by excluding these charges, MFFO provides useful supplemental information on the performance of the real estate.
•
Impairment charges, gains or losses related to fair-value adjustments for derivatives not qualifying for hedge accounting and gains or losses related to contingent purchase price adjustments.  Each of these items relates to a fair value adjustment, which is based on the impact of current market fluctuations and underlying assessments of general market conditions and specific performance of the holding which may not be directly attributable to current operating performance.  As these gains or losses relate to underlying long-term assets and liabilities, management believes MFFO provides useful supplemental information by focusing on the changes in our core operating fundamentals rather than changes that may reflect anticipated gains or losses. In particular, because GAAP impairment charges are not allowed to be reversed if the underlying fair values improve or because the timing of impairment charges may lag the onset of certain operating consequences, we believe MFFO provides useful supplemental information related to current consequences, benefits and sustainability related to rental rate, occupancy and other core operating fundamentals.
•
Adjustment for gains or losses related to early extinguishment of hedges, debt, consolidation or deconsolidation and contingent purchase price.  Similar to extraordinary items excluded from FFO, these adjustments are not related to continuing operations.  By excluding these items, management believes that MFFO provides supplemental information related to sustainable operations that will be more comparable between other reporting periods and to other real estate operators.

51


By providing MFFO, we believe we are presenting useful information that also assists investors and analysts in the assessment of the sustainability of our operating performance after our acquisition stage is completed.  We also believe that MFFO is a recognized measure of sustainable operating performance by the real estate industry.  MFFO is useful in comparing the sustainability of our operating performance after our acquisition stage is completed with the sustainability of the operating performance of other real estate companies that are not as involved in acquisition activities or as affected by other MFFO adjustments.  However, investors are cautioned that MFFO should only be used to assess the sustainability of our operating performance after our acquisition stage is completed, as it excludes acquisition costs that have a negative effect on our operating performance and the reported book value of our common stock and stockholders’ equity during the periods in which properties are acquired.
Neither FFO nor MFFO should be considered as an alternative to net income (loss), nor as an indication of our liquidity, nor are any of these measures indicative of funds available to fund our cash needs, including our ability to fund distributions.  In particular, as we are currently in the acquisition phase of our life cycle, acquisition costs and other adjustments that are increases to MFFO are, and may continue to be, a significant use of cash.  Accordingly, FFO and MFFO should be reviewed in connection with other GAAP measurements.  Our FFO and MFFO as presented may not be comparable to amounts calculated by other REITs.
The following section presents our calculation of FFO and MFFO and provides additional information related to our operations. As a result of the timing of the commencement of our initial public offering and our active real estate operations and the general and administrative expenses incurred in connection with these events, FFO and MFFO are not relevant to a discussion comparing operations for the two periods presented.  We expect revenues and expenses to increase in future periods as we acquire additional investments.
 
Years Ended
 
December 31,
 
2016
 
2015
 
(in thousands)
Net loss – GAAP
$
(44,161
)
 
$
(22,172
)
Depreciation expense
21,870

 
5,120

FFO
(22,291
)
 
(17,052
)
Adjustments for straight-line rents
160

 
24

Fair value adjustment for cancelable swap
(283
)
 
359

Amortization of intangible lease assets
9,094

 
4,150

Acquisition costs
9,079

 
9,136

MFFO
$
(4,241
)
 
$
(3,383
)
 
 
 
 
Basic and diluted loss per common share - GAAP
$
(0.76
)
 
$
(0.92
)
FFO per share
$
(0.39
)
 
$
(0.70
)
MFFO per share
$
(0.07
)
 
$
(0.14
)
 
 
 
 
Weighted average shares outstanding
57,834

 
24,230

Critical Accounting Policies
We consider these policies critical because they involve significant management judgments and assumptions, they require estimates about matters that are inherently uncertain, and they are important for understanding and evaluating our reported financial results. These judgments affect the reported amounts of our assets and liabilities and our disclosure of contingent assets and liabilities on the dates of the financial statements and the reported amounts of revenue and expenses during the reporting periods. With different estimates or assumptions, materially different amounts could be reported in our financial statements. Additionally, other companies may utilize different estimates that may impact the comparability of our results of operations to those of companies in similar businesses.
Real Estate Assets
Depreciation
We make subjective assessments as to the useful lives of our depreciable assets. These assessments have a direct impact on our net income, because, if we were to shorten the expected useful lives of our investments in real estate, we would depreciate these investments over fewer years, resulting in more depreciation expense and lower net income on an annual basis throughout

52


the expected useful lives of these investments. We consider the period of future benefit of an asset to determine its appropriate useful life. The estimated useful lives of our assets by class are as follows:
Buildings
27.5 years
Building improvements
3-27.5 years
Tenant improvements
Expected useful life
Real Estate Purchase Price Allocation
We record above-market and below-market in-place lease values for acquired properties based on the present value (using an interest rate that reflects the risks associated with the leases acquired) of the difference between (i) the contractual amounts to be paid pursuant to the in-place leases and (ii) management's estimate of fair market lease rates for the corresponding in-place leases, measured over a period equal to the remaining non-cancelable term of the lease. We amortize any capitalized above-market or below-market lease values as an increase or reduction to rental income over the remaining non-cancelable terms of the respective leases, which we expect will range from one month to ten years.
We measure the aggregate value of other intangible assets acquired based on the difference between (i) the property valued with existing in-place leases adjusted to market rental rates and (ii) the property valued as if vacant. Management's estimates of value are expected to be made using methods similar to those used by independent appraisers (e.g., discounted cash flow analysis). Factors to be considered by management in its analysis include an estimate of carrying costs during hypothetical expected lease-up periods considering current market conditions and costs to execute similar leases.
We consider information obtained about each property as a result of our preacquisition due diligence, marketing and leasing activities in estimating the fair value of the tangible and intangible assets acquired. In estimating carrying costs, management also includes real estate taxes, insurance and other operating expenses and estimates of lost rentals at market rates during the expected lease-up periods. Management estimates costs to execute similar leases including leasing commissions and legal and other related expenses to the extent that such costs have not already been incurred in connection with a new lease origination as part of the transaction.
The total amount of other intangible assets acquired will be further allocated to customer relationship intangible values based on management's evaluation of the specific characteristics of each tenant's lease and our overall relationship with that respective tenant. Characteristics to be considered by management in allocating these values include the nature and extent of our existing business relationships with a tenant, growth prospects for developing new business with the tenant, the tenant's credit quality and expectations of lease renewals (including those existing under the terms of the lease agreement), among other factors.
We amortize the value of in-place leases to expense over the initial term of the respective leases. The value of customer relationship intangibles will be amortized to expense over the initial term but in no event will the amortization periods for the intangible assets exceed the remaining depreciable life of the building. Should a tenant terminate its lease, the unamortized portion of the in-place lease value and customer relationship intangibles would be charged to expense in that period.
Estimates of the fair values of the tangible and intangible assets will require us to estimate market lease rates, property operating expenses, carrying costs during lease-up periods, discount rates, market absorption periods, and the number of years the property will be held for investment. The use of inappropriate estimates would result in an incorrect assessment of our purchase price allocation, which would impact the amount of our net income.
Valuation of Real Estate Assets
We continually monitor events and changes in circumstances that could indicate that the carrying amounts of our real estate and related intangible assets may not be recoverable. When indicators of potential impairment suggest that the carrying value of real estate and related intangible assets may not be recoverable, we will assess the recoverability of the assets by estimating whether we will recover the carrying value of the asset through its undiscounted future cash flows and its eventual disposition. If based on this analysis we do not believe that we will be able to recover the carrying value of the asset, we will record an impairment loss to the extent that the carrying value exceeds the estimated fair value of the asset.
Projections of future cash flows require us to estimate the expected future operating income and expenses related to an asset as well as market and other trends. The use of inappropriate assumptions in our future cash flows analysis would result in an incorrect assessment of our assets' future cash flows and fair values and could result in the overstatement of the carrying values of our real estate assets and an overstatement of our net income.


53


Revenue Recognition
We recognize minimum rent, including rental abatements and contractual fixed increases attributable to operating leases, on a straight-line basis over the term of the related lease and we will include amounts expected to be received in later years in deferred rents. We record property operating expense reimbursements due from tenants for common area maintenance, real estate taxes and other recoverable costs in the period in which the related expenses are incurred.
We make estimates of the collectability of our tenant receivables in relation to base rents, including straight-line rentals, expense reimbursements and other revenue or income. We specifically analyze accounts receivable and historical bad debts, customer creditworthiness, current economic trends and changes in customer payment terms when evaluating the adequacy of the allowance for doubtful accounts. In addition, with respect to tenants in bankruptcy, we will make estimates of the expected recovery of pre-petition and post-petition claims in assessing the estimated collectability of the related receivable. In some cases, the ultimate resolution of these claims can exceed one year. These estimates have a direct impact on our net income because a higher bad debt reserve results in less net income.
The specific timing of a sale will be measured against various criteria related to the terms of the transaction and any continuing involvement associated with the property. If the criteria for profit recognition under the full-accrual method are not met, we will defer gain recognition and account for the continued operations of the property by applying the percentage-of-completion, reduced profit, deposit, installment or cost recovery methods, as appropriate, until the appropriate criteria are met.
Interest income from performing loans receivable are recognized based on the contractual terms of the loan agreement. Fees related to any buy-down of the interest rate will be deferred as prepaid interest income and amortized over the term of the loan as an adjustment to interest income. Closing costs related to the purchase of a performing loan held for investment will be amortized using effective yield method over the term of the loan and accreted as an adjustment against interest income.
Adoption of New Accounting Standards
In January 2015, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2015-01, "Income Statement - Extraordinary and Unusual Items (Subtopic 225-20), Simplifying Income Statement Presentation by Eliminating the Concept of Extraordinary Items". The amendments in ASU No. 2015-01 eliminate from GAAP the concept of extraordinary items. Although the amendment will eliminate the requirements for reporting entities to consider whether an underlying event or transaction is extraordinary, the presentation and disclosure guidance for items that are unusual in nature or occur infrequently will be retained and will be expanded to include items that are both unusual in nature and infrequently occurring. ASU No. 2015-01 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2015. On January 1, 2016, we adopted ASU 2015-01 and the adoption had no impact on our consolidated financial statements.
In February 2015, FASB issued ASU No. 2015-02, "Consolidation (Topic 810): Amendments to the Consolidation Analysis", which makes certain changes to both the variable interest model and the voting model, including changes to (1) the identification of variable interests (fees paid to a decision maker or service provider), (2) the variable interest entity characteristics for a limited partnership or similar entity and (3) the primary beneficiary determination. ASU 2015-02 is effective for ua beginning January 1, 2016. On January 1, 2016, we adopted ASU 2015-02 and the adoption had no impact on our consolidated financial statements.
In April 2015, FASB issued ASU No. 2015-03, "Simplifying the Presentation of Debt Issuance Costs", which requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. The recognition and measurement guidance for debt issuance costs are not affected. We applied the new guidance on a retrospective basis and adjusted the balance sheet of each individual period presented to reflect the period-specific effects of applying the new guidance. This guidance was effective and was adopted by us on January 1, 2016. Accordingly, we have has reclassified $2.5 million of unamortized debt issuance costs at December 31, 2015 from assets to liabilities as a direct reduction of the related mortgage notes payable.
In September 2015, FASB issued ASU 2015-16, "Simplifying the Accounting for Measurement-Period Adjustments", which eliminates the requirement to retroactively revise comparative financial information for prior periods presented in financial statements due to changes in provisional amounts recorded for acquisitions in subsequent periods. Upon adoption, disclosure of the amounts recorded in current-period earnings that would have been recorded in previous reporting periods if the adjustment to the provisional amounts had been recognized at the acquisition date are required. ASU 2015-16 was effective and adopted by us on January 1, 2016 and the adoption had no impact on our consolidated financial statements.
          
In August 2014, FASB issued ASU No. 2014-15, "Presentation of Financial Statements-Going Concern (Subtopic 205-40): Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern." Under the new guidance, an entity should evaluate whether there are conditions or events, considered in the aggregate, that raise substantial doubt about the

54


entity’s ability to continue as a going concern within one year after the date that the financial statements are issued. The guidance is effective for the annual period ending after December 15, 2016, and for annual periods and interim periods thereafter. The adoption of the new requirements did not have an impact on our consolidated financial statements.

Accounting Standards Issued But Not Yet Effective

In May 2014, FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers”, which will replace most existing revenue recognition guidance in GAAP. The core principle of ASU No. 2014-09 is that an entity should recognize revenue for the transfer of goods or services equal to the amount that it expects to be entitled to receive for those goods or services. ASU No. 2014-09 requires additional disclosure about the nature, amount, timing and uncertainty of revenue and cash flows arising from customer contracts, including significant judgments and changes in judgments. ASU No. 2014-09 will be effective for us beginning January 1, 2018, including interim periods in 2018, and allows for both retrospective and prospective methods of adoption. In accordance with our plan for the adoption of ASU 2014-09, we have identified revenue streams and are performing an in-depth review to identify the related performance obligations and to evaluate the impact on our consolidated financial statements and internal accounting processes and controls. As the majority of the our revenues are derived from lease contracts, we do not expect that the adoption of ASU 2014-09 or related amendments and modifications issued by FASB will have a material impact on our consolidated financial statements.

