-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, OmUxUK5OqyXH3UJuvmA0lK9Rfljqvwqh1H9556eRs/3W2ftTGhluCOy4S+/zDszV h+Q5FfOsGAHUT1OnuqNqnw== 0000890566-99-000508.txt : 19990416 0000890566-99-000508.hdr.sgml : 19990416 ACCESSION NUMBER: 0000890566-99-000508 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19981231 FILED AS OF DATE: 19990415 FILER: COMPANY DATA: COMPANY CONFORMED NAME: SIERRA PACIFIC DEVELOPMENT FUND II CENTRAL INDEX KEY: 0000719606 STANDARD INDUSTRIAL CLASSIFICATION: REAL ESTATE [6500] IRS NUMBER: 953856271 STATE OF INCORPORATION: CA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-12036 FILM NUMBER: 99594219 BUSINESS ADDRESS: STREET 1: 5850 SAN FELIPE STREET 2: STE 500 CITY: HOUSTON STATE: TX ZIP: 77057 BUSINESS PHONE: 7137066271 MAIL ADDRESS: STREET 1: 5850 SAN FELIPE STREET 2: STE 500 CITY: HOUSTON STATE: TX ZIP: 77057 10-K 1 SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 Form 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (D) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 1998 Commission file number: 0-12036 SIERRA PACIFIC DEVELOPMENT FUND II (A CALIFORNIA LIMITED PARTNERSHIP) State of California 95-3856271 - ------------------------------------- --------------------------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) 5850 San Felipe, Suite 450 Houston, Texas 77057 - ------------------------------------- --------------------------------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (713) 706-6271 -------------------------------------------- 5850 San Felipe, Suite 500 Houston, Texas 77057 - ------------------------------------------------------------------------------ (Former name or former address, if changed since last report) Securities registered pursuant to Section 12 (b) of the Act: TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED ------------------- ----------------------------------------- None None Securities registered pursuant to Section 12 (g) of the Act: 120,000 LIMITED PARTNERSHIP UNITS Title of class Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for 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 X. No__. DOCUMENTS INCORPORATED BY REFERENCE Annual Report to Limited Partners for the Year Ended December 31, 1998 is incorporated by reference into Parts II and III 1 PART I ITEM 1. BUSINESS (a.) GENERAL DEVELOPMENT OF BUSINESS. Sierra Pacific Development Fund II (the "Partnership") is a California limited partnership that was formed in April 1983 for the purpose of acquiring, developing, and operating commercial and industrial real estate. The Partnership's activities during the preceding five years have involved the ownership and operation of four real estate projects in Texas: RENTABLE SQUARE PROJECT NAME, LOCATION TYPE OF REAL ESTATE FOOTAGE ------------------------------------ ------------------- -------- Sierra Technology Center, Austin (A) Industrial/office 108,205 Sierra Westlakes, San Antonio Industrial/office 95,370 Sierra Southwest Pointe, Houston Industrial/warehouse 100,649 5850 San Felipe, Houston (B) Office 100,465 (A) SOLD DECEMBER 1994. (B) ACQUIRED DECEMBER 1994 AS PARTIAL COMPENSATION FOR THE SALE OF SIERRA TECHNOLOGY CENTER. In December 1997, Sierra Southwest Point LLC ("SSPLLC") was formed with the Partnership being the sole member. This company was formed solely to engage in the following activities: a) to acquire from Sierra Pacific Development Fund II the property known as Sierra Southwest Pointe b) to own, hold, sell, assign, transfer, operate, lease, mortgage, pledge and otherwise deal with the Property, c) to exercise all powers enumerated in the Delaware Limited Liability Company Act necessary or convenient to conduct, promotion or attainment of the business or purposes otherwise set forth. The Sierra Southwest Pointe property was transferred at no cost from the Partnership to SSPLLC. In December 1994, the Partnership sold Sierra Technology Center for $6,000,000. The sale proceeds were received in cash, a note receivable from the buyer, and equity in the 5850 San Felipe property. A gain of $539,835 was recorded in 1994 with an additional gain of $736,271 deferred to subsequent years, to be recognized when the note receivable is collected. In 1985, Sierra Mira Mesa Partners ("SMMP"), a California general partnership, was formed with Sierra Pacific Pension Investors `84 ("SPPI'84"). SMMP was initially created to develop and operate the office building known as Sierra Mira Mesa in San Diego, California. The Partnership's initial ownership interest in SMMP was 51%; the remaining 49% was owned by SPPI'84. Effective December 31, 1996, the general partners amended the partnership agreement to allow for adjustments in the sharing ratio each year based upon the relative net contributions and distributions since inception of each general partner. As a result, the sharing ratio in effect for 1997 was 45.58% for the Partnership and 54.42% for SPPI'84. In conjunction with this amendment, the general partners forgave the December 31, 1996 balances of advances due from SMMP and included these amounts as adjustments to their respective equity accounts. The sharing ratio in effect for 1998 was 33.74% for the Partnership and 66.26% for SPPI'84. On January 1, 1999 the sharing ratio will be decreased to 33.01% for the Partnership and increased to 66.99% for SPPI'84 to reflect the 1998 contributions and distributions. SMMP also holds an 88.59% interest in Sorrento I Partners (a California general partnership with Sierra Pacific Development Fund III formed in 1993), a 33.55% interest in Sorrento II Partners (a California general partnership with Sierra Pacific Institutional Properties V formed in 1993), a 9.33% interest in Sierra Creekside Partners (a California general partnership with Sierra Pacific Development Fund formed in 1994), and a 34.51% interest in Sierra Vista Partners (a California general partnership with Sierra Pacific Development Fund III formed in 1994). Audited financial statements of Sierra Mira Mesa Partners and Sorrento II Partners are included in the Annual Report to the Limited Partners attached as an Exhibit. (b.) NARRATIVE DESCRIPTION OF BUSINESS. The Partnership owns and operates three projects in Texas as described above. Each of the projects is occupied by more than one tenant, the most significant of which is Sears at Sierra Westlakes. Rental income from Sears totaled $432,000, or 19%, of total 1998 rental income. 