In February 2016, FASB issued ASU No. 2016-02, "Leases", which is intended to improve financial reporting about leasing transactions and requires organizations that lease assets to recognize on the balance sheet the assets and liabilities for the rights and obligations created by those leases. ASU No. 2016-02 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. We are is continuing to evaluate this guidance; however, we do not expect the adoption of ASU No. 2016-02 to have a significant impact on our consolidated financial statements.
In August 2016, FASB issued ASU No. 2016-15 "Classification of Certain Cash Receipts and Cash Payments", which addresses eight specific cash flow issues with the objective of reducing existing diversity in practice.  The guidance is effective for us as of January 1, 2018. Early application is permitted. The adoption of the new requirements is not expected to have a material impact on the reporting of our consolidated cash flows. 
Off-Balance Sheet Arrangements
As of December 31, 2016 and 2015, we did not have any off-balance sheet arrangements or obligations.
Subsequent Events
On January 31, 2017, the Company entered into a $38.3 million secured mortgage loan with CBRE Capital Markets, Inc. (the "Woods at Burnsville Loan"), secured by The Woods at Burnsville. The Woods at Burnsville Loan, which matures on February 1, 2024, bears interest at a floating rate of one-month LIBOR plus 2.13%. Monthly payments are initially interest only. Beginning with the March 2019 payment, monthly payments will include interest and principal, which based on current rates, amounts to approximately $159,200 per month.
On March 28, 2017, the Board of Directors approved the following distributions: daily accrual amount of $0.00164384 per shareof common stock for the period from March 31, 2017 through and including June 29, 2017, payable on April 28, 2017, May 31, 2017 and June 30, 2017.

ITEM 7A.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Omitted as permitted under rules applicable to smaller reporting companies.

55



ITEM 8.
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
See the Index to Financial Statements at page F-1 of this Annual Report on Form 10-K.
ITEM 9.
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
There were no disagreements with our independent registered public accountants during the year ended December 31, 2016.
ITEM 9A.
CONTROLS AND PROCEDURES
Disclosure Controls and Procedures
As of the end of the period covered by this report, management, including our chief executive officer and chief financial officer, evaluated the effectiveness of the design and operation of our disclosure controls and procedures. Based upon, and as of the date of, the evaluation, our chief executive officer and chief financial officer concluded that the disclosure controls and procedures were effective as of the end of the period covered by this report to ensure that information required to be disclosed in the reports we file and submit under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), (i) is recorded, processed, summarized and reported as and when required and (ii) is accumulated and communicated to our management, including our chief executive officer and our chief financial officer, as appropriate to allow timely decisions regarding required disclosure.
Management's Report on Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Projections of any evaluation of effectiveness to future periods are subject to the risks that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Our management assessed the effectiveness of our internal control over financial reporting as of December 31, 2016. In making this assessment, management used the criteria set forth in the 2013 version of the Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based upon this assessment, management believes that our internal control over financial reporting is effective as of December 31, 2016.
Changes in Internal Control over Financial Reporting
There has been no change in our internal control over financial reporting that occurred in the quarter ended December 31, 2016 that has materially affected, or is reasonable likely to materially affect, our internal control over financial reporting.

ITEM 9B.
OTHER INFORMATION

                On March 28, 2017, David E. Bloom, our Senior Vice President, offered our Board his resignation as an officer of our Company. Mr. Bloom’s decision was based on his determination that he will be unable to devote the necessary time and attention to Company matters, and was not a result of any disagreements with us on any matter relating to its operations, policies or practices.

On March 28, 2017, our board of directors adopted the Third Amended and Restated Share Redemption Program (the “Third Amended SRP”).  The Third Amended SRP provides that the price at which shares will be redeemed in connection with a stockholder’s death, qualifying disability or confinement to a long-term care facility will be equal to our most recent net asset value (“NAV”) per share of our common stock.  The Third Amended SRP also provides that the effective date of any redemption will be no earlier than the last day of the calendar month preceding the quarterly determination by our board of directors of the availability of funds for redemption.  The other terms of the Third Amended SRP are consistent with the terms of the Second Amended and Restated Share Redemption Program currently in effect.  The Third Amended SRP will become effective on April 29, 2017.


56


PART III

ITEM 10.
DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
Code of Conduct and Ethics
We have adopted a Code of Conduct and Ethics that applies to all of our executive officers and directors, including but not limited to, our chief executive officer and chief financial officer. Our Code of Conduct and Ethics may be found at http://www.resourcereit2.com, on the Prospectus/SEC Filings page.
The other information required by this Item is incorporated by reference from our 2017 Proxy Statement.
ITEM 11.
EXECUTIVE COMPENSATION
The information required by this Item is incorporated by reference from our 2017 Proxy Statement.
ITEM 12.
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
The information required by this Item is incorporated by reference from our 2017 Proxy Statement.
ITEM 13.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
The information required by this Item is incorporated by reference from our 2017 Proxy Statement.
ITEM 14.
PRINCIPAL ACCOUNTING FEES AND SERVICES
The information required by this Item is incorporated by reference from our 2017 Proxy Statement.

57


PART IV

ITEM 15.
EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
The following documents are filed as part of this Annual Report on Form 10-K:
(a)
Financial Statements
1.
See the Index to Consolidated Financial Statements at page F-1 of this report.
(b)
Financial Statement Schedules
i.
Schedule III Real Estate and Accumulated Depreciation

(c)
Exhibits
Exhibit No.
 
Description
3.1
 
Amended and Restated Articles of Incorporation (incorporated by reference to Exhibit 3.1 to the Company’s Pre-Effective Amendment No. 3 to the Registration Statement on Form S-11 (No. 333-184476) filed December 20, 2013)
3.2
 
Bylaws (incorporated by reference to Exhibit 3.2 to the Company’s Registration Statement on Form S-11 (No. 333-184476) filed October 17, 2012)
4.1
 
Statement regarding restrictions on transferability of shares of common stock (to appear on stock certificate or to be sent upon request and without charge to stockholders issued shares without certificates) (incorporated by reference to the Company’s Registration Statement on Form S-11 (No. 333-184476) filed October 17, 2012)
4.2
 
Amended and Restated Distribution Reinvestment Plan (incorporated by reference to Appendix A to the prospectus included in the Company’s Post-Effective Amendment no. 9 to the Registration Statement on Form S-11 on Form S-3 (No. 333-184476) filed February 16, 2016)

10.1
 
Amended and Restated Advisory Agreement (incorporated by reference to Exhibit 10.1 to the Company’s Pre-Effective Amendment no. 4 to the Registration Statement on Form S-11 (No. 333-184476) filed January 24, 2014)
10.2
 
Dealer Manager Agreement, including Form of Selected Dealer Agreement and Form of Placement Agreement (incorporated by reference to Exhibit 1.1 to the Company’s Post-Effective Amendment no. 2 to the Registration Statement on Form S-11 (No. 333-184476) filed October 28, 2014)
10.3
 
Management Agreement by and among Resource Real Estate Opportunity REIT II, Inc., RRE Opportunity OP II, LP and Resource Real Estate Opportunity Manager II, LLC, dated December 20, 2013 (incorporated by reference to Exhibit 10.3 to the Company's Annual Report on Form 10-K filed March 30, 2015).
10.4
 
Second Amendment to Amended and Restated Advisory Agreement between Resource Real Estate Opportunity REIT II, Inc. and Resource Real Estate Opportunity Advisor II, LLC, dated March 24, 2015 (incorporated by reference to Exhibit 10.10 to the Company's Annual Report on Form 10-K filed March 30, 2015).
10.15
 
Renewal Agreement by and between Resource Real Estate Opportunity REIT II, Inc. and Resource Real Estate Opportunity Advisor II, LLC, dated December 20, 2015 (incorporated by reference Exhibit 10.14 to the Company's Annual Report on Form 10-K filed March 30, 2016)
10.6
 
Renewal Agreement by and between Resource Real Estate Opportunity REIT II, Inc. and Resource Real Estate Opportunity Advisor II, LLC, dated December 20, 2016
10.7
 
Promissory Note by RRE Canterwood Holdings, LLC in favor of Allstate Life Insurance Company, dated April 14, 2016 (incorporated by reference to Exhibit 10.1 to the Company’s Quarterly Report on Form 10-Q filed November 14, 2016)
10.8
 
Promissory Note by RRE Fox Ridge Holdings, LLC in favor of Allstate Life Insurance Company, dated April 14, 2016 (incorporated by reference to Exhibit 10.2 to the Company’s Quarterly Report on Form 10-Q filed November 14, 2016)
10.9
 
Agreement of Purchase and Sale Breckenridge Apartments by and between Holland Breckenridge Apartment Homes, LLC and RRE Opportunity OP II, LP, dated April 25, 2016 (incorporated by reference to Exhibit 10.3 to the Company’s Quarterly Report on Form 10-Q filed November 14, 2016)
10.1
 
Purchase and Sale Agreement by and between RRE Opportunity OP II, LP and Dallas Santa Rosa-476, Inc., dated May 31, 2016 (incorporated by reference to Exhibit 10.4 to the Company’s Quarterly Report on Form 10-Q filed November 14, 2016)

58


21.1
 
Subsidiaries of the Company
23.1
 
Consent of Grant Thornton
31.1
 
Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2
 
Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1
 
Certification of Chief Executive Officer pursuant to Section 1350 18 U.S.C., as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2
 
Certification of Chief Financial Officer pursuant to Section 1350 18 U.S.C., as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
99.1
 
Second Amended and Restated Share Redemption Program (incorporated by reference to Exhibit 99.1 to the Company’s Current Report on Form 8-K filed February 27, 2015)
99.2
 
Consent of Duff & Phelps
99.3
 
Third Amended and Restated Share Redemption Program
101.1
 
The following information from the Company's Quarterly Report on Form 10-K for the year ended December 31, 2016, formatted in XBRL (eXtensible Business Reporting Language): (i) Consolidated Balance Sheets; (ii) Consolidated Statements of Operations and Comprehensive (Loss) Income; (iii) Consolidated Statements of Changes in Stockholders' Equity; and (iv) Consolidated Statements of Cash Flows




59


SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
 
 
March 30, 2017
By:           /s/ Alan F. Feldman
 
Alan F. Feldman
 
Chief Executive Officer and Director

Pursuant to the requirements of the Securities Act of 1933, this report has been signed below by the following persons
on behalf of the registrant and in the capacities and on the dates indicated.
/s/ George Carleton
Director
March 30, 2017
GEORGE CARLETON
 
 
 
 
 
/s/ Gary Lichtenstein
Director
March 30, 2017
GARY LICHTENSTEIN
 
 
 
 
 
/s/ Thomas J. Ikeler
Director
March 30, 2017
THOMAS J. IKELER
 
 
 
 
 
/s/ David Spoont
Director
March 30, 2017
DAVID SPOONT
 
 
 
 
 
/s/ Alan F. Feldman
Chief Executive Officer and Director
March 30, 2017
ALAN F. FELDMAN
(Principal Executive Officer)
 
 
 
 
/s/ Steven R. Saltzman
Chief Financial Officer, Senior Vice President and Treasurer
March 30, 2017
STEVEN R. SALTZMAN
(Principal Financial Officer and Principal Accounting Officer)
 


60



INDEX TO CONSOLIDATED FINANCIAL STATEMENTS



61


REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Board of Directors and Stockholders
Resource Real Estate Opportunity REIT II, Inc.
We have audited the accompanying consolidated balance sheets of Resource Real Estate Opportunity REIT II, Inc. (a Maryland corporation) and subsidiaries (the “Company”) as of December 31, 2016 and 2015, and the related consolidated statements of operations and comprehensive loss, changes in stockholders' equity, and cash flows for each of the two years in the period ended December 31, 2016. Our audits of the basic consolidated financial statements included the financial statement schedule listed in the index appearing under Item 15(b). These financial statements and financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform an audit of the Company's internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. 
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Resource Real Estate Opportunity REIT II, Inc. and subsidiaries as of December 31, 2016 and 2015, and the results of their operations and their cash flows for each of the two years in the period ended December 31, 2016 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the related financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.

/s/ GRANT THORNTON LLP

Philadelphia, Pennsylvania

March 30, 2017


RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)

 
 
December 31,
 
 
2016
 
2015
ASSETS
 
 
 
 
Investments:
 
 
 
 
Rental properties, net
 
$
754,588

 
$
388,157

Identified intangible assets, net
 
2,689

 
3,882

Total investments
 
757,277

 
392,039

 
 
 
 
 
Cash
 
104,889

 
180,826

Restricted cash
 
6,620

 
3,901

Tenant receivables
 
68

 
17

Due from related parties
 
604

 
363

Subscriptions receivable
 
—

 
7,614

Prepaid expenses and other assets
 
1,852

 
2,260

Deferred offering costs
 
—

 
1,937

Total assets
 
$
871,310

 
$
588,957

 
 
 
 
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
 
Liabilities:
 
 
 
 
Mortgage notes payable, net
 
$
455,361

 
$
152,917

Accounts payable and accrued expenses
 
11,997

 
5,942

Due to related parties
 
2,648

 
6,035

Tenant prepayments
 
546

 
314

Security deposits
 
1,097

 
572

Distribution payable
 
8,769

 
2,778

Derivative liability
 
—

 
127

Total liabilities
 
480,418

 
168,685

 
 
 
 
 
Stockholders’ equity:
 
 
 
 
Preferred stock (par value $.01, 10,000,000 shares authorized, none issued and outstanding)
 
—

 
—

Convertible stock (par value $.01; 50,000 shares authorized, 50,000 issued and outstanding)
 
1

 
1

Common stock (par value $.01; 1,000,000,000 shares authorized, 59,160,177 and 52,696,985 issued and outstanding, respectively)
 
591

 
526

Additional paid-in capital
 
520,746

 
465,449

Accumulated other comprehensive loss
 
(74
)
 
(117
)
Accumulated deficit
 
(130,372
)
 
(45,587
)
Total stockholders’ equity
 
390,892

 
420,272

Total liabilities and stockholders’ equity
 
$
871,310

 
$
588,957

 




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

F- 2


RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
(in thousands, except per share data)

 
Years Ended
 
December 31,
 
2016
 
2015
Revenues:
 
 
 
Rental income
$
52,928

 
$
14,661

Total revenues
52,928

 
14,661

 
 
 
 
Expenses:
 
 
 
Rental operating
25,467

 
8,235

Acquisition costs
9,079

 
9,136

Management fees
9,235

 
2,435

General and administrative
9,272

 
3,690

Loss on disposal of assets
2,516

 
1,680

Depreciation and amortization expense
30,964

 
9,270

Total expenses
86,533

 
34,446

Loss before other income (expense)
(33,605
)
 
(19,785
)
 
 
 
 
Other income (expense):
 
 
 
Interest income
209

 
129

Insurance proceeds in excess of cost basis
185

 
—

Interest expense
(10,950
)
 
(2,516
)
Net loss
(44,161
)
 
(22,172
)
 
 
 
 
Other comprehensive loss:
 
 
 
Designated derivatives, fair value adjustment
43

 
(82
)
Comprehensive loss
$
(44,118
)
 
$
(22,254
)
 
 
 
 
Weighted average common shares outstanding
57,834

 
24,230

 
 
 
 
Basic and diluted net loss per common share
$
(0.76
)
 
$
(0.92
)

















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

F- 3


 
RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY
FOR THE YEARS ENDED DECEMBER 31, 2016 AND 2015
(in thousands)

 
 
Common Stock
 
Convertible Stock
 
Additional
Paid-in Capital
 
Accumulated
Other
Comprehensive
Loss
 
Accumulated
Deficit
 
 
 
 
Shares
 
Amount
 
Shares
 
Amount
 
 
 
 
Total
Balance at January 1, 2015
 
4,760

 
$
48

 
50

 
$
1

 
$
42,148

 
$
(35
)
 
$
(4,549
)
 
$
37,613

Issuance of stock
 
46,829

 
467

 
—

 
—

 
466,516

 
—

 
—

 
466,983

Distributions of common stock
 
227

 
3

 
—

 
—

 
2,265

 
—

 
(2,268
)
 
—

Offering costs
 
—

 
—

 
—

 
—

 
(53,841
)
 
—

 
—

 
(53,841
)
Common stock issued through distribution reinvestment plan
 
887

 
9

 
—

 
—

 
8,416

 
—

 
—

 
8,425

Distributions declared
 
—

 
—

 
—

 
—

 
— 

 
—

 
(16,598
)
 
(16,598
)
Common stock redemptions
 
(6
)
 
(1
)
 
—

 
—

 
(55
)
 
—

 
—

 
(56
)
Designated derivative, fair value adjustment
 
—

 
—

 
—

 
—

 
—

 
(82
)
 
—

 
(82
)
Net loss
 
—

 
—

 
—

 
—

 
—

 
—

 
(22,172
)
 
(22,172
)
Balance at December 31, 2015
 
52,697

 
526

 
50

 
1

 
465,449

 
(117
)
 
(45,587
)
 
420,272

Issuance of common stock
 
4,259

 
43

 
—

 
—

 
42,423

 
—

 
—

 
42,466

Offering costs
 
—

 
—

 
—

 
—

 
(6,263
)
 
—

 
—

 
(6,263
)
Common stock issued through distribution reinvestment plan
 
2,371

 
24

 
—

 
—

 
20,584

 
—

 
—

 
20,608

Distributions declared
 
—

 
—

 
—

 
—

 
—

 
—

 
(40,624
)
 
(40,624
)
Common stock redemptions
 
(167
)
 
(2
)
 
—

 
—

 
(1,447
)
 
—

 
—

 
(1,449
)
Designated derivatives, fair value adjustment
 
—

 
—

 
—

 
—

 
—

 
43

 
—

 
43

Net loss
 
—

 
—

 
—

 
—

 
—

 
—

 
(44,161
)
 
(44,161
)
Balance, at December 31, 2016
 
59,160

 
$
591

 
50

 
$
1

 
$
520,746

 
$
(74
)
 
$
(130,372
)
 
$
390,892
















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

F- 4


RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS


 
 
Years Ended 
 December 31,
 
 
2016
 
2015
Cash flows from operating activities:
 
 
 
 
Net loss
 
$
(44,161
)
 
$
(22,172
)
Adjustments to reconcile net loss to net cash (used in) provided by operating activities:
 
 
 
 
Loss on disposal of assets
 
2,516

 
1,680

Depreciation and amortization
 
30,964

 
9,270

Amortization of deferred financing costs
 
737

 
294

Amortization of mortgage premiums
 
(121
)
 
(51
)
Change in fair value of interest rate swap
 
(170
)
 
127

Changes in operating assets and liabilities:
 
 
 
 
Restricted cash
 
(1,301
)
 
(1,769
)
Tenant receivables
 
(51
)
 
(12
)
Due from related parties
 
(241
)
 
(329
)
Prepaid expenses and other assets
 
2,479

 
(916
)
Due to related parties
 
(1,450
)
 
2,166

Accounts payable and accrued expenses
 
4,657

 
3,705

Tenant prepayments
 
173

 
257

Security deposits
 
(57
)
 
10

Net cash (used in) provided by operating activities
 
(6,026
)
 
(7,740
)
 
 
 
 
 
Cash flows from investing activities
 
 
 
 
Property acquisitions
 
(339,080
)
 
(315,453
)
Capital expenditures
 
(31,334
)
 
(9,359
)
Restricted cash - capital reserves
 
(676
)
 
—

Net cash (used in) provided by investing activities
 
(371,090
)
 
(324,812
)
 
 
 
 
 
Cash flows from financing activities:
 
 
 
 
Proceeds from issuance of common stock, net of redemptions
 
48,632

 
463,135

Payment of deferred financing costs
 
(3,908
)
 
(2,180
)
Increase in borrowings
 
278,627

 
102,300

Repayments on borrowings
 
(1,657
)
 
(7,593
)
Purchase of interest rate caps
 
(227
)
 
(110
)
Distributions paid on common stock
 
(14,025
)
 
(5,654
)
Offering costs
 
(6,263
)
 
(52,301
)
Net cash (used in) provided by financing activities
 
301,179

 
497,597

 
 
 
 
 
Net (decrease) increase in cash
 
(75,937
)
 
165,045

Cash at beginning of year
 
180,826

 
15,781

Cash at end of year
 
$
104,889

 
$
180,826


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


F- 5

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2016



NOTE 1 - NATURE OF BUSINESS AND OPERATIONS
Resource Real Estate Opportunity REIT II, Inc. (the “Company”) was organized in Maryland on September 28, 2012. The Company offered up to 100,000,000 shares of common stock in its primary initial public offering for $10 per share, with volume discounts available to investors who purchased $1.0 million or more of shares through the same participating broker-dealer. Discounts were also available for other categories of investors. The Company continues to offer up to 10,000,000 shares pursuant to the Company’s distribution reinvestment plan at a purchase price equal to $8.65 per share ($8.56 per share prior to March 31, 2017). The Company has adopted a fiscal year ending December 31. On February 6, 2014, the Securities and Exchange Commission (the “SEC”) declared effective the Company's Registration Statement on Form S-11, as amended (Commission File No. 333-184476) (the “Registration Statement”), relating to the offering of up to 110,000,000 shares of the Company’s common stock, including shares offered pursuant to the Company's distribution reinvestment plan. The primary portion of the offering closed on February 10, 2016.
Resource Real Estate Opportunity Advisor II, LLC (the "Advisor”) is a wholly owned subsidiary of Resource Real Estate, Inc. (the "Sponsor") and an indirect wholly owned subsidiary of Resource America, Inc. (“RAI”), operating in the real estate, financial fund management and commercial finance sectors. The Advisor acts as the Company's external advisor and manages the Company's day-to-day operations and its portfolio of real estate investments and provides asset-management, marketing, investor relations and other administrative services on the Company's behalf, all subject to the supervision of the Company's Board of Directors. On October 9, 2012, the Advisor contributed $200,000 to the Company in exchange for 20,000 shares of common stock. On December 20, 2013, the Advisor received 50,000 shares of convertible stock in exchange for 5,000 shares of the Company’s common stock. The Advisor purchased an additional 117,778 shares of common stock in 2016 for $1.1 million.

On September 8, 2016, RAI was acquired by C-III Capital Partners, LLC ("C-III"), a leading commercial real estate
services company engaged in a broad range of activities. C-III controls our Advisor and Resource Real Estate Opportunity Manager II, LLC, the Company's property manager. C-III also controls all of the shares of the Company's common stock held by RAI and our Advisor.
As of December 31, 2016, a total of 59,160,177 shares, including shares purchased by the Advisor and shares issued through the distribution reinvestment plan, have been issued in connection with the Company's public offering resulting in gross offering proceeds of $584.1 million. As of December 31, 2016, the Company had issued 3,280,313 shares for $29.2 million pursuant to its distribution reinvestment plan.
The Company’s objective is to take advantage of the Sponsor's dedicated multifamily investing and lending platforms to invest in multifamily assets across the entire spectrum of investments in order to provide stockholders with growing cash flow and increasing asset values. The Company has acquired and may continue to acquire (i) underperforming multifamily rental properties which the Company will renovate and stabilize in order to increase rents, (ii) distressed real estate owned by financial institutions, usually as a result of foreclosure, and non-performing or distressed loans, including first- and second-priority mortgage loans and other loans which the Company will resolve, and (iii) performing loans, including first- and second-priority mortgage loans and other loans the Company originates or purchases either directly or with a co-investor or joint venture partner.
The Company elected to be taxed as a real estate investment trust (“REIT”) for U.S. federal income tax purposes under the provisions of the Internal Revenue Code of 1986, as amended, commencing with its taxable year ended December 31, 2014. As such, to maintain its REIT qualification for U.S. federal income tax purposes, the Company is generally required to distribute at least 90% of its taxable net income (excluding net capital gains) to its stockholders as well as comply with certain other requirements. Accordingly, the Company generally will not be subject to U.S. federal income taxes to the extent that it annually distributes at least 90% of its REIT taxable net income to its stockholders. The Company also intends to operate its business in a manner that will permit it to maintain its exemption from registration under the Investment Company Act of 1940, as amended.


F- 6

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

The accompanying consolidated financial statements have been prepared in conformity with the accounting principles
generally accepted in the United States of America ("GAAP").
Principles of Consolidation
The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries as follows:
Subsidiary
 
Apartment Complex
 
Number of Units
 
Property Location
RRE Opportunity Holdings II, LLC
 
N/A
 
N/A
 
N/A
RRE Opportunity OP II, LP
 
N/A
 
N/A
 
N/A
RRE Bear Creek Holdings, LLC, or Bear Creek
 
Adair off Addison
 
152
 
Dallas, TX
RRE Oak Hill Holdings, LLC, or Oak Hill
 
Overton Trails Apartment Homes
 
360
 
Fort Worth, TX
RRE Buckhead Holdings, LLC, or Buckhead
 
Uptown Buckhead
 
216
 
Atlanta, GA
RRE Farrington Holdings, LLC, or Farrington
 
Crosstown at Chapel Hill
 
411
 
Chapel Hill, NC
RRE Mayfair Chateau Holdings, LLC, or Mayfair Chateau
 
The Brookwood
 
274
 
Homewood, AL
RRE Fairways of Bent Tree Holdings, LLC, or Fairways of Bent Tree
 
Adair off Addison Apartment Homes
 
200
 
Dallas, TX
RRE Montclair Terrace Holdings, LLC, or Montclair Holdings
 
Montclair
 
188
 
Portland, OR
RRE Spalding Crossing Holdings, LLC, or Spalding Crossing
 
1000 Spalding Crossing
 
252
 
Atlanta, GA
RRE Grand Reserve Holdings, LLC, or Grand Reserve
 
Grand Reserve
 
319
 
Naperville, IL
RRE Canterwood Holdings, LLC, or Canterwood
 
Verdant Apartment Homes
 
216
 
Boulder, CO
RRE Fox Ridge Holdings, LLC, or Fox Ridge
 
Arcadia Apartment Homes
 
300
 
Centennial, CO
RRE Riverlodge Holdings, LLC, or Riverlodge
 
Riverlodge
 
498
 
Austin, TX
RRE Breckenridge Holdings, LLC, or Breckenridge
 
Breckenridge
 
357
 
Portland, OR
RRE Santa Rosa Holdings, LLC, or Santa Rosa
 
Santa Rosa
 
476
 
Irving, TX
RRE Windbrooke Holdings, LLC, or Windbrooke Crossing
 
Windbrooke Crossing
 
236
 
Buffalo Grove, IL
RRE Woods Holdings, LLC, or The Woods of Burnsville
 
The Woods of Burnsville
 
400
 
Burnsville, MN
    
N/A - Not Applicable
All intercompany accounts and transactions have been eliminated in consolidation.
Segment Reporting
The Company does not evaluate performance on a relationship specific or transactional basis and does not distinguish its principal business or group its operations on a geographical basis for purposes of measuring performance. Accordingly, the Company believes it has a single operating segment for reporting purposes in accordance with GAAP.