2 There is significant competition in the office and industrial building rental market in the Partnership's trade area. Appraisals performed at the end of 1994 identified numerous projects near the Partnership's properties that offered similar amenities at comparable rental rates. (c.) COMPARISON OF CURRENT ACTIVITIES TO THOSE PROPOSED AT THE INITIATION OF THE PARTNERSHIP. In the Partnership's prospectus dated August 5, 1983, the investment objectives were described as follows: "The Partnership has been formed to acquire and operate commercial and industrial real properties, including both properties which are to be developed by the Partnership or are under development or construction and properties which are newly-constructed or have operating histories. The principal investment objectives of the Partnership are: (i) to preserve, protect, and return the Partnership's invested capital; (ii) to attempt to maximize capital gains through long-term appreciation in the value of the Partnership's real estate investments, which, if substantial, may disproportionately benefit holders of Class A Units; (iii) to provide the Limited Partners with cash distributions from operations; (iv) to provide federal income tax deductions so that all or a portion of any cash from operations distributable to the holders of Class B Units may be treated as a return of capital for tax purposes and, therefore, may not represent taxable income; and (v) to attempt to sell the Partnership's real estate investments for cash after an approximate three to five year holding period. There is no assurance that such objectives will be attained." Operations of the Partnership through 1998 have been consistent with the intent of the original prospectus in that the Partnership has invested in real estate projects that had the potential for capital gains, preservation of capital, and providing distributable cash flow partially sheltered from Federal income tax. However, the Partnership and its real estate have been adversely affected by the Tax Reform Act of 1986, aggressive lending by banks that resulted in commercial real estate overbuilding, and subsequent severe recessions. The original intention to sell its real estate investments after a three to five year holding period has been delayed indefinitely. As of December 31, 1998, the Partnership had paid cash distributions of $64.80 for each $250 unit investment and remaining partners' equity was computed at $144.62 per unit. Thus, if the Partnership were to be liquidated at the end of 1998 at book value, each $250 investment would have returned a total of $209.42. The General Partner's goal is to continue operating the properties until such time as rental rates return to the level necessary to support new commercial and industrial building development. At that time, the properties may be sold at prices substantially greater than current book values. ITEM 2. PROPERTIES The Partnership owns three properties in Texas including one office building and two industrial buildings. The three buildings represent 296,484 square feet of rentable space. Details of the individual properties and the respective tenants/leases follow. During 1998, the Partnership owned a 33.74% interest in a fourth property - Sierra Mira Mesa, an office building in San Diego, California. The Partnership also had an indirect 29.89% interest in an industrial property known as Sorrento I in San Diego, California. Ownership interest is subject to adjustment yearly based upon the relative contributions of the partners. 5850 SAN FELIPE - HOUSTON, TEXAS This property includes one office building comprising 100,465 rentable square feet and is 96% occupied at December 31, 1998. The average effective annual rent per square foot at December 31, 1998 is $11.36. The principal businesses carried on from the building are of the service sector - executive suites, property management, health care and governmental services. The property is encumbered by a mortgage lien in favor of Mutual Life Insurance Company of New York with a principal balance of $3,000,000 at December 31, 1998. In March 1996, the loan was modified to reduce the interest rate on this debt to 5% from the previous 8.5% in exchange for a principal paydown of $1,002,000. The loan requires monthly, interest-only payments through April 2004, the loan maturity date. Assuming no prepayment of principal, the principal balance due at maturity will be $3,000,000. No prepayment penalty is associated with this mortgage loan. 3 SUMMARY OF SIGNIFICANT TENANTS As of December 31, 1998, thirty tenants occupy the office building. Two tenants, an executive suite service company and health care service company, occupy more than ten percent of the rentable square footage of the building. Details of the significant leases are as follows:
PERCENT OF SQUARE FEET RENTABLE SQUARE EFFECTIVE RENT EFFECTIVE RENT PERCENT OF GROSS TENANTS OF 5850 SAN FELIPE OCCUPIED FEET PER SQUARE FOOT PER ANNUM ANNUAL RENT EXPIRATION OF LEASE - ------------------------------------------------------------------------------------------------------------------------------------ Third Coast Business Centers 17,502 17% $ 9.26 $ 162,099 15% December 2004 Kimberly Home Health ........ 10,903 11% 10.90 118,874 11% September 2001 Kimberly Home Health ........ 1,746 2% 13.00 22,698 2% April 2003 Tenants Occupying <10% sq ft 66,426 66% 11.95 793,922 72% Various -------------------------------------------------------------------------------- Total Rented Space .......... 96,577 96% $ 11.36 $1,097,593 100% Vacancies ................... 3,888 4% ---------------------------- Total Rentable Space ........ 100,465 100% ============================
Reference is made to Item 13 of Form 10-K for a further discussion of Third Coast Business Centers. SUMMARY OF LEASES BY EXPIRATION Two tenants in 5850 San Felipe are on month to month leases, the other twenty-eight tenants are on leases scheduled to expire over the next nine years as indicated in the table below. Year of expiration .... 1999 2000 2001 2002 2003 2004 2005 2006 2007 Number of tenants ..... 4 3 7 6 5 1 1 0 1 Percent of tot. tenants 13% 10% 24% 20% 17% 3% 3% 0% 3% Tot. area (sq. feet) .. 4,943 3,855 26,204 21,777 11,719 17,502 2,197 0 6,656 Annual rent ........... $ 55,212 $ 44,969 $ 293,142 $ 249,851 $ 159,514 $ 162,099 $ 29,816 $ 0 $ 90,240 Per. gross annual rent 5% 4% 27% 23% 14% 15% 3% 0% 8%
Year of expiration .... Totals Number of tenants ..... 28 Percent of tot. tenants 93% Tot. area (sq. feet) .. 94,853 Annual rent ........... $1,084,843 Per. gross annual rent 99%
SIERRA SOUTHWEST POINTE - HOUSTON, TEXAS This property includes one industrial building comprising 100,649 rentable square feet and is 94% occupied at December 31, 1998. The average effective annual rent per square foot at December 31, 1998 is $5.11. The principal businesses carried on from the building are healthcare, manufacturing, retail, fitness, and church services. The property was encumbered by a mortgage lien in favor of American General Mortgage Company with a principal balance of $1,069,837 at September 30, 1997, the loan maturity date. The mortgage bore interest at 10% and was payable in monthly installments of $14,207 through September 1997, the loan maturity date. Upon maturity of this loan, Heller Financial Corporation provided $1,300,000 secured by a mortgage lien collateralized by certain land and buildings. The new loan is due in monthly interest only payments computed at the LIBOR rate plus 300 basis points. This note matures in January 1999. The loan contains an option to convert the note to a fixed interest rate and extend the maturity date ten years from date the option is exercised. The Partnership has decided to exercise this option and is currently negotiating extension terms with the lender. Management anticipates a fixed interest rate equal to the U.S. Government Security rate plus 250 basis points with monthly interest and principal payments based on a thirty-year amotization. The obiligee of the note is Sierra Southwest Pointe, LLC. 4 Summary of Significant Tenants Nineteen tenants occupy the building at December 31, 1998. No tenant occupies ten percent or more of the rentable square footage of the building as of December 31, 1998. SUMMARY OF LEASES BY EXPIRATION There are three month to month leases and sixteen term leases that are scheduled to expire over the next five years as indicated in the table below.