F- 7

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



Use of Estimates
The preparation of the consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates.
Concentration of Credit Risk
Financial instruments, which potentially subject the Company to concentration of credit risk, consist of periodic temporary deposits of cash. At December 31, 2016, the Company had $112.1 million of deposits at various banks, $105.2 million of which was greater than the insurance limit of the Federal Deposit Insurance Corporation. No losses have been experienced on such deposits.
Real Estate Investments
The Company records acquired real estate at fair value. The Company considers the period of future benefit of an asset to determine its appropriate useful life. The Company's estimated useful lives of its assets by class are as follows:
Buildings
27.5 years
Building improvements
3.0 to 27.5 years
Tenant improvements
Expected useful life
Lease intangibles
Remaining term of related lease
As four of the Company's multifamily properties are located in the Dallas-Fort Worth area, two properties are located in Portland, Oregon, two properties are located in the Atlanta area and two properties are located in the Denver area, the Company's portfolio is currently particularly susceptible to adverse economic developments in these real estate markets. Any adverse economic or real estate developments in these markets, such as business layoffs or downsizing, industry slowdowns, relocations of businesses, changing demographics and other factors, or any decrease in demand for multifamily rentals resulting from the local business climate, could negatively affect the Company's liquidity and adversely affect its ability to fund its ongoing operations.
Impairment of Long Lived Assets
When circumstances indicate the carrying value of a property may not be recoverable, the Company reviews the asset for impairment. This review is based on an estimate of the future undiscounted cash flows, excluding interest charges, expected to result from the property’s use and eventual disposition. These estimates consider factors such as expected future operating income, market and other applicable trends and residual value, as well as the effects of leasing demand, competition and other factors.
If impairment exists, due to the inability to recover the carrying value of a property, an impairment loss will be recorded to the extent that the carrying value exceeds the estimated fair value of the property for properties to be held and used. For properties held for sale, the impairment loss is the adjustment to fair value less estimated cost to dispose of the asset. These assessments have a direct impact on net income because recording an impairment loss results in an immediate negative adjustment to net income. The Company did not recognize any impairment charges during the year ended December 31, 2016.
Allocation of Purchase Price of Acquired Assets
Upon the acquisition of real properties, the Company allocates the purchase price of properties to acquired tangible assets, consisting of land, buildings, fixtures and improvements, identified intangible lease assets, consisting of the value of above-market and below-market leases, as applicable, the value of in-place leases, the value of tenant relationships, and liabilities, based in each case on their fair values.
Fair value estimates are based on information obtained from a number of sources, including information obtained about each property as a result of pre-acquisition due diligence, marketing and leasing activities. In addition, the Company may obtain independent appraisal reports. The information in the appraisal reports, along with the aforementioned information available to the Company's management, is used in allocating the purchase price. The independent appraisers have no involvement in management's allocation decisions other than providing market information.

F- 8

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



The Company records above-market and below-market in-place lease values for acquired properties based on the present value (using an interest rate that reflects the risks associated with the leases acquired) of the difference between (i) the contractual amounts to be paid pursuant to the in-place leases and (ii) management’s estimate of fair market lease rates for the corresponding in-place leases, measured over a period equal to the remaining non-cancelable term of the lease. The Company amortizes any capitalized above-market or below-market lease values as an increase or reduction to rental income over the remaining non-cancelable terms of the respective leases.
The Company measures the aggregate value of other intangible assets acquired based on the difference between (i) the property valued with existing in-place leases adjusted to market rental rates and (ii) the property valued as if vacant. Management’s estimates of value are expected to be made using methods similar to those used by independent appraisers (e.g., discounted cash flow analysis). Factors to be considered by management in its analysis include an estimate of carrying costs during hypothetical expected lease-up periods considering current market conditions and costs to execute similar leases.
In estimating carrying costs, management includes real estate taxes, insurance and other operating expenses and estimates of lost rentals at market rates during the expected lease-up periods. Management also estimates costs to execute similar leases including leasing commissions and legal and other related expenses to the extent that such costs have not already been incurred in connection with a new lease origination as part of the transaction.
The total amount of other intangible assets acquired is further allocated to customer relationship intangible values based on management’s evaluation of the specific characteristics of each tenant’s lease and the Company’s overall relationship with that respective tenant. Characteristics considered by management in allocating these values include the nature and extent of the Company’s existing business relationships with the tenant, growth prospects for developing new business with the tenant, the tenant’s credit quality and expectations of lease renewals (including those existing under the terms of the lease agreement), among other factors.
The Company amortizes the value of in-place leases to expense over the remaining term of the respective leases. The value of customer relationship intangibles is amortized to expense over the initial term and any renewal periods in the respective leases, but in no event do amortization periods for the intangible assets exceed the remaining depreciable life of the building. Should a tenant terminate its lease, the unamortized portion of the in-place lease value and customer relationship intangibles would be charged to expense in that period.
The determination of the fair value of the assets and liabilities acquired requires the use of significant assumptions with regard to current market rental rates, discount rates and other variables. These estimates are subject to change until all information is finalized, which is generally within one year of the acquisition date.
Revenue Recognition
The Company recognizes minimum rent, including rental abatements and contractual fixed increases attributable to operating leases, on a straight-line basis over the term of the related lease and includes amounts expected to be received in later years in deferred rents. The Company records property operating expense reimbursements due from tenants for common area maintenance, real estate taxes and other recoverable costs in the period the related expenses are incurred.
The specific timing of a sale is measured against various criteria related to the terms of the transaction and any continuing involvement associated with the property. If the criteria for profit recognition under the full-accrual method are not met, the Company defers the gain recognition and accounts for the continued operations of the property by applying the percentage-of-completion, reduced profit, deposit, installment or cost recovery methods, as appropriate, until the appropriate criteria are met.
The future minimum rental payments to be received from noncancelable operating leases are $33.1 million and $266,000 for the years ending December 31, 2017 and 2018, and none thereafter.
Tenant Receivables
The Company makes estimates of the collectability of its tenant receivables related to base rents, including straight-line rentals, expense reimbursements and other revenue or income. The Company specifically analyzes accounts receivable and historical bad debts, tenant creditworthiness, current economic trends when evaluating the adequacy of the allowance for doubtful accounts. In addition, with respect to tenants in bankruptcy, the Company makes estimates of the expected recovery of pre-petition and post-petition claims in assessing the estimated collectability of the related receivable. In some cases, the ultimate resolution

F- 9

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



of these claims can exceed one year. At December 31, 2016 and 2015, there were allowances for uncollectible receivables of $5,009 and $194, respectively.
Income Taxes
The Company elected to be taxed as a REIT, commencing with its taxable year ended December 31, 2014. Accordingly, the Company will generally not be subject to corporate U.S. federal or state income tax to the extent that it makes qualifying distributions to its stockholders, and provided it satisfies on a continuing basis, through actual investment and operating results, the REIT requirements including certain asset, income, distribution and stock ownership tests. If the Company fails to qualify as a REIT, and does not qualify for certain statutory relief provisions, it will be subject to U.S. federal, state and local income taxes and may be precluded from qualifying as a REIT for the subsequent four taxable years following the year in which it lost its REIT qualification. Accordingly, the Company’s failure to qualify as a REIT could have a material adverse impact on its results of operations and amounts available for distribution to its stockholders.
The dividends paid deduction of a REIT for qualifying dividends to its stockholders is computed using the Company’s taxable income as opposed to net income reported on the financial statements. Taxable income, generally, will differ from net income reported on the financial statements because the determination of taxable income is based on tax provisions and not financial accounting principles.
The Company may elect to treat certain of its subsidiaries as taxable REIT subsidiaries (“TRSs”). In general, the Company’s TRS may hold assets and engage in activities that it cannot hold or engage in directly and generally may engage in any real estate or non-real estate-related business. A TRS is subject to U.S. federal, state and local corporate income taxes.
While a TRS may generate net income, a TRS can declare dividends to the Company which will be included in the Company’s taxable income and necessitate a distribution to its stockholders. Conversely, if the Company retains earnings at a TRS level, no distribution is required and the Company can increase book equity of the consolidated entity. As of December 31, 2016 and 2015, the Company had no TRSs.
Earnings Per Share
Basic earnings per share is calculated on the basis of weighted-average number of common shares outstanding during the year. Basic earnings per share is computed by dividing income available to common shareholders by the weighted-average common shares outstanding during the period. Diluted earnings per share takes into account the potential dilution that could occur if securities or other contracts to issue common stock were exercised and converted to common stock. None of the 50,000 shares of convertible stock (discussed in Note 11) are included in the diluted earnings per share calculation because the necessary conditions for conversion have not been satisfied as of December 31, 2016. Accrued distributions as of December 31, 2016, that could be potentially settled in the issuance of common stock, could be excluded from the calculation of earnings per share because the impact would be anti-dilutive. All common shares and per common share information in the financial statements were adjusted retroactively for the effect of one 0.83333% stock distribution issued on January 15, 2015.
Correction of an Immaterial Error
During the second quarter ended June 30, 2016, the Company made an adjustment to correct an immaterial error related to the accrual of real estate taxes in connection with a property acquisition. As a result of this error, the Company increased accounts payable and accrued expenses and rental properties by $832,283, respectively. The adjustment impacts the Consolidated Balance Sheet, Note 5- Rental Properties, net and Note 6 - Acquisitions as of December 31, 2015. This correction had no impact on earnings or cash flows.
Organization and Offering Costs
The Company incurred organizational, accounting, and offering costs in pursuit of its financing. Organization and offering costs (other than selling commissions and dealer-manager fees) of the Company were initially paid by the Advisor on behalf of the Company. Organization costs were expensed as incurred and included all expenses incurred by the Company in connection with the formation of the Company, including but not limited to legal fees and other costs to incorporate the Company.

F- 10

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



Pursuant to the Amended and Restated Advisory Agreement between the Company and the Advisor dated January 9, 2014 (the “Advisory Agreement”), the Companywas obligated to reimburse the Advisor for organizational and offering costs it incurred on the Company's behalf, but only to the extent that such reimbursements would not cause organizational and offering expenses (other than selling commissions and the dealer manager fees) to exceed 2.5% of the gross offering proceeds raised in the offering, when recorded by the Company. The primary portion of the offering closed on February 10, 2016, at which point total organizational and offering costs incurred did not exceed 2.5% of the gross offering proceeds raised in the offering.
Through December 31, 2016, the Company incurred $11.2 million of offering costs consisting of accounting, advertising, allocated payroll, due diligence, marketing, legal and similar costs. As of December 31, 2016, the Advisor had paid $7.2 million of these costs on behalf of the Company. These costs were deferred and subsequently a portion of these costs was charged to equity upon the sale of each share of common stock sold under the public offering. As of December 31, 2016, the Company had reimbursed all $7.2 million of offering costs to the Advisor.
Adoption of New Accounting Standards
In January 2015, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2015-01, "Income Statement - Extraordinary and Unusual Items (Subtopic 225-20), Simplifying Income Statement Presentation by Eliminating the Concept of Extraordinary Items". The amendments in ASU No. 2015-01 eliminate from GAAP the concept of extraordinary items. Although the amendment will eliminate the requirements for reporting entities to consider whether an underlying event or transaction is extraordinary, the presentation and disclosure guidance for items that are unusual in nature or occur infrequently will be retained and will be expanded to include items that are both unusual in nature and infrequently occurring. ASU No. 2015-01 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2015. On January 1, 2016, the Company adopted ASU 2015-01 and the adoption had no impact on the Company's consolidated financial statements.
In February 2015, FASB issued ASU No. 2015-02, "Consolidation (Topic 810): Amendments to the Consolidation Analysis", which makes certain changes to both the variable interest model and the voting model, including changes to (1) the identification of variable interests (fees paid to a decision maker or service provider), (2) the variable interest entity characteristics for a limited partnership or similar entity and (3) the primary beneficiary determination. ASU 2015-02 is effective for the Company beginning January 1, 2016. On January 1, 2016, the Company adopted ASU 2015-02 and the adoption had no impact on the Company's consolidated financial statements.
In April 2015, FASB issued ASU No. 2015-03, "Simplifying the Presentation of Debt Issuance Costs", which requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. The recognition and measurement guidance for debt issuance costs are not affected. The Company applied the new guidance on a retrospective basis and adjusted the balance sheet of each individual period presented to reflect the period-specific effects of applying the new guidance. This guidance was effective and was adopted by the Company on January 1, 2016. Accordingly, the Company has reclassified$2.5 million of unamortized debt issuance costs at December 31, 2015 from assets to liabilities as a direct reduction of the related mortgage notes payable.
In September 2015, FASB issued ASU 2015-16, "Simplifying the Accounting for Measurement-Period Adjustments", which eliminates the requirement to retroactively revise comparative financial information for prior periods presented in financial statements due to changes in provisional amounts recorded for acquisitions in subsequent periods. Upon adoption, disclosure of the amounts recorded in current-period earnings that would have been recorded in previous reporting periods if the adjustment to the provisional amounts had been recognized at the acquisition date are required. ASU 2015-16 was effective and adopted by the Company on January 1, 2016 and the adoption had no impact on its consolidated financial statements.

In August 2014, FASB issued ASU No. 2014-15, "Presentation of Financial Statements-Going Concern (Subtopic 205-40): Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern." Under the new guidance, an entity should evaluate whether there are conditions or events, considered in the aggregate, that raise substantial doubt about the entity’s ability to continue as a going concern within one year after the date that the financial statements are issued. The guidance is effective for the annual period ending after December 15, 2016, and for annual periods and interim periods thereafter. The adoption of the new requirements did not have an impact on the Company's consolidated financial statements.
         
 

F- 11

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



Accounting Standards Issued But Not Yet Effective

In May 2014, FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers”, which will replace most existing revenue recognition guidance in GAAP. The core principle of ASU No. 2014-09 is that an entity should recognize revenue for the transfer of goods or services equal to the amount that it expects to be entitled to receive for those goods or services. ASU No. 2014-09 requires additional disclosure about the nature, amount, timing and uncertainty of revenue and cash flows arising from customer contracts, including significant judgments and changes in judgments. ASU No. 2014-09 will be effective for the Company beginning January 1, 2018, including interim periods in 2018, and allows for both retrospective and prospective methods of adoption. In accordance with the Company’s plan for the adoption of ASU 2014-09, the Company has identified revenue streams and is performing an in-depth review to identify the related performance obligations and to evaluate the impact on the Company’s consolidated financial statements and internal accounting processes and controls. As the majority of the Company’s revenues are derived from lease contracts, the Company does not expect that the adoption of ASU 2014-09 or related amendments and modifications issued by FASB will have a material impact on its consolidated financial statements.

In February 2016, FASB issued ASU No. 2016-02, "Leases", which is intended to improve financial reporting about leasing transactions and requires organizations that lease assets to recognize on the balance sheet the assets and liabilities for the rights and obligations created by those leases. ASU No. 2016-02 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. The Company is continuing to evaluate this guidance; however, it does not expect the adoption of ASU No. 2016-02 to have a significant impact on its consolidated financial statements.

In August 2016, FASB issued ASU No. 2016-15 "Classification of Certain Cash Receipts and Cash Payments", which addresses eight specific cash flow issues with the objective of reducing existing diversity in practice.  The guidance is effective for the Company as of January 1, 2018. Early application is permitted. The adoption of the new requirements is not expected to have a material impact on the reporting of the Company's consolidated cash flows.       
NOTE 3 - SUPPLEMENTAL CASH FLOW INFORMATION    
The following table presents supplemental cash flow information (in thousands):
 
Years Ended
 
December 31,
 
2016
 
2015
Non-cash financing and investing activities:
 
 
 
Distributions on common stock declared but not yet paid
$
8,769

 
$
2,778

Stock issued from distribution reinvestment plan
20,608

 
8,425

Stock distributions issued
—

 
2,268

Deferred offering costs
—

 
493

Due to related parties
—

 
17

Rental property and other assets acquired through assumption of mortgage notes payable
28,704

 
22,189

 
 
 
 
Cash paid during the period for:
 
 
 
Interest
$
9,082

 
$
1,784


NOTE 4 - RESTRICTED CASH
Restricted cash represents escrow deposits with lenders to be used to pay real estate taxes, insurance, and capital improvement. A summary of the components of restricted cash follows (in thousands):

F- 12

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



 
December 31,
2016
 
December 31,
2015
Real estate taxes
$
3,252

 
$
1,586

Insurance
671

 
293

Capital improvements
2,697

 
2,022

Total
$
6,620

 
$
3,901

 
 
 
 
Unrestricted cash designated for capital expenditures
$
71,738

 
$
45,171


NOTE 5 - RENTAL PROPERTIES, NET
The Company’s investments in rental properties consisted of the following (in thousands):
 
December 31,
2016
 
December 31, 2015
Land
$
108,587

 
$
66,487

Building and improvements
629,060

 
314,716

Furniture, fixtures and equipment
36,307

 
10,539

Construction in progress
7,641

 
1,710


781,595

 
393,452

Less: accumulated depreciation
(27,007
)
 
(5,295
)

$
754,588

 
$
388,157

Depreciation expense for the years ended December 31, 2016 and 2015 was $21.9 million and $5.1 million, respectively.
NOTE 6 - ACQUISITIONS
As of December 31, 2016, the Company owned 16 properties. In order to finalize the fair values of the acquired assets and liabilities, the Company obtained third-party appraisals. The Company has up to 12 months from the date of acquisition to finalize the valuation for each property. All valuations have been finalized as of December 31, 2016.
The table below summarizes these acquisitions and the respective fair values assigned (in thousands):

F- 13

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



Multifamily
Community Name
 
City and State
 
Date of
Acquisition
 
Contractual Purchase
Price (1)
 
Land
 
Building and
Improvements
 
Furniture, Fixture and Equipment
 
Intangible Assets
 
Debt Assumed
 
Other
Liabilities
 
Fair Valued
Assigned
Adair off Addison
 
Dallas, Texas
 
6/4/2014
 
$
9,500

 
$
1,889

 
$
7,061

 
$
199

 
$
351

 
$
—

 
$
(85
)
 
$
9,415

Overton Trails Apartment Homes
 
Fort Worth, Texas
 
12/19/2014
 
$
47,000

 
$
4,834

 
$
40,486

 
$
504

 
$
1,176

 
$
—

 
$
(60
)
 
$
46,940

Uptown Buckhead
 
Atlanta, Georgia
 
3/30/2015
 
$
32,500

 
$
6,464

 
$
24,993

 
$
399

 
$
644

 
$
—

 
$
(117
)
 
$
32,383

Crosstown at Chapel Hill
 
Chapel Hill, North Carolina
 
5/19/2015
 
$
46,750

 
$
7,098

 
$
37,947

 
$
608

 
$
1,097

 
$
—

 
$
(231
)
 
$
46,519

The Brookwood
 
Homewood, Alabama
 
8/21/2015
 
$
30,050

 
$
3,595

 
$
25,997

 
$
411

 
$
766

 
$
(22,189
)
 
$
(148
)
 
$
8,432

Adair off Addison Apartment Homes
 
Dallas, Texas
 
8/27/2015
 
$
21,250

 
$
2,532

 
$
17,831

 
$
304

 
$
583

 
$
—

 
$
(229
)
 
$
21,021

1000 Spalding Crossing
 
Atlanta, Georgia
 
9/24/2015
 
$
41,000

 
$
5,030

 
$
34,765

 
$
399

 
$
806

 
$
—

 
$
(51
)
 
$
40,949

Montclair Terrace
 
Portland, Oregon
 
10/29/2015
 
$
32,750

 
$
3,545

 
$
28,282

 
$
304

 
$
619

 
$
—

 
$
(80
)
 
$
32,670

Grand Reserve
 
Naperville, Illinois
 
12/18/2015
 
$
66,700

 
$
12,132

 
$
52,981

 
$
1,097

 
$
1,322

 
$
—

 
$
(98
)
 
$
67,435

Verdant Apartment Homes
 
Boulder, Colorado
 
12/18/2015
 
$
65,200

 
$
19,527

 
$
44,140

 
$
514

 
$
1,019

 
$
—

 
$
(344
)
 
$
64,856

Arcadia Apartment Homes
 
Centennial, Colorado
 
1/22/2016
 
$
60,250

 
$
8,578

 
$
49,990

 
$
492

 
$
1,191

 
$
—

 
$
(126
)
 
$
60,125

Riverlodge
 
Austin, Texas
 
3/23/2016
 
$
57,000

 
$
6,776

 
$
47,992

 
$
698

 
$
1,534

 
$
(28,765
)
 
$
(393
)
 
$
27,842

Breckenridge
 
Portland, Oregon
 
5/17/2016
 
$
81,500

 
$
9,642

 
$
69,701

 
$
812

 
$
1,345

 
$
—

 
$
(181
)
 
$
81,319

Santa Rosa
 
Irvine, Texas
 
6/28/2016
 
$
70,000

 
$
8,410

 
$
59,326

 
$
718

 
$
1,546

 
$
—

 
$
(616
)
 
$
69,384

Windbrooke Crossing
 
Buffalo Grove, Illinois
 
12/22/2016
 
$
48,250

 
$
4,634

 
$
42,576

 
$
608

 
$
1,059

 
$
—

 
$
(660
)
 
$
48,217

The Woods at Burnsville
 
Burnsville, Minnesota
 
12/23/2016
 
$
51,000

 
$
3,900

 
$
45,053

 
$
821

 
$
1,225

 
$
—

 
$
(84
)
 
$
50,915

 
(1)
Contractual purchase price excludes closing costs, acquisition expenses and other immaterial settlement date adjustments and pro-rations..     
    

F- 14

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



The table below summarizes the total revenues, net loss, and acquisition costs of the Company's 2016 acquisitions (in thousands):
 
 
 
Year Ended
Multifamily Community
 
December 31, 2016
Arcadia Apartment Homes
 
 
 
Total Revenues
 
$
4,595

 
Net Loss
 
$
(1,867
)
 
Acquisition Costs
 
$
55

 
Acquisition Fee
 
$
1,371

Riverlodge
 
 
 
Total Revenues
 
$
5,009

 
Net Loss
 
$
(3,625
)
 
Acquisition Costs
 
$
194

 
Acquisition Fee
 
$
1,380

Breckenridge
 
 
 
Total Revenues
 
$
3,407

 
Net Loss
 
$
(3,060
)
 
Acquisition Costs
 
$
159

 
Acquisition Fee
 
$
1,798

Santa Rosa
 
 
 
Total Revenues
 
$
3,388

 
Net Loss
 
$
(1,585
)
 
Acquisition Costs
 
$
163

 
Acquisition Fee
 
$
1,627

Windbrooke
 
 
 
Total Revenues
 
$
125

 
Net Loss
 
$
(172
)
 
Acquisition Costs
 
$
126

 
Acquisition Fee
 
$
1,001

The Woods of Burnsville
 
 
 
Total Revenues
 
$
146

 
Net Loss
 
$
(129
)
 
Acquisition Costs
 
$
118

 
Acquisition Fee
 
$
1,046

NOTE 7 - IDENTIFIED INTANGIBLE ASSETS, NET
Identified intangible assets, net, consist of in-place rental leases. The gross value of acquired in-place leases totaled $16.3 million and $8.4 million as of December 31, 2016 and 2015, respectively, net of accumulated amortization of $13.6 million and $4.5 million, respectively. The weighted average remaining life of the rental leases is five months and four months as of December 31, 2016 and 2015, respectively. For the years ended December 31, 2016 and 2015, amortization expense was $9.1 million and $4.1 million, respectively. Expected amortization for the rental leases for the next 12 months is $2.7 million and none thereafter.

F- 15

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



NOTE 8 - MORTGAGE NOTES PAYABLE, NET
The following table presents a summary of the Company's mortgage notes payable, net (in thousands):
 
 
December 31, 2016
 
December 31, 2015
Collateral
 
Outstanding borrowings
 
Premium, net
 
Deferred Financing Costs, net
 
Carrying Value
 
Outstanding borrowings
 
Premium, net
 
Deferred Financing Costs, net
 
Carrying Value
Overton Trails Apartment Homes
 
$
31,075

 
$
—

 
$
(344
)
 
$
30,731

 
$
31,075

 
$
—

 
$
(382
)
 
$
30,693

Uptown Buckhead
 
20,200

 
—

 
(284
)
 
19,916

 
20,200

 
—

 
(320
)
 
19,880

Crosstown at Chapel Hill
 
32,000

 
—

 
(373
)
 
31,627

 
32,000

 
—

 
(491
)
 
31,509

The Brookwood - Key Bank
 
18,247

 
508

 
(239
)
 
18,516

 
18,603

 
621

 
(293
)
 
18,931

The Brookwood - Capital One
 
2,699

 
39

 
(41
)
 
2,697

 
2,739

 
47

 
(50
)
 
2,736

Adair off Addison and Adair off Addison Apartment Homes
 
25,500

 
—

 
(464
)
 
25,036

 
25,500

 
—

 
(583
)
 
24,917

1000 Spalding Crossing
 
24,600

 
—

 
(289
)
 
24,311

 
24,600

 
—

 
(349
)
 
24,251

Riverlodge
 
28,292

 
—

 
(393
)
 
27,899

 
—

 
—

 
—

 
—

Verdant Apartment Homes
 
37,300

 
—

 
(345
)
 
36,955

 
—

 
—

 
—

 
—

Arcadia Apartment Homes
 
40,200

 
—

 
(379
)
 
39,821

 
—

 
—

 
—

 
—

Grand Reserve
 
42,395

 
—

 
(446
)
 
41,949

 
—

 
—

 
—

 
—

Montclair Terrace
 
21,083

 
—

 
(345
)
 
20,738

 
—

 
—

 
—

 
—

Breckenridge
 
52,975

 
—

 
(697
)
 
52,278

 
—

 
—

 
—

 
—

Santa Rosa
 
45,700

 
—

 
(643
)
 
45,057

 
—

 
—

 
—

 
—

Windbrooke Crossing
 
38,320

 
—

 
(490
)
 
37,830

 
—

 
—

 
—

 
—

 
 
$
460,586

 
$
547

 
$
(5,772
)
 
$
455,361

 
$
154,717

 
$
668

 
$
(2,468
)
 