Year of expiration ...... 1999 2000 2001 2002 2003 Totals Number of tenants ....... 8 3 3 0 2 16 Percent of total tenants 42% 16% 16% 0% 10% 84% Total area (square feet) 42,590 16,892 9,796 0 11,892 81,170 Annual rent ............. $199,467 $ 91,155 $ 62,079 $ 0 $ 94,490 $447,191 Percent gross annual rent 41% 19% 13% 0% 19% 92%
SIERRA WESTLAKES DEVELOPMENT - SAN ANTONIO, TEXAS This property includes one industrial building comprising 95,370 rentable square feet and is 75% occupied at December 31, 1998. The average effective annual rent per square foot at December 31, 1998 is $8.67. The property has only two tenants whose principal businesses are distribution and manufacturing. Details of their leases follow. The property is encumbered by a mortgage lien in favor of Westmark Commercial Mortgage Fund II with a principal balance of $1,931,204 at December 31, 1998. The mortgage bears interest at 9% and is payable in monthly installments of $16,784 through March 2006, the loan maturity date. Payments are amortized over a 300 month period with a principal balance of $1,654,784 due at maturity assuming no payment has been made on principal in advance of its due date.
PERCENT OF TENANTS OF SQUARE FEET RENTABLE SQUARE EFFECTIVE RENT EFFECTIVE RENT PERCENT OF GROSS SIERRA WESTLAKES DEVELOPMENT OCCUPIED FEET PER SQUARE FOOT PER ANNUM ANNUAL RENT EXPIRATION OF LEASE - ------------------------------------------------------------------------------------------------------------------------------------ Sears ....................... 45,935 48% $ 9.40 $431,789 70% December 2007 Felco Office Systems ........ 25,357 27% 7.35 186,323 30% February 2001 --------------------------------------------------------------------------- Total Rented Space .......... 71,292 75% $ 8.67 $618,112 100% Vacancies ................... 24,078 25% ----------------------- Total Rentable Space ........ 95,370 100% =======================
DEPRECIABLE PROPERTY Reference is made to Schedule III of Form 10-K. 5 REAL ESTATE TAXES Real Estate Tax as % of 1998 Real Assessed Estate Tax Property Value Obligation - ----------------------------------------------------------------- o 5850 San Felipe Houston, Texas ............... 2.84% $106,804 o Sierra Southwest Pointe Houston, Texas ................ 3.01% $ 66,943 o Sierra Westlake Development San Antonio, Texas ............ 2.84% $ 88,876 INSURANCE In the opinion of management, the properties are adequately covered by insurance. SIERRA MIRA MESA - SAN DIEGO, CALIFORNIA Sierra Mira Mesa office building consists of 89,560 rentable square feet and is 100% occupied at December 31, 1998. The principal business carried on from the building is insurance. The average effective annual rent per square foot at December 31, 1998 is $19.51. SUMMARY OF SIGNIFICANT TENANTS Only one of the five tenants occupies ten percent or more of the rentable square footage of the building. The principal business of this significant tenant is insurance. Details of this significant tenant and its lease follow:
PERCENT OF SQUARE FEET RENTABLE SQUARE EFFECTIVE RENT EFFECTIVE RENT PERCENT OF GROSS TENANTS OCCUPIED FEET PER SQUARE FOOT PER ANNUM ANNUAL RENT EXPIRATION OF LEASE - ------------------------------------------------------------------------------------------------------------------------------------ State Comp. Insurance Fund .. 74,567 83% $ 19.79 $1,475,948 85% February 2003 Tenants Occupying <10% sq ft 14,888 17% 18.07 269,099 15% Various --------------------------------------------------------------------------- Total Rented Space .......... 89,455 100% $ 19.51 $1,745,047 100% Vacancies ................... 105 0% ----------------------- Total Rentable Space ........ 89,560 100% =======================
SUMMARY OF LEASES BY EXPIRATION The Property's five tenants have leases scheduled to expire over the next ten years as scheduled below.
Year of expiration .... 1999 2000 2001 2002 2003 2004 2005 Number of tenants ..... 1 0 1 0 1 1 0 Percent of tot. tenants 20% 0% 20% 0% 20% 20% 0% Tot. area (square feet) 2,651 0 762 0 74,567 4,762 0 Annual rent ........... $ 40,607 $ 0 $ 12,000 $ 0 $1,475,948 $ 61,745 $ 0 Per. gross annual rent 2% 0% 1% 0% 84% 4% 0% Year of expiration .... 2006 2007 2008 Totals Number of tenants ..... 0 0 1 5 Percent of tot. tenants 0% 0% 20% 100% Tot. area (square feet) 0 0 6,713 89,455 Annual rent ........... $ 0 $ 0 $ 154,747 $1,745,047 Per. gross annual rent 0% 0% 9% 100%
6 DEPRECIABLE PROPERTY Sierra Mira Mesa, San Diego, California Office Building - Income-Producing Property TENANT LAND BUILDINGS IMPROVEMENTS TOTAL ------------------------------------------------------- Historical Cost & Tax Basis ............... $ 2,480,940 $ 6,234,452 $ 581,373 $ 9,296,765 Accumulated Depreciation ........ -- (2,389,205) (245,027) (2,634,232) ------------------------------------------------------- Net Carrying Value .. $ 2,480,940 $ 3,845,247 $ 336,346 $ 6,662,533 ======================================================= Depreciation Method.. Not Applicable Straight-line Straight-line Depreciable Life .... Not Applicable 5-30 Years 1-10 Years REAL ESTATE TAXES The real estate tax obligation for 1998 is approximately 1.12% of the assessed value or $71,184. INSURANCE In the opinion of management, the property is adequately covered by insurance. ENCUMBRANCES The property is encumbered by a mortgage lien in favor of Lincoln National Life Insurance Company with a principal balance of $4,802,191 at December 31, 1998. The mortgage bears interest at 7.74%. Monthly principal and interest payments of $51,739 are due through maturity at October 2010. The note is subject to prepayment penalties of approximately 1% of the outstanding principal balance between months 25 and 177 of the loan term. No prepayment is allowed during the first two years of the loan and no prepayment penalty will be imposed if prepayment occurs in the final three months of the loan term. SORRENTO I - SAN DIEGO, CALIFORNIA Sorrento I is an industrial building with 43,100 square feet of rentable space. One tenant began leasing the entire 43,100 rentable square feet of Sorrento I in 1996. Rental income of $23,636 per month is recognized under this lease, which expires in April 2003. The effective annual rent per square foot at December 31, 1998 is $6.58. The principal business of the tenant is research and development in the communications sector. DEPRECIABLE PROPERTY Sorrento I, San Diego, California Office Building - Income-Producing Property TENANT LAND BUILDINGS IMPROVEMENTS TOTAL ------------------------------------------------------- Historical Cost & Tax Basis ............... $ 1,305,518 $ 1,342,683 $ 329,299 $ 2,977,500 Accumulated Depreciation ........ -- (526,906) (112,833) (639,739) ------------------------------------------------------- Net Carrying Value .. $ 1,305,518 $ 815,777 $ 216,466 $ 2,337,761 ======================================================= Depreciation Method.. Not Applicable Straight-line Straight-line Depreciable Life .... Not Applicable 10-30 Years 7-10 Years 7 REAL ESTATE TAXES The real estate tax obligation for 1998 is approximately 1.12% of the assessed value or $29,144. INSURANCE In the opinion of management, the property is adequately covered by insurance. ENCUMBRANCES Sorrento I Partners ("SIP") had a non-recourse bank note payable with an original principal balance of $3,000,000 collateralized by the Sorrento I property. The annual interest rate of the note was variable at bank prime plus 2-1/2% with a minimum rate of 9% and maximum rate of 15-1/2%. The original maturity of the note was July 1998 and the note included a discounted payoff option of $1,500,000. CGS Real Estate Company, Inc. ("CGS"), an affiliate of the General Partner, acquired the note and security documents from the bank in May 1996. In connection with the purchase of the bank note and security documents by CGS, SIP made a principal payment to the bank of $750,000 and entered into a $750,000 note agreement with CGS (the "CGS Agreement"). The CGS Agreement, collaterized by real and personal property, called for monthly interest payments through December 1996 and monthly principal and interest payments thereafter until maturity on May 31, 2016. The interest rate is fixed at 9.34% per annum for the first year of the note and will thereafter be the one year Treasury rate plus 375 basis points. A modification agreement was entered into on September 30, 1997. The interest rate remained fixed at 9.34% through October 1998, at which time the rate converted to the one-year treasury rate plus 375 basis points (9.06% at December 31, 1998). The principal of the note on the effective date was $635,479 and is amortized over a 210-month term until maturity in March 2015. Current payments are $6,048 per month, principal and interest inclusive. The loan balance as of December 31, 1998 was $616,223. At any time upon 120 days written notice to CGS, SIP may fully discharge the note by the payment of an amount equal to $750,000 less the aggregate amount of principal paid under the note between the date of the CGS Agreement and the date of payment plus any interest due. ITEM 3. LEGAL PROCEEDINGS In November 1995, a limited partner of the Partnership, on their own behalf and on behalf of all others similarly situated, filed a lawsuit against S-P Properties, Inc., the General Partner of the Partnership, among others, in the Superior Court of the State of California, County of Los Angeles (the "Court"). This suit alleged breach of fiduciary duty and breach of contract. The Plaintiff's claims related to various loans made by the Partnership and by Sierra Mira Mesa Partners to a former affiliate of the General Partner which were allegedly improper or made below market rates. The Plaintiffs were seeking unspecified compensatory and punitive damages and removal of the General Partner. In September 1997, the Court denied the Plaintiff's motion for class certification, but granted the Plaintiff leave to file an amended complaint. The Partnership demurred to all class action allegations in the amended complaint. The Court granted the demurred without leave to amend, thereby reducing the Plaintiff's allegations to a derivative suit. The case is presently in discovery. The Partnership believes any damages awarded in favor of the Plaintiff's derivative suit would be immaterial to the Partnership's operations. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None 8 PART II ITEM 5. MARKET FOR THE REGISTRANT'S PARTNERS' EQUITY AND RELATED MATTERS As of December 31, 1998, the number of security holders is as follows: NUMBER OF NUMBER RECORD OF UNITS HOLDERS -------- --------- Limited Partners: Class A Units ........ 56,674 3,039 Class B Units ........ 29,979 794 These securities are all of the same class, namely, limited partnership interests (units) and were sold pursuant to a registration statement filed under the Securities Act of 1933, as amended. The total offering was 60,000 Class A units at $250.00 per unit and 60,000 Class B units at $250.00 per unit. No broker or dealer currently makes a market in the units of the Partnership. Accordingly, there are no published price or trading volume figures available for the units. The units have been transferred on an extremely limited extent from time-to-time since the inception of the Partnership; however, the market for the units is highly restricted and sporadic, especially in view of the investor suitability requirements imposed on new purchasers by the various state blue sky laws and the restrictions on transfer contained in the Partnership Agreement. The Partnership paid cash distributions of $0, $.58 and $3.46 per limited partnership unit during the years ended December 31, 1998, 1997 and 1996, respectively. There are no contractual or other restrictions on the Partnership's ability to make such distributions. ITEM 6. SELECTED FINANCIAL DATA The Selected Financial Data for the Partnership is filed by reference to the Annual Report to the Limited Partners attached as an Exhibit. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Management's Discussion and Analysis of Finanacial Condition and Results of Operations includes certain forward looking statements reflecting the Partnership's expectations in the near future; however, many factors which may affect the actual results, especially changing regulations, are difficult to predict. Accordingly, there is no assurance that the Partnership's expectations will be realized. Overview: The following discussion should be read in conjunction with the Selected Financial Data and the Partnership's Consolidated Financial Statements and Notes thereto incorporated by reference to the Annual Report to the Limited Partners attached as an Exhibit. As of December 31, 1998, the Partnership owns three properties, Sierra Westlakes, Sierra Southwest Pointe and 5850 San Felipe. The Partnership sold its interest in the Sierra Technology property on December 31, 1994. In addition, the Partnership holds a 33.74% interest in Sierra Mira Mesa Partners ("SMMP"). SMMP owns an office building - Sierra Mira Mesa in San Diego, California. 9 Results of Operations: COMPARISON OF YEAR ENDED DECEMBER 31, 1998 TO YEAR ENDED DECEMBER 31, 1997. Rental income increased $457,000, or 25%, primarily as a result of near maximum occupancy at 5850 San Felipe. Occupancy at the building has risen over the past two years from 72% at December 31, 1996 to 96% at December 31, 1998. Occupancy at Sierra Southwest Pointe and Sierra Westlakes remained comparable between the two years. The increase in rental income is also attributable to increased rental rates at the buildings. The weighted-average effective annual rent per square foot, on an accrual basis, increased from $10.86 to $11.36 at 5850 San Felipe and from $4.48 to $5.11 at Sierra Southwest Pointe during 1998. Rental rates at Sierra Westlakes remained comparable. Total operating expenses increased by $133,000, or 6%, when compared to the prior year. Depreciation and amortization increased primarily as a result of depreciation and amortization expenses on additional tenant improvements and lease costs associated with the increased occupancy at 5850 San Felipe. The increase in occupancy also resulted in higher utilities and management fees. In addition, property taxes were higher principally due to an increase in the assessed value of 5850 San Felipe. The increase in total operating expenses was partially offset by a decrease in legal fees. The Partnership incurred higher legal fees in 1997 defending litigation against the Partnership. The Partnership recorded a $15,000 loss in 1998 from its investment in SMMP. SMMP generated income for the year ended December 31, 1998, however the Partnership had understated its share of unconsolidated joint venture loss in the prior year and recorded a $76,000 adjustment in the first quarter of 1998. In 1997, the Partnership recorded a $285,000 loss from investment in SMMP. The loss generated by SMMP in 1997 was primarily the result of its share of loss from its joint venture partner, Sierra Vista Partners ("SVP"). SVP sold the Sierra Vista property in October 1997 and recorded a $968,000 loss from property disposition. COMPARISON OF YEAR ENDED DECEMBER 31, 1997 TO YEAR ENDED DECEMBER 31, 1996. Rental income increased $62,000, or 4%, primarily as a result of increased occupancy at 5850 San