$
152,917






















F- 16

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



The following table presents additional information about the Company's mortgage notes payable, net (in thousands, except percentages):
 
 
Maturity
Date
 
Margin over LIBOR
 
Annual Interest Rate
 
Average
Monthly Debt
Service
 
Average
Monthly Escrow
 
 
Overton Trails Apartment Homes
 
1/1/2025
 
1.91
%
 
2.68
%
 
$
118

 
$
155

 
(1) (3) (5)
Uptown Buckhead
 
7/1/2025
 
2.22
%
 
2.99
%
 
$
78

 
$
70

 
(1) (3) (5)
Crosstown at Chapel Hill
 
7/10/2020
 
1.70
%
 
2.47
%
 
$
95

 
$
—

 
(1) (4) (5)
The Brookwood - Key Bank
 
11/1/2021
 
—

 
4.73
%
 
$
104

 
$
27

 
 (2) (7)
The Brookwood - Capital One
 
11/1/2021
 
—

 
5.40
%
 
$
16

 
$
—

 
(2) (7)
Adair off Addison and Adair off Addison Apartment Homes
 
1/1/2021
 
1.55
%
 
2.32
%
 
$
87

 
$
—

 
(1) (3) (5)
1000 Spalding Crossing
 
1/1/2022
 
—

 
3.88
%
 
$
108

 
$
39

 
(2) (5)
Riverlodge
 
5/1/2022
 
—

 
3.76
%
 
$
144

 
$
130

 
(2) (7)
Verdant Apartment Homes
 
5/1/2023
 
—

 
3.89
%
 
$
154

 
$
26

 
(2) (5)
Arcadia Apartment Homes
 
5/1/2023
 
—

 
3.89
%
 
$
167

 
$
19

 
(2)
Grand Reserve
 
6/1/2023
 
2.57
%
 
3.34
%
 
$
185

 
$
88

 
(1) (3) (6)
Montclair Terrace
 
6/1/2023
 
2.45
%
 
3.22
%
 
$
93

 
$
21

 
(1) (3) (7)
Breckenridge
 
7/1/2023
 
2.36
%
 
3.13
%
 
$
213

 
$
54

 
(1) (3) (5)
Santa Rosa
 
9/1/2026
 
2.11
%
 
2.88
%
 
$
146

 
$
98

 
(1) (3) (5)
Windbrooke Crossing
 
1/1/2024
 
2.69
%
 
3.46
%
 
$
194

 
$
70

 
(1) (3) (5)

(1)
Variable rate based on one-month LIBOR of 0.77167% (as of December 31, 2016) plus a fixed margin
(2)
Fixed rate
(3)
Variable rate hedged with interest rate cap cash flow hedge
(4)
Fixed rate interest swap associated with the variable rate debt
(5)
Monthly interest-only payment currently required
(6)
Monthly fixed principal plus interest payment required
(7)
Fixed monthly payment of principal and interest payment required
On August 21, 2015, the Company recorded a fair value adjustment, which represented the fair value of the debt assumed over its principal amount in connection with The Brookwood Apartment Home acquisition. The fair value adjustment (premium)is amortized to interest expense over the term of the related mortgages loans using the effective interest method. As of December 31, 2016, the net unamortized mortgage premium was $546,607 and was included as a component of mortgage loans payable in the accompanying consolidated balance sheets.
At December 31, 2016, the weighted average interest rate of all our outstanding indebtedness was 3.31%
All mortgage notes are collateralized by a first or second mortgage lien on the assets of the respective property as named in the table above. The amount outstanding on the mortgages may be prepaid in full during the entire term with a prepayment penalty on the majority of mortgages held.
    
As of December 31, 2016 and 2015, the Company had $6.6 million and $3.9 million of restricted cash related to escrow deposits held by mortgage lenders for real estate taxes, insurance and capital reserves (see Note 5).
Annual principal payments on the mortgage notes payable for each of the next five years ending December 31, and thereafter, are as follows (in thousands):

F- 17

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



2017
$
3,778

2018
6,547

2019
8,398

2020
39,714

2021
50,927

Thereafter
351,222


$
460,586


The mortgage notes payable are recourse only with respect to the properties that secure the notes, subject to certain limited standard exceptions, as defined in each mortgage note. The Company has guaranteed the mortgage notes by executing a guarantee with respect to the properties. These exceptions are referred to as “carveouts.” In general, carveouts relate to damages suffered by the lender for a borrower’s failure to pay rents, insurance or condemnation proceeds to lender, failure to pay water, sewer and other public assessments or charges, failure to pay environmental compliance costs or to deliver books and records, in each case as required in the loan documents. The exceptions also require the Company to guarantee payment of audit costs, lender’s enforcement of its rights under the loan documents and payment of the loan if the borrower voluntarily files for bankruptcy or seeks reorganization, or if a related party of the borrower does so with respect to the subsidiary. The Company has also guaranteed the completion and payment of costs of completion of no less than $1.8 million for renovations at Uptown Buckhead by June 30, 2017. For the Crosstown at Chapel Hill Mortgage Loan, beginning with the calendar quarter ending December 31, 2017, the property must maintain a certain level of debt service coverage.
Deferred financing costs incurred to obtain financing are amortized over the term of the related debt. As of December 31, 2016 and December 31, 2015, accumulated amortization of deferred financing costs was $876,721 and $139,722, respectively. Amortization of deferred financing costs for the next five years ending December 31, and thereafter, are as follows (in thousands):
2017
$
1,011

2018
996

2019
979

2020
909

2021
728

Thereafter
1,150

 
$
5,773

NOTE 9 – ACCUMULATED OTHER COMPREHENSIVE LOSS
The following table presents the changes in accumulated other comprehensive loss for the year ended December 31, 2016 (in thousands):
 
Net unrealized loss on derivatives
Balance, January 1, 2015
$
(35
)
Designated derivatives, fair value adjustment
(82
)
Balance, December 31, 2015
(117
)
Designated derivatives, fair value adjustment
43

Balance, December 31, 2016
$
(74
)



F- 18

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



NOTE 10 – CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS

In the ordinary course of its business operations, the Company has ongoing relationships with several related parties.

Relationship with RAI
Self-insurance funds held in escrow. Substantially all of the receivables from related parties represent insurance deposits held in escrow funds held by Resource Real Estate, Inc. ("RRE") for self-insurance which, if unused, will be returned to the Company. The Company's properties participate in insurance pools with other properties directly and indirectly managed by RAI for both the property insurance and general liability. RRE holds the deposits in escrow to fund future insurance claims. The pool for property insurance covers losses up to $2.5 million and the pool for the general liability covers losses up to the first $50,000 of each general liability incident. Catastrophic insurance would cover losses in excess of the insurance pools up to $140.0 million and $51.0 million, respectively. Therefore, unforeseen or catastrophic losses in excess of the Company's insured limits could have a material adverse effect on the Company's financial condition and operating results. During the year ended December 31, 2016, the Company paid $905,797 into the insurance pools.
Internal audit fees. RAI performs internal audit services for the Company.
Relationship with the Advisor
Pursuant to the terms of the Advisory Agreement, the Advisor provides the Company with the services of its management team, including its officers, along with appropriate support personnel. The Advisor will be reimbursed for the Company’s allocable share of costs for Advisor personnel, including allocable personnel salaries and benefits. Each of the Company’s officers is an employee of the Sponsor or one of its affiliates. The Company does not have any employees. The Advisor is not obligated to dedicate any specific portion of its time or the time of its personnel to the Company’s business. The Advisor is at all times subject to the supervision and oversight of the Company’s Board of Directors and has only such functions and authority as the Company delegates to it.
During the course of the offering, the Advisor provided offering-related services to the Company and advanced funds to the Company for both operating costs and organization and offering costs. These amounts were reimbursed to the Advisor from the proceeds from the offering. As of December 31, 2016, the Advisor had paid costs on a cumulative basis on behalf of the Company of approximately $7.2 million.
The Advisory Agreement has a one-year term and renews for an unlimited number of successive one-year terms upon the approval of the conflicts committee of the Company's Board of Directors. Under the Advisory Agreement, the Advisor receives fees and is reimbursed for its expenses as set forth below:
Acquisition fees. The Advisor earns an acquisition fee of 2.0% of the cost of investments acquired on behalf of the Company, plus any capital expenditure reserves allocated, or the amount funded by the Company to acquire loans, including acquisition expenses and any debt attributable to such investments.
Asset management fees. The Advisor earns a monthly asset management fee equal to one-twelfth of 1.0% of the cost of each asset, without deduction for depreciation, bad debts or other non-cash reserves. The asset management fee is based only on the portion of the costs or value attributable to the Company’s investment in an asset if the Company does not own all or a majority of an asset and does not manage or control the asset.
Disposition fees. The Advisor earns a disposition fee in connection with of the sale of a property equal to the lesser of one-half of the aggregate brokerage commission paid, or if none is paid, 2.0% of the contract sales price. No properties were sold during the years ended December 31, 2015 and 2016 and, therefore, no disposition fees were earned.
Debt financing fees. The Advisor earns a debt financing fee equal to 0.5% of the amount available under any debt financing obtained for which it provided substantial services.
Expense reimbursements. The Company also pays directly or reimburses the Advisor for all of the expenses paid or incurred by the Advisor or its affiliates on behalf of the Company or in connection with the services provided to the Company in relation to its public offering, including its distribution reinvestment plan offering. This included all organization and offering costs of up to 2.5% of gross offering proceeds.

F- 19

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



Reimbursements also include expenses the Advisor incurs in connection with providing services to the Company, including the Company’s allocable share of costs for Advisor personnel and overhead, out-of-pocket expenses incurred in connection with the selection and acquisition of properties or other real estate related debt investments, whether or not the Company ultimately acquires the investment. However, the Company will not reimburse the Advisor or its affiliates for employee costs in connection with services for which the Advisor earns acquisition or disposition fees.
Relationship with Resource Real Estate Opportunity Manager II
Resource Real Estate Opportunity Manager II, LLC (the “Manager”), an affiliate of the Advisor, manages real estate properties and real estate-related debt investments and coordinates the leasing of, and manages construction activities related to the Company’s real estate property pursuant to the terms of the management agreement with the Manager.
Property management fees. The Manager earns a property management fee equal to 4.5% of actual gross cash receipts from the Company's properties, provided that for properties that are less than 75% occupied, the Manager receives a minimum fee for the first 12 months of ownership, for performing certain property management and leasing activities.
Construction management fees. The Manager earns a construction management fee of 5.0% of actual aggregate costs to construct improvements, or to repair, rehab or reconstruct a property.
Debt servicing fees. The Manager earns a debt servicing fee of 2.75% on payments received from loans held by the Company for investment. No debt servicing fees were earned during the years ended December 31, 2015 and 2016.
Information technology fees and Operating Expense reimbursement. During the ordinary course of business, the Manager or other affiliates of RAI may pay certain shared information technology fees and operating expenses on behalf of the Company.
Relationship with Resource Securities
Resource Securities, Inc. (“Resource Securities”), an affiliate of the Advisor, served as the Company’s dealer-manager and was responsible for marketing the Company’s shares during the primary portion of its public offering. Pursuant to the terms of the dealer-manager agreement with Resource Securities, the Company paid Resource Securities a selling commission of up to 7% of gross primary offering proceeds and a dealer-manager fee of up to 3% of gross primary offering proceeds. Resource Securities reallowed all selling commissions earned and a portion of the dealer-manager fee as a marketing fee to participating broker-dealers. No selling commissions or dealer-manager fees are earned by Resource Securities in connection with sales under the distribution reinvestment plan.
Relationship with Other Related Parties
The Company utilizes the services of a printing company, Graphic Images, LLC (“Graphic Images”), the principal owner of which is the father of RAI’s Chief Financial Officer.

The Company paid The Planning & Zoning Resource Company, an affiliate of C-III, $2,065 for zoning reports in
relation to certain acquisitions.


    

F- 20

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



The amounts receivable/payable and the fees earned/expenses incurred by such related parties are summarized in the following tables (in thousands):
 
December 31,
2016
 
December 31,
2015
Due from related parties:
 
 
 
Resource Securities
$
—

 
$
37

RAI - insurance pools
604

 
326

 
$
604

 
$
363

 
 
 
 
Due to related parties:
 
 
 
Advisor
 
 
 
Acquisition fees
$
1,022

 
$
2,646

Asset management fees
—

 
309

Organization and offering costs
—

 
1,937

Operating expense reimbursements
1,078

 
115

 
 
 
 
Manager
 
 
 
Property management fees
244

 
99

Operating expense reimbursements
304

 
218

 
 
 
 
Resource Securities
 
 
 
Selling commissions and dealer-manager fees
—

 
711

 
$
2,648

 
$
6,035

 
 
 
 
Graphic Images 
$
—

 
$
3

 
 
 
 

 
 
Years Ended
 
 
December 31,
 
 
2016
 
2015
Fees earned / expenses incurred:
 
 
 
 
Advisor
 
 
 
 
Acquisition fees (1)
 
$
8,497

 
$
7,479

Asset management fees (2)
 
$
6,892

 
$
1,806

Debt financing fees (3)
 
$
1,537

 
$
582

Organization and offering costs (4)
 
$
86

 
$
4,107

Operating expense reimbursements (5)
 
$
4,130

 
$
805

 
 
 
 
 
Manager
 
 
 
 
Property management fees (2)
 
$
2,278

 
$
613

Construction management fees (7)
 
$
1,371

 
$
437

Operating expense reimbursements (8)
 
$
132

 
$
61

Information technology fees (5)
 
$
166

 
$
47

 
 
 
 
 
Resource Securities:
 
 
 
 
Selling commissions and dealer-manager fees (6)
 
$
4,193

 
$
45,454

 
 
 
 
 
Other
 
 
 
 
Graphic Images (4) (5)
 
$
8

 
$
460

The Planning & Zoning Resource Company (5)
 
$
2

 
$
—


F- 21

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016




(1)     Included in Acquisition costs on the consolidated statements of operations and comprehensive loss.
(2)     Included in Management fees on the consolidated statements of operations and comprehensive loss.
(3)    Included in Mortgage notes payable, net on the consolidated balance sheets.
(4)     Included in Deferred offering costs or Stockholders' Equity on the consolidated balance sheets. As of December 31, 2016, all previously deferred
offering costs have been reclassified to Stockholders' Equity.
(5)     Included in General and administrative on the consolidated statements of operations and comprehensive loss.
(6)     Included in Stockholders' equity on the consolidated balance sheets.
(7)     Included in Rental properties, net on the consolidated balance sheets.
(8)    Included in Rental operating expenses on the consolidated statements of operations and comprehensive loss. Amount excludes the allocated payroll
expenses described in Note 14 - Operating Expenses.




F- 22

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



NOTE 11 – EQUITY
Preferred Stock
The Company’s charter authorizes the Company to issue 10,000,000 shares of its $0.01 par value preferred stock. As of December 31, 2016 and 2015, no shares of preferred stock were issued or outstanding.
Convertible Stock
As of December 31, 2016, the Company had 50,000 shares of $0.01 par value convertible stock outstanding, which are owned by the Advisor. The convertible stock will convert into shares of the Company’s common stock upon the occurrence of (a) the Company having paid distributions to common stockholders that in the aggregate equal 100% of the price at which the Company originally sold the shares plus an amount sufficient to produce a 7% cumulative, non-compounded annual return on the shares at that price; or (b) if the Company lists its common stock on a national securities exchange and, on or after the 31st trading day following the listing, the Company’s value based on the average trading price of its common stock since the listing, plus prior distributions, combine to meet the same 7% return threshold.
Each of these two events is a “Triggering Event.”  Upon a Triggering Event, the Company's convertible stock will, unless its advisory agreement has been terminated or not renewed on account of a material breach by its Advisor, generally be converted into a number of shares of common stock equal to 1/50,000 of the quotient of:
(A)
the lesser of
(i)    25% of the amount, if any, by which
(1)
the value of the Company as of the date of the event triggering the conversion plus the total distributions paid to its stockholders through such date on the then-outstanding shares of its common stock exceeds
(2)
the sum of the aggregate issue price of those outstanding shares plus a 10% cumulative, non-compounded, annual return on the issue price of those outstanding shares as of the date of the event triggering the conversion, or
(ii)    15% of the amount, if any, by which
(1)
the value of the Company as of the date of the event triggering the conversion plus the total distributions paid to its stockholders through such date on the then-outstanding shares of its common stock exceeds
(2)
the sum of the aggregate issue price of those outstanding shares plus a 6% cumulative, non-compounded, annual return on the issue price of those outstanding shares as of the date of the event triggering the conversion, divided by
(B)    the value of the Company divided by the number of outstanding shares of common stock, in each case, as of the date of the event triggering the conversion. 
Common Stock
As of December 31, 2016, the Company had an aggregate of 59,160,177 shares of $0.01 par value common stock outstanding, including the Advisor's additional purchase of 117,778 shares of common stock for $1.1 million during 2016, as follows (dollars in thousands):
 
 
Shares Issued
 
Gross Proceeds
Shares issued through initial public offering
 
55,791,297

 
$
556,197

Shares issued through stock distributions
 
246,365

 
—

Shares issued through distribution reinvestment plan
 
3,280,313

 
29,247

Advisor's initial investment, net of 5,000 share conversion
 
15,000

 
150

Total shares redeemed and retired
 
(172,798
)
 
(1,497
)
 
 
59,160,177

 
$
584,097


F- 23

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



Redemptions
During the year ended December 31, 2016, the Company redeemed shares as follows (in thousands, except per share data):
Period
 
Total Number
of Shares
Redeemed (1)
 
Average Price Paid per Share
 
Cumulative Number
of Shares Purchased
as Part of a Publicly
Announced Plan or
Program (2)
 
Approximate Dollar
Value of Shares
Available That May
Yet Be Redeemed
Under the Program
January 2016
 
—
 
$—
 
—
 
(2)
February 2016
 
—
 
$—
 
—
 
(2)
March 2016
 
8
 
$9.64
 
13
 
(2)
April 2016
 
—
 
$—
 
—
 
(2)
May 2016
 
—
 
$—
 
—
 
(2)
June 2016
 
48
 
$8.48
 
61
 
(2)
July 2016
 
—
 
$—
 
—
 
(2)
August 2016
 
—
 
$—
 
—
 
(2)
September 2016
 
—
 
$—
 
—
 
(2)
October 2016
 
54
 
$8.40
 
116
 
(2)
November 2016
 
—
 
$—
 
—
 
(2)
December 2016
 
57
 
$8.75
 
173
 
(2)
(1)
All purchases of equity securities by the Company in the year ended December 31, 2016 were made pursuant to the Company's share redemption program.
(2)
The Company currently limits the dollar value and number of shares that may be repurchased under the program, as discussed below.
All redemption requests tendered were honored during the year ended December 31, 2016.
The Company will not redeem in excess of 5% of the weighted-average number of shares outstanding during the 12 month period immediately prior to the effective date of redemption.  Generally, the cash available for redemption will be limited to proceeds from the distribution reinvestment plan plus, if the Company had positive operating cash flow from the previous fiscal year, 1% of all operating cash flow from the previous fiscal year.  These limitations apply to all redemptions, including redemptions sought upon a stockholder’s death, qualifying disability or confinement to a long-term care facility. 

The Company's board of directors, in its sole discretion, may suspend, terminate or amend the Company's share redemption program without stockholder approval upon 30 days' notice if it determines that such suspension, termination or amendment is in the Company's best interest. The Company's board may also reduce the number of shares purchased under the share redemption program if it determines the funds otherwise available to fund the Company's share redemption program are needed for other purposes. These limitations apply to all redemptions, including redemptions sought upon a stockholder's death, qualifying disability or confinement to a long-term care facility.



F- 24

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



Distributions
For the year ended December 31, 2016, the Company paid aggregate distributions of $34.6 million, including $14.0 million of distributions paid in cash and $20.6 million of distributions reinvested in shares of common stock through the Company's distribution reinvestment plan, as follows (in thousands):
Authorization Date
 
Per
Common
Share
 
Record Dates
 
Distribution Date
 
Distributions reinvested in shares of Common Stock
 
Net Cash Distributions
 
Total Aggregate Distributions
December 17, 2015
 
$
0.00164384

 
December 31, 2015 through January 28, 2016
 
January 29, 2016
 
$
1,540

 
$
1,039

 
2,579

December 17, 2015
 
0.00164384

 
January 29, 2016 through February 26, 2016
 
February 29, 2016
 
1,618

 
1,103

 
2,721

February 24, 2016
 
0.00164384

 
February 27, 2016 through March 30, 2016
 
March 31, 2016
 
1,843

 
1,263

 
3,106

March 29, 2016
 
0.00164384

 
March 31, 2016 through April 29, 2016
 
April 30, 2016
 
1,635

 
1,105

 
2,740

March 29, 2016
 
0.00164384

 
April 30, 2016 through May 30, 2016
 
May 31, 2016
 
1,640

 
1,106

 
2,746

March 29, 2016
 
0.00164384

 
May 31, 2016 through June 29, 2016
 
June 30, 2016
 
1,870

 
1,270

 
3,140

June 15, 2016
 
0.00164384

 
June 30, 2016 through July 28, 2016
 
July 31, 2016
 
1,652

 
1,115

 
2,767

June 15, 2016
 
0.00164384

 
July 29, 2016 through August 30, 2016
 
August 31, 2016
 
1,891

 
1,269

 
3,160

June 15, 2016
 
0.00164384

 
August 31, 2016 through September 29, 2016
 
September 30, 2016
 
1,725

 
1,158

 
2,883

September 30, 2016
 
0.00164384

 
September 30, 2016 through October 30, 2016
 
October 31, 2016
 
1,729

 
1,161

 
2,890

September 30, 2016
 
0.00164384

 
October 31, 2016 through November 29, 2016
 
November 30, 2016
 
1,769

 
1,225

 
2,994

September 30, 2016
 
0.00164384

 
November 30, 2016 through December 29, 2016
 
December 30, 2016
 
1,696

 
1,211

 
2,907

 
 
 
 
 
 
 
 
$
20,608

 
$
14,025

 
$
34,633

On December 15, 2016, the Company's Board of Directors approved distributions in an amount of $0.00164384 per share of common stock for stockholders of record each day in the period from December 30, 2016 through and including March 30, 2017, payable on January 31, 2017, February 28, 2017 and March 31, 2017.
The following is a reconciliation of total aggregate distributions paid to total distributions declared for the year ended December 31, 2016 (in thousands):
Total aggregate distributions paid
 
$
34,633

Less: distribution payable at December 31, 2015
 
(2,778
)
Add: distribution payable at December 31, 2016
 
8,769

Total distributions declared
 
$
40,624



F- 25

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



NOTE 12 - FAIR VALUE MEASURES AND DISCLOSURES
In analyzing the fair value of its investments accounted for on a fair value basis, the Company follows the fair value hierarchy, which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.  The Company determines fair value based on quoted prices when available or, if quoted prices are not available, through the use of alternative approaches, such as discounting the expected cash flows using market interest rates commensurate with the credit quality and duration of the investment. The fair values of cash, tenant receivables and accounts payable, approximate their carrying values due to their short nature.  The hierarchy followed defines three levels of inputs that may be used to measure fair value:
Level 1 - Quoted prices in active markets for identical assets and liabilities that the reporting entity has the ability to access at the measurement date.
Level 2 - Inputs other than quoted prices included within Level 1 that are observable for the asset and liability or can be corroborated with observable market data for substantially the entire contractual term of the asset or liability.
Level 3 - Unobservable inputs that reflect the entity’s own assumptions about the assumptions that market participants would use in the pricing of the asset or liability and are consequently not based on market activity, but rather through particular valuation techniques.
The determination of where an asset or liability falls in the hierarchy requires significant judgment.  The Company evaluates its hierarchy disclosures each quarter; depending on various factors, it is possible that an asset or liability may be classified differently from quarter to quarter.  However, the Company expects that changes in classifications between levels will be rare.
The fair value of rental properties is usually estimated based on information obtained from a number of sources, including information obtained about each property as a result of pre-acquisition due diligence, marketing and leasing activities.  The Company allocates the purchase price of properties to acquired tangible assets, consisting of land, buildings, fixtures and improvements, and identified intangible lease assets and liabilities, consisting of the value of above-market and below-market leases, as applicable, the value of in-place leases and the value of tenant relationships, based in each case on their fair values.    

Derivatives (interest rate caps and swap) which are reported at fair value in the consolidated balance sheets are valued by a third party pricing agent using an income approach with models that use, as their primary inputs, readily observable market parameters. This valuation process considers factors including interest rate yield curves, time value, credit and volatility factors. (Level 2)

    

F- 26

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



The following table presents information about the Company's assets measured at fair value on a recurring basis and
indicates the fair value hierarchy of the valuation techniques utilized by the Company to determine such fair value as follows (in thousands):
 
Level 1
 
Level 2
 
Level 3
 
Total
December 31, 2016
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
Interest rate caps
$
—

 
$
365

 
$
—

 
$
365

Cancelable Swap
—

 
43

 
—

 
43

 
$
—

 
$
408

 
$
—

 
$
408

Liabilities:
 
 
 
 
 
 
 
Cancelable swap
$
—

 
$
—

 
$
—

 
$
—

 
$
—

 
$
—

 
$
—

 
$
—

 
 
 
 
 
 
 
 
 
Level 1
 
Level 2
 
Level 3
 
Total
December 31, 2015
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
Interest rate caps
$
—

 
$
52

 
$
—

 
$
52

 
$
—

 
$
52

 
$
—

 
$
52

Liabilities:
 
 
 
 
 
 
 
Cancelable swap
$
—

 
$
(127
)
 
$
—

 
$
(127
)
 
$
—

 
$
(127
)
 
$
—

 
$
(127
)
Interest rate caps are included in Prepaid expenses and other assets on the consolidated balance sheets. The cancelable swap is included in Prepaid expenses and other assets as of December 31, 2016 and in Derivative liabilities on the consolidated balance sheet as of December 31, 2015.
The outstanding balance and estimated fair value of the Company’s mortgage notes payable are as follows (in thousands):
 
December 31, 2016
 
December 31, 2015
 
Outstanding Balance
 
Estimated Fair
Value
 
Outstanding Balance
 
Estimated Fair
Value
Mortgage notes payable
$
460,586

 
$
449,977

 
$
154,717

 
$
157,068

The carrying amount of the mortgage notes payable presented is the outstanding borrowings excluding premium and deferred finance costs, net. The fair value of the mortgage notes payable was estimated using rates available to the Company for debt with similar terms and remaining maturities (Level 3).
NOTE 13 - DERIVATIVES AND HEDGING ACTIVITIES
Risk Management Objective of Using Derivatives
The Company is exposed to certain risks arising from both its business operations and economic conditions. The Company principally manages its exposures to a wide variety of business and operational risks through management of its core business activities. The Company manages economic risks, including interest rate, liquidity, and credit risk primarily by managing the amount, sources, and duration of its debt funding and the use of derivative financial instruments. Specifically, the Company enters into derivative financial instruments to manage exposures that arise from business activities that result in the receipt or payment of future known and uncertain cash amounts, the value of which are determined by interest rates. The Company’s derivative financial instruments are used to manage differences in the amount, timing, and duration of the Company’s known or expected cash receipts and its known or expected cash payments principally related to the Company’s investments and borrowings.