Felipe during the fourth quarter. Occupancy at the building increased from 72% at December 31, 1996 to 87% at December 31, 1997. Further, the weighted-average effective annual rent per square foot, on an accrual basis, increased from $10.33 to $10.86 at 5850 San Felipe and from $4.21 to $4.48 at Sierra Southwest Pointe during 1997. The increase in occupancy and rental rates was partially offset by the write off of rent receivable at 5850 San Felipe in August 1997. Occupancy at Sierra Southwest Pointe and Sierra Westlakes remained comparable between the two years. Operating expenses increased by $234,000, or 12%, primarily as a result of increased depreciation and amortization expenses due to additional tenant improvements associated with the increased occupancy at 5850 San Felipe and due to a full year of depreciation on the prior year renovations to the lobby of the building. Legal and accounting expenses increased $73,000, principally due to higher legal fees incurred defending litigation against the Partnership. This increase was partially offset by a decrease in property taxes and insurance resulting from a successful tax appeal at 5850 San Felipe. Interest expense decreased by $29,000, or 6%, primarily due to the restructure of the debt collateralized by 5850 San Felipe in the prior year. This modification agreement, which was effective March 22, 1996, reduced the interest rate on this debt from the previous 8.5%, in exchange for a principal paydown of approximately $1,000,000. The Partnership's share of (loss) income from investment in SMMP was ($285,000) for the year ended December 31, 1997 compared to $162,000 for the year ended December 31, 1996. The loss generated by SMMP was principally the result of its share of loss from its joint venture partner, Sierra Vista Partners ("SVP"). SVP sold the Sierra Vista property in October 1997 and recorded a $968,000 loss from property disposition. Liquidity and Capital Resources: The Partnership generated cash from operations of $242,000 during 1998. In 1998, the Partnership paid $417,000 for property additions and $109,000 for leasing commissions. The Partnership's joint venture, SMMP, made net distributions of $203,000 to assist with the funding of these expenditures. 10 In September 1997, the mortgage note on the Sierra Southwest Pointe property with a principal balance of $1,070,000 matured. A new lender funded a $1,300,000 loan to the Partnership. The new loan, which matures in January 1999, requires monthly interest-only payments computed at the LIBOR rate plus 300 basis points. The loan contains an option to convert the note to a fixed interest rate and extend the maturity date ten years from the date the option is exercised. The Partnership has decided to exercise this option and is currently negotiating extension terms with the lender. Management anticipates a fixed interest rate equal to the U.S. Government Security rate plus 250 basis points with monthly principal and interest payments based on a thirty-year amortization. The loan is secured by a trust deed on the Sierra Southwest Pointe property. The Partnership is in an illiquid position at December 31, 1998 with cash and current receivables of $158,000 and current liabilities of $489,000. The Partnership's primary capital requirements will be for the construction of new tenant space. It is anticipated that these requirements will be funded from the operation of the properties and distributions from SMMP. Inflation: The Partnership's long-term leases contain provisions designed to mitigate the adverse impact of inflation on its results from operations. Such provisions may include escalation clauses related to Consumer Price Index increases. YEAR 2000 COMPLIANCE The Year 2000 Compliance issue is the result of computer programs being written using two digits rather than four to define the applicable year. Any of the Partnership's computer programs that have time-sensitive software may recognize a date using "00" as the year 1900 rather than the year 2000. This could result in a system failure or miscalculations causing disruptions of operations, including, among other things, a temporary inability to process transactions, send invoices, or engage in similar normal business activities. As a result, many companies' software and computer systems may need to be upgraded or replaced in order to comply with Year 2000 requirements. The Partnership employs a property management company to manage, operate and lease the property. The management company believes it will be ready for the Year 2000 date change by the end of 1999. The impact of Year 2000 non-compliance by other third parties cannot accurately be gauged. The total cost to the Partnership of activities associated with Year 2000 Compliance is not anticipated to be material to its financial position or results of operations in any given year. In January 1999, the Partnership began utilizing a new software program to maintain books and records. The new software program is Year 2000 compliant. The total amount of potential risk that would be reasonably likely to result from Year 2000 failures cannot presently be estimated. In the event the Partnership does not properly identify Year 2000 issues in a timely manner, there can be no assurance that Year 2000 issues will not materially affect the Partnership's results. The Partnership's contingency plan should systems fail due to the Year 2000 date change is to temporarily convert to a manual system. The Partnership believes it could temporarily operate on a manual system without adversely impacting operations. The preceding Year 2000 discussion contains various forward-looking statements which represent the Partnership's beliefs or expectations regarding future events. All forward-looking statements involve a number of risks and uncertainties that could cause the actual results to differ materially from projected results. 11 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The following financial statements and independent auditors' report are incorporated by reference to the Annual Report to the Limited Partners attached as an Exhibit. 1. Independent Auditors' Report 2. Consolidated Balance Sheets - December 31, 1998 and 1997 3. Consolidated Statements of Operations - for the years ended December 31, 1998, 1997 and 1996 4. Consolidated Statements of Changes in Partners' Equity - for the years ended December 31, 1998, 1997 and 1996 5. Consolidated Statements of Cash Flows - for the years ended December 31, 1998, 1997 and 1996 6. Notes to Consolidated Financial Statements 7. Consolidated Balance Sheets of Sierra Mira Mesa Partners as of December 31, 1998 and 1997 and Statement of Operations, Changes in General Partners' Equity and Cash Flows for each of the three years in the period ended December 31, 1998 and Independent Auditors' Report 8. Balance Sheets of Sorrento II Partners as of December 31, 1998 and 1997 and Statement of Operations, Changes in General Partners' Equity and Cash Flows for each of the three years in the period ended December 31, 1998 and Independent Auditors' Report ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURES None 12 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF REGISTRANT The Registrant is a California Limited Partnership and has no officers or directors. S-P Properties, Inc., a California corporation, is the General Partner of the Registrant. In December 1994, Finance Factors, Inc., a subsidiary of CGS Real Estate Company, Inc., purchased the common stock of TCP, Inc. TCP, Inc. owns all of the common stock of S-P Properties, Inc. In July 1995, Finance Factors, Inc. merged with Bancor Real Estate Company, Inc., another subsidiary of CGS Real Estate Company, Inc. CGS Real Estate Company, Inc. and its affiliates are engaged in real estate management, leasing, ownership, and sales. The companies own or manage more than ten million square feet of commercial real estate in Texas, Arizona, Colorado, Missouri, California and the Carolinas. The executive officers and directors of S-P Properties, Inc. are:
APPROXIMATE NAME POSITION AGE TIME IN OFFICE - ------------------------------------------------------------------------------------------------- Thomas N. Thurber President and Director 48 4 years Dawson L. Davenport Vice President 43 4 years Steven M. Speier Secretary/Treasurer and Director 48 4 years William J. Carden Assistant Secretary/Treasurer and Director 54 4 years
Thomas N. Thurber - President and Director, S-P Properties, Inc. Mr. Thurber is a Certified Public Accountant who began his career with Arthur Andersen & Co. in 1972. In 1979, he joined a major publicly traded real estate development firm (Daon) where he became Controller for U.S. Operations. Subsequently, Mr. Thurber served as Director of Real Estate for a developer of retail properties, and Chief Financial Officer of a trust with significant investments in commercial real estate. Mr. Thurber also serves as a director of Property Secured Investments, Inc. Mr. Thurber holds a bachelors degree in accounting from Florida State University. Dawson L. Davenport - Vice President, S-P Properties, Inc. Mr. Davenport is the founder of WD Real Estate Services, a full service property management firm that became part of the Banc Commercial family of companies in 1992. Mr. Davenport has been responsible for the management, development and rehabilitation of substantial commercial, industrial, retail, and residential projects during the past seventeen years. Mr. Davenport specializes in leasing and turning around distressed properties. Steven M. Speier - Secretary/Treasurer and Director, S-P Properties, Inc. Mr. Speier who after spending two years in public accounting, went into the banking industry in 1975. During his sixteen year banking career, Mr. Speier managed a real estate loan portfolio of approximately $1.5 billion secured by properties throughout the United States. Mr. Speier brings to S-P Properties, Inc. a broad real estate background that includes management, leasing, and disposition of all categories of commercial real estate. Mr. Speier also serves as a director of IDM Corporation. Mr. Speier is a licensed real estate broker, is registered as a Certified Public Accountant, and has a masters degree in business administration from Grand Valley State University in Michigan. William J. Carden - Assistant Secretary/Treasurer and Director, S-P Properties, Inc. Mr. Carden is the founder and President of CGS Real Estate Company, Inc., which owns over one million square feet of commercial real estate. Mr. Carden founded DVM Properties, Inc. in 1974 which concentrated on rehabilitation of retail, office, industrial, and commercial real estate. Mr. Carden is a former Director of Bay Financial, a New York Stock Exchange company and currently serves as a director of Property Secured Investments, Inc. and IDM Corporation. There have been no events under any bankruptcy act, no criminal proceedings, and no judgments or injunctions material to the evaluation of the ability and integrity of any director or officer during the past five years. 13 ITEM 11. MANAGEMENT REMUNERATION The Registrant is a California Limited Partnership and has no officers or directors. No options to purchase securities of the Registrant have been granted to any person. In accordance with the terms of the Partnership Agreement, certain affiliates of the General Partner receive real estate brokerage commissions in connection with the leasing of properties by the Partnership and receive from the Partnership certain management and administrative services fees. These amounts are set forth in the Annual Report to the Limited Partners attached as an Exhibit. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT None ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The Partnership pays a management fee of 5% of the gross rental income collected from the properties to American Spectrum Real Estate Services, Inc. (ASRE), formerly Banc Commercial Texas. These fees for the year ended December 31, 1998 were $118,976. Bancor Real Estate Company, Inc. (Bancor) provides services to the Partnership such as accounting, legal, data processing and similar services and is entitled to reimbursement for expenses incurred to provide such services. Amounts so reimbursed totaled $252,201 during the year ended December 31, 1998. Additionally, the Partnership reimbursed Bancor for construction supervision costs in the amount of $16,754 during the year ended December 31, 1998. In consideration for services rendered with respect to initial leasing of Partnership properties, ASRE and Bancor are paid initial leasing costs. For the year ended December 31, 1998, a total of $49,811 was paid for initial leasing costs. Bancor and ASRE are both wholly owned subsidiaries of CGS Real Estate Company, Inc. William J. Carden, an officer and director of S-P Properties, Inc., the General Partner of the Partnership, owns 50% of CGS Real Estate Company, Inc. During 1993, the Partnership loaned funds to Carlsberg Management Company, Inc., a former affiliate of the General Partner, in the form of unsecured demand notes. Interest was paid at rates approximately 100 basis points above certificate of deposit rates established by major commercial banks. The loans reached a maximum of $1,100,000 during 1993 and were reduced to $1,000,000 at December 31, 1993. The loans were reduced to $812,000 at December 31, 1994 and the interest rate was fixed at 6%. The loan was assumed by Finance Factors, Inc. with the sale of the outstanding stock of TCP, Inc. in December 1994. In July 1995, Finance Factors, Inc. merged with Bancor Real Estate Company, Inc., who assumed the note. In 1998 and 1997, interest receivable of $54,078 and $89,298 was added to the principal balance of the note. The principal balance outstanding at December 31, 1998 is $956,376. Both Finance Factors, Inc. and Bancor Real Estate Company, Inc. are wholly owned subsidiaries of CGS Real Estate Company, Inc. Bancor Real Estate Company, Inc., dba Third Coast Business Centers, leases 17,502 square feet of 5850 San Felipe, a property of the Partnership. In addition, ASRE began leasing 5,339 square feet of 5850 San Felipe in January 1998. The terms of the leases are consistent with the current market conditions for office space in the area of the property. The Partnership recognized rental income of $219,760 during the year ended December 31, 1998 related to these leases. On December 30, 1994, the Sierra Technology property with a historical cost basis of $3,849,228 was sold for $6,000,000 ($3,100,000 cash down-payment and $2,900,000 trust deed note) to Texas DVM, Inc. The original note called for monthly interest only payments and bore interest of 10% per annum until December 31, 1997, when the entire indebtedness was due in full. In 1997, the maturity date was extended to December 31, 1998 and interest receivable of $290,000 was added to the principal balance. In 1998, the maturity date was extended to December 31, 1999 and interest receivable of $319,000 was added to the principal balance of the note. All other terms of the original note remained unchanged. The principal balance outstanding at December 31, 1998 is $3,509,000. CGS Real Estate Company, Inc. owns Texas DVM, Inc. 14 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K A. EXHIBITS 1. Annual Report to the