F- 27

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



As a condition of the Company’s mortgage loans, from time to time the Company may be required to enter into certain derivative transactions as may be required by the lender. These transactions would generally be in line with the Company’s own risk management objectives and also serve to protect the lender.
Interest Rate Caps
The Company’s objectives in using interest rate derivatives are to add stability to interest expense and to manage its exposure to interest rate movements. To accomplish this objective, the Company entered into interest rate caps that were designated as cash flow hedges. Interest rate caps designated as cash flow hedges involve the receipt of variable amounts from a counterparty if interest rates rise above the strike rate on the contract in exchange for an up-front premium.
The effective portion of changes in the fair value of derivatives designated and that qualify as cash flow hedges is recorded in accumulated other comprehensive income and is subsequently reclassified into earnings in the period that the hedged forecasted transaction affects earnings. During the year ended December 31, 2016, such derivatives were used to hedge the variable cash flows, indexed to USD-London InterBank Offered Rate ("LIBOR"), associated with an existing variable-rate loan agreement. The ineffective portion of the change in fair value of the derivatives is recognized directly in earnings. During the years ended December 31, 2016 and 2015, the Company recorded no hedge ineffectiveness in earnings. During the year ended December 31, 2015, the Company accelerated the reclassification of amounts in other comprehensive income to earnings as a result of the hedged forecasted transactions becoming probable not to occur.  The accelerated amounts were a loss of $19,009.
Amounts reported in accumulated other comprehensive income related to derivatives will be reclassified to interest expense as interest payments are made on the Company’s variable-rate debt. During the next 12 months, the Company estimates that an additional $69,834 will be reclassified as an increase to interest expense.
Cancelable swaps
To manage its exposure to interest rate movements, the Company has also entered into a cancelable interest rate swap    that was not designated as a hedging instrument. Interest rate swaps involve the receipt of variable amounts from a counterparty in exchange for the Company making fixed-rate payments over the life of the agreements without exchange of the underlying notional amount. Derivatives not designated as hedges are not speculative and are used to manage the Company’s exposure to interest rate movements but do not meet the strict hedge accounting requirements.

F- 28

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



As of December 31, 2016, the Company had the following outstanding interest rate derivatives (dollars in thousands):
Interest Rate Derivative
 
Number of Instruments
 
Notional
Amount
 
Maturity Dates
Derivatives designated as hedging instruments:
Interest rate caps
 
8
 
$
280,000

 
January 1, 2018 through September 1, 2020
Derivatives not designated as hedging instruments:
Cancelable swap
 
1
 
$
32,000

 
July 28, 2020
Tabular Disclosure of Fair Value of Derivative Instrument on the Balance Sheet
The table below presents the fair value of the Company’s derivative financial instruments on the consolidated balance sheets as of December 31, 2016 and 2015 (in thousands):
Asset Derivatives
 
Liabilities Derivatives
December 31, 2016
 
December 31, 2015
 
December 31, 2016
 
December 31, 2015
Balance Sheet
 
Fair Value
 
Balance Sheet
 
Fair Value
 
Balance Sheet
 
Fair Value
 
Balance Sheet
 
Fair Value
Derivatives designated as hedging instruments:
Interest rate caps
 
$
365

 
Interest rate caps
 
$
52

 
NA
 
$
—

 
NA
 
$
—

Derivatives not designated as hedging instruments:
Cancelable swap
 
$
43

 
NA
 
$
—

 
Cancelable swap
 
$
—

 
NA
 
$
(127
)

Interest rate caps are included in Prepaid expenses and other assets on the consolidated balance sheets. The cancelable swap is included in Prepaid expenses and other assets as of December 31, 2016 and in Derivative liability on the consolidated balance sheet as of December 31, 2015.
The table below presents the effect of the Company's derivative financial instruments on the consolidated statements of operations and comprehensive loss for the years ended December 31, 2016 and 2015 (in thousands):
 
 
 
 
Amount of Gain (Loss) Recognized in Income for the Years Ended
Derivatives Designated as Hedging Instruments
 
Location of Gain (Loss) Recognized in Income
 
December 31, 2016
 
December 31, 2015
Interest rate caps
 
Interest expense
 
$
10

 
$
—


 
 
 
 
Amount of Gain (Loss) Recognized in Income for the Years Ended
Derivatives Not Designated as Hedging Instruments
 
Location of Gain (Loss) Recognized in Income
 
December 31, 2016
 
December 31, 2015
Cancelable swap
 
Interest expense
 
$
283

 
$
(359
)


F- 29

RESOURCE REAL ESTATE OPPORTUNITY REIT II, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
DECEMBER 31, 2016



Derivatives in Cash Flow Hedging Relationships
 
Amount of Gain (Loss) Recognized in OCI on Derivative (Effective Portion) for the Years Ended
 
Location of Gain (Loss) Reclassified from Accumulated OCI into Income (Effective Portion)
 
Amount of Gain (Loss) Reclassified from Accumulated OCI into Income (Effective Portion) for the Years Ended
 
December 31, 2016
 
December 31, 2015
 
 
December 31, 2016
 
December 31, 2015
Interest rate products
 
$
33

 
$
(96
)
 
Interest expense
 
$
(10
)
 
$
—

Credit-risk-related Contingent Features
The Company has agreements with each of its derivative counterparties that contain a provision where if the Company defaults on any of its indebtedness, including default where repayment of the indebtedness has not been accelerated by the lender, then the company could also be declared in default on its derivative obligations. As of December 31, 2016, the Company has not posted any collateral related to these agreements.
NOTE 14 - OPERATING EXPENSES
As defined under the Company's charter, the Advisor must reimburse the Company the amount by which the aggregate total operating expenses for the four fiscal quarters then ended exceed the greater of 2% of the average invested assets or 25% of net income, unless the conflicts committee has determined that such excess expenses were justified based on unusual and non-recurring factors. “Average invested assets” means the average monthly book value of assets invested, directly or indirectly, in equity interests in and loans secured by real estate during the 12-month period before deducting depreciation, bad debts or other non-cash reserves. “Total operating expenses” means all expenses paid or incurred by the Company, as determined under GAAP, that are in any way related to operations, including advisory fees, but excluding (a) the expenses of raising capital such as organization and offering expenses, legal, audit, accounting, underwriting, brokerage, listing, registration and other fees, printing and other such expenses and taxes incurred in connection with the issuance, distribution, transfer, registration and stock exchange listing of stock; (b) interest payments; (c) taxes; (d) non-cash expenditures such as depreciation, amortization and bad debt reserves; (e) reasonable incentive fees based on the gain in the sale of assets; and (f) acquisition fees, acquisition expenses (including expenses relating to potential investments that do not close), disposition fees on the resale of property and other expenses connected with the acquisition, disposition and ownership of real estate interests, loans or other property (including the costs of foreclosure, insurance premiums, legal services, maintenance, repair and improvement of property). Operating expenses for the four quarters ended December 31, 2016 did not exceed the charter imposed limitation.
Allocated payroll associated with a portion of the compensation paid by the Advisor or its affiliates to the Company’s executive officers was included in general and administrative expenses in the consolidated statements of operations and comprehensive loss and was reimbursed to the Advisor during the years ended December 31, 2016 and 2015.
Allocated payroll expense from the Manager is included in rental operating expenses in the consolidated statements of operations and comprehensive loss. Allocated payroll for the years ended December 31, 2016 and 2015 was $971,516 and $319,284, respectively.
NOTE 15 – SUBSEQUENT EVENTS
On January 31, 2017, the Company entered into a $38.3 million secured mortgage loan with CBRE Capital Markets, Inc. (the "Woods at Burnsville Loan"), secured by The Woods at Burnsville. The Woods at Burnsville Loan, which matures on February 1, 2024, bears interest at a floating rate of one-month LIBOR plus 2.13%. Monthly payments are initially interest only. Beginning with the March 2019 payment, monthly payments will include interest and principal, which based on current rates, amounts to approximately $159,200 per month.
On March 28, 2017, the Board of Directors approved the following distributions: daily accrual amount of $0.00164384 per shareof common stock for the period from March 31, 2017 through and including June 29, 2017, payable on April 28, 2017, May 31, 2017 and June 30, 2017.
The Company has evaluated subsequent events and determined that no events have occurred, other than those disclosed above, which would require an adjustment to the consolidated financial statements.

F- 30


RESOURCE REAL ESTATE OPPORTUNITY REIT II, Inc.   
SCHEDULE III
Real Estate and Accumulated Depreciation
December 31, 2016
(in thousands)



Column A
 
Column B
 
Column C
 
Column D
 
Column E
 
Column F
 
Column G
 
Column H
Description
 
Encumbrances
 
Initial cost to Company
 
Cost capitalized subsequent to acquisition
 
Gross Amount at which carried at close of period
 
Accumulated Depreciation
 
Date of Construction
 
Date Acquired
Real estate owned:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential
 
—

 
9,149

 
2,825

 
11,973

 
(1,413
)
 
1980
 
6/4/2014
Dallas, Texas
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential
 
31,075

 
45,824

 
3,990

 
49,814

 
(4,008
)
 
1999
 
12/19/2014
Fort Worth, Texas
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential
 
20,200

 
31,856

 
3,906

 
35,762

 
(2,136
)
 
1989
 
3/30/2015
Atlanta, Georgia
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential
 
32,000

 
45,653

 
3,676

 
49,329

 
(2,863
)
 
1990
 
5/19/2015
Chapel Hill, North Carolina
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential
 
21,494

 
30,002

 
4,030

 
34,033

 
(1,650
)
 
1968
 
8/21/2015
Homewood, Alabama
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential
 
25,500

 
20,667

 
2,254

 
22,920

 
(1,183
)
 
1979
 
8/27/2015
Dallas, Texas
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential
 
24,600

 
40,194

 
2,450

 
42,645

 
(1,892
)
 
1995
 
9/24/2015
Atlanta Georgia
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential
 
21,083

 
32,131

 
1,008

 
33,138

 
(1,393
)
 
2004
 
10/29/2015
Portland, Oregon
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential
 
42,395

 
66,213

 
3,191

 
69,404

 
(2,391
)
 
1991
 
12/18/2015
Naperville, Illinois
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential
 
37,300

 
64,181

 
2,162

 
66,343

 
(1,810
)
 
1997
 
12/18/2015
Boulder, Colorado
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential
 
40,200

 
59,059

 
3,281

 
62,340

 
(1,851
)
 
1984
 
1/22/2016
Centennial, Colorado
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential
 
28,292

 
55,466

 
1,875

 
57,341

 
(1,551
)
 
2001
 
3/23/2016
Austin, Texas
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

F- 31


RESOURCE REAL ESTATE OPPORTUNITY REIT II, Inc.   
SCHEDULE III
Real Estate and Accumulated Depreciation
December 31, 2016
(in thousands)



Column A
 
Column B
 
Column C
 
Column D
 
Column E
 
Column F
 
Column G
 
Column H
Description
 
Encumbrances
 
Initial cost to Company
 
Cost capitalized subsequent to acquisition
 
Gross Amount at which carried at close of period
 
Accumulated Depreciation
 
Date of Construction
 
Date Acquired
Residential
 
52,975

 
80,155

 
(323
)
 
79,832

 
(1,636
)
 
1985
 
5/17/2016
Portland, Oregon
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential
 
45,700

 
68,454

 
740

 
69,194

 
(1,231
)
 
1991
 
6/28/2016
Irving, Texas
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential
 
38,320

 
47,817

 
(12
)
 
47,805

 
 
 
1986
 
12/22/2016
Buffalo Grove, Illinois
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential
 
—

 
49,775

 
(51
)
 
49,723

 
 
 
1984
 
12/23/2016
Burnsville, Minnesota
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
$
461,133

 
$
746,595

 
$
35,001

 
$
781,595

 
$
(27,007
)
 
 
 
 



 
 
Years Ended 
 December 31,
 
 
2016
 
2015
 
 
(in thousands)
Investments in real estate:
 
 
 
 
Balance at beginning of the year
 
$
392,620

 
$
54,883

Additions during the year:
 
—

 
—

Acquisitions
 
361,558

 
330,059

Improvements, etc.
 
31,334

 
9,359

Dispositions during the year:
 
(3,917
)
 
(1,680
)
Balance at end of year
 
$
781,595

 
$
392,620

 
 
 
 
 
Accumulated Depreciation:
 
 
 
 
Balance at beginning of year
 
$
(5,295
)
 
$
180

Depreciation
 
(21,870
)
 
5,120

Disposals
 
158

 
(4
)
Balance at the end of year
 
$
(27,007
)
 
$
5,295



F- 32