Limited Partners 2. Exhibit Number 27 - Selected Financial Data B. FINANCIAL STATEMENT SCHEDULES The following financial statement schedules and the report of the independent auditors thereon are included herein: 1. Schedule II - Valuation and Qualifying Accounts and Reserves - for the years ended December 31, 1998, 1997 and 1996 2. Schedule III - Real Estate and Accumulated Depreciation - December 31, 1998 All other financial statement schedules are omitted as they either are not required or are not applicable, or the required information is set forth in the financial statements and notes thereto. C. REPORTS ON FORM 8-K None 15 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. SIERRA PACIFIC DEVELOPMENT FUND II a California Limited Partnership S-P PROPERTIES, INC. General Partner Date: March 19, 1999 /s/ THOMAS N. THURBER ---------------------------- -------------------------------------- Thomas N. Thurber President and Director Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. Date: March 19, 1999 /s/ THOMAS N. THURBER ---------------------------- -------------------------------------- Thomas N. Thurber President and Director S-P Properties, Inc. Date: March 19, 1999 /s/ WILLIAM J. CARDEN ---------------------------- -------------------------------------- William J. Carden Assistant Secretary/Treasurer and Director S-P Properties, Inc. Date: March 19, 1999 /s/ G. ANTHONY EPPOLITO ---------------------------- -------------------------------------- G. Anthony Eppolito Chief Accountant S-P Properties, Inc. 16 INDEPENDENT AUDITORS' REPORT ON FINANCIAL STATEMENT SCHEDULES To the Partners of Sierra Pacific Development Fund II We have audited the consolidated financial statements of Sierra Pacific Development Fund II and subsidiary, a California limited partnership, (the "Partnership") as of December 31, 1998 and 1997, and for each of the three years in the period ended December 31, 1998 and have issued our report thereon dated March 12, 1999. Such consolidated financial statements and reports are included in your 1998 Annual Report to the Limited Partners and are incorporated herein by reference. Our audits also included the financial statement schedules of Sierra Pacific Development Fund II, listed in Item 14. These financial statement schedules are the responsibility of the Partnership's management. Our responsibility is to express an opinion based on our audits. In our opinion, such consolidated financial statement schedules, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly in all material respects the information set forth therein. DELOITTE & TOUCHE LLP Houston, Texas March 12, 1999 17 SCHEDULE II - FORM 10-K SIERRA PACIFIC DEVELOPMENT FUND II AND SUBSIDIARY VALUATION AND QUALIFYING ACCOUNTS AND RESERVES For the Years Ended December 31, 1998, 1997 and 1996 - -------------------------------------------------------------------------------- INCOME - PRODUCING PROPERTIES ---------- Allowance for loss - January 1, 1996 ............................. $ 450,000 Provision charged to costs and expenses (1) ............................................ 0 ---------- Allowance for loss - December 31, 1996 ........................... 450,000 Provision charged to costs and expenses (1) ............................................ 0 ---------- Allowance for Loss - December 31, 1997 ........................... 450,000 Provision charged to costs and expenses (1) ............................................ 0 ---------- Allowance for loss - December 31, 1998 ........................... $ 450,000 ========== (1) See Notes 1 and 4 to consolidated financial statements incorporated by reference to the Annual Report to the Limited Partners attached as an Exhibit. 18 SCHEDULE III - FORM 10-K SIERRA PACIFIC DEVELOPMENT FUND II AND SUBSIDIARY REAL ESTATE AND ACCUMULATED DEPRECIATION DECEMBER 31, 1998
- ------------------------------------------------------------------------------------------------------------------------------ INITIAL COST IMPROVEMENTS GROSS AMOUNT AT TO PARTNERSHIP (1) CAPITALIZED WHICH CARRIED AT CLOSE OF PERIOD ------------------------- --------------------------------------- ENCUMB- IMPROVE- AFTER ACQUIS- IMPROVE- TOTAL DESCRIPTION RANCES LAND MENTS ITION (2) LAND MENTS (3)(4)(5) ----------------------------------------------------------------------------------------------- OFFICE/INDUSTRIAL BUILDINGS INCOME -PRODUCING: 5850 San Felipe Houston, Texas ........... $ 3,000,000 $ 1,950,000 $ 2,806,932 $ 2,098,298 $ 1,950,000 $ 4,878,821 $ 6,828,821 Sierra Southwest Pointe Houston, Texas ........... 1,300,000 570,124 2,279,488 449,629 570,124 2,545,607 3,115,731 Sierra Westlakes Development Houston, Texas ........... 1,931,204 1,743,622 -- 3,748,667 1,743,622 2,328,788 4,072,410 ----------------------------------------------------------------------------------------------- TOTAL ...................... $ 6,231,204 $ 4,263,746 $ 5,086,420 $ 6,296,594 $ 4,263,746 $ 9,753,216 $14,016,962 =============================================================================================== ACCUMULATED DATE DATE DEPRECIATION DESCRIPTION DEPRECIATION(5) CONSTRUCTED ACQUIRED LIFE -------------------------------------------------------- OFFICE/INDUSTRIAL BUILDINGS INCOME -PRODUCING: 5850 San Felipe Houston, Texas ........... $ 1,015,858 3/77 12/94 1-30 yrs. Sierra Southwest Pointe Houston, Texas ........... 668,342 8/72 7/91 2-30 yrs. Sierra Westlakes Development Houston, Texas ........... 983,458 10/85 8/84 1-30 yrs. ----------- TOTAL ...................... $ 2,667,658 ===========
(1) The initial cost represents the original purchase price of the property. (2) The Partnership has capitalized property development costs. (3) Also represents costs for Federal Income Tax purposes. (4) A valuation allowance of $450,000 was established as the appraised value of the properties declined below book value. See Notes 1 and 4 to the financial statements incorporated by reference to the Annual Report to the Limited Partners attached as an exhibit. (5) Reconciliation of total real estate carrying value and accumulated depreciation for the three years ended December 31, 1998 is as follows: TOTAL REAL ESTATE ACCUMULATED CARRYING VALUE DEPRECIATION --------------- --------------- Balance - January 1, 1996 .................. $ 13,691,618 $ 2,341,220 Additions during the year ............... 848,511 542,460 Write off fully depreciated assets ...... (111,525) (111,525) --------------- --------------- Balance - December 31, 1996 ................ 14,428,604 2,772,155 Additions during the year ............... 676,666 670,736 Write off fully depreciated assets ...... (37,220) (37,220) --------------- --------------- Balance - December 31, 1997 ................ 15,068,050 3,405,671 Additions during the year .............. 416,813 729,887 Write off fully depreciated assets ..... (1,467,901) (1,467,901) --------------- --------------- Balance - December 31, 1998 ................ $ 14,016,962 $ 2,667,658 =============== =============== 19 SIERRA PACIFIC DEVELOPMENT FUND II AND SUBSIDIARY (A California Limited Partnership) SELECTED FINANCIAL DATA For the Years Ended December 31, 1998,1997,1996,1995 and 1994 The following table sets forth certain selected historical financial data of the Partnership. The selected operating and financial position data as of and for each of the five years ended December 31, 1998 have been derived from the audited financial statements of the Partnership. This information should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the Consolidated Financial Statements and Notes thereto which are incorporated by reference to the Annual Report to the Limited Partners attached as an Exhibit.
1998 1997 1996 1995 1994 ------------ ------------ ------------ ------------ ------------ REVENUES ...................................... $ 2,673,328 $ 2,179,772 $ 2,128,491 $ 2,081,670 $ 1,842,321 OPERATING EXPENSES: Total ....................................... 2,392,838 2,259,482 2,025,153 1,835,944 1,976,381 Per dollar of revenues ...................... 0.90 1.04 0.95 0.88 1.07 INTEREST EXPENSE: Total ....................................... 439,499 435,818 464,880 461,567 126,173 Per dollar of revenues ...................... 0.16 0.20 0.22 0.22 0.07 NET (LOSS) INCOME FROM CONTINUING OPERATIONS: Total ....................................... (173,921) (800,406) (548,350) (523,440) 157,470 General Partner ............................. 0 0 0 0 25,998 Limited Partners ............................ (173,921) (800,406) (548,350) (523,440) 131,472 Per Unit (1) ................................ (2.01) (9.24) (6.32) (6.04) 1.52 CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES ........................ 241,502 (672,814) 401,092 (841,813) 1,038,686 CASH (USED IN) PROVIDED BY INVESTING ACTIVITIES ........................ (213,813) 611,134 (848,511) (374,172) 1,435,165 CASH (USED IN) PROVIDED BY FINANCING ACTIVITIES ........................ (26,299) 108,508 267,418 (122,354) (1,096,914) TOTAL ASSETS .................................. 19,342,914 19,477,303 20,229,858 19,676,261 20,948,592 PARTNERS' EQUITY: Total ....................................... 12,531,889 12,705,810 13,556,216 14,055,860 14,779,300 General Partner ............................. 0 0 0 0 0 Limited Partners Class A ................................... 8,196,299 8,310,049 8,866,234 9,193,008 9,666,163 Class B ................................... 4,335,590 4,395,761 4,689,982 4,862,852 5,113,137 LIMITED PARTNERS' EQUITY - PER UNIT (1) ....... 144.62 146.63 156.45 162.21 170.56 NOTE RECEIVABLE ............................... 2,772,729 2,453,729 2,163,729 2,163,729 2,163,729 INCOME-PRODUCING PROPERTIES: Number ...................................... 3 3 3 3 3 Cost ........................................ 14,016,962 15,068,050 14,428,604 13,691,618 13,288,847 Less: Accumulated depreciation .............. (2,667,658) (3,405,671) (2,772,155) (2,341,220) (1,895,469) Valuation allowance ................ (450,000) (450,000) (450,000) (450,000) (450,000) Net book value .............................. 10,899,304 11,212,379 11,206,449 10,900,398 10,943,378 INVESTMENT IN UNCONSOLIDATED JOINT VENTURE ............................... 3,193,894 3,416,664 4,838,609 4,681,570 5,035,779 NOTES PAYABLE - Related to income- producing property .......................... 6,231,204 6,257,503 6,098,994 5,185,902 5,248,256 DISTRIBUTIONS PER UNIT (1): ................... 0 0.58 3.46 2.31 14.00
(1)The net income (loss), limited partners' equity and distributions per unit are based upon the limited partnership units outstanding at the end of the year, 56,674 Class A and 29,979 Class B in all years. The cumulative distributions per limited partnership unit from inception to December 31, 1998 equal $64.80. 20 INDEPENDENT AUDITORS' REPORT To the Partners of Sierra Pacific Development Fund II We have audited the accompanying consolidated balance sheets of Sierra Pacific Development Fund II and subsidiary, a California limited partnership, (the "Partnership") as of December 31, 1998 and 1997, and the related consolidated statements of operations, changes in partners' equity and cash flows for each of the three years in the period ended December 31, 1998. These consolidated financial statements are the responsibility of the Partnership's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Sierra Pacific Development Fund II and subsidiary as of December 31, 1998 and 1997, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 1998 in conformity with generally accepted accounting principles. The accompanying 1998 financial statements have been prepared assuming that the Partnership will continue as a going concern. As described in Note 6 to the financial statements, a mortgage note payable in the amount of $1,300,000 matured in January 1999. The Partnership's difficulty in generating sufficient cash flow to meet its obligations raises substantial doubt about the Partnership's ability to continue as a going concern. Management's plan concerning this matter is described in Note 6. The financial statements do not include any adjustments that might result from the outcome of this uncertainty. DELOITTE & TOUCHE LLP Houston, Texas March 12, 1999 21 SIERRA PACIFIC DEVELOPMENT FUND II AND SUBSIDIARY (A California Limited Partnership) CONSOLIDATED BALANCE SHEETS December 31, 1998 and 1997 - --------------------------------------------------------------------------------
DECEMBER 31, 1998 DECEMBER 31, 1997 ----------------- ----------------- ASSETS Cash and cash equivalents .............................................................. $ 71,180 $ 69,790 Receivables: Note, net of deferred gain of $736,271 (Notes 3 and 4) ........................................................... 2,772,729 2,453,729 Unbilled rent (Notes 1 and 4) ....................................................... 277,328 277,452 Billed rent (Note 1) ................................................................ 79,259 78,698 Due from affiliates (Note 3) ........................................................ 1,005,459 951,381 Accounts receivable ................................................................. 7,946 37,795 Income-producing properties - net of accumulated depreciation and valuation allowance of $3,117,658 in 1998 and $3,855,671 in 1997 (Notes 1, 4 and 6) ............................................ 10,899,304 11,212,379 Investment in unconsolidated joint venture (Notes 1 and 5) ...................................................................... 3,193,894 3,416,664 Other assets (Notes 1, 2 and 3) ........................................................ 1,035,815 979,415 ----------------- ----------------- Total Assets ........................................................................... $ 19,342,914 $ 19,477,303 ================= ================= LIABILITIES AND PARTNERS' EQUITY Accrued and other liabilities (Note 2) ................................................. $ 579,821 $ 513,990 Notes payable (Note 6) ................................................................. 6,231,204 6,257,503 ----------------- ----------------- Total Liabilities ...................................................................... 6,811,025 6,771,493 ----------------- ----------------- Partners' equity (Notes 1 and 7): General Partner ...................................................................... 0 0 Limited Partners: Class A Limited Partners: 60,000 units authorized, 56,674 issued and outstanding .................................................... 8,196,299 8,310,049 Class B Limited Partners: 60,000 units authorized, 29,979 issued and outstanding .................................................... 4,335,590 4,395,761 ----------------- ----------------- Total Partners' equity ................................................................. 12,531,889 12,705,810 ----------------- ----------------- Total Liabilities and Partners' equity ................................................. $ 19,342,914 $ 19,477,303 ================= =================
See Accompanying Notes 22 SIERRA PACIFIC DEVELOPMENT FUND II AND SUBSIDIARY (A California Limited Partnership) CONSOLIDATED STATEMENTS OF OPERATIONS For the Years Ended December 31, 1998, 1997 and 1996 - --------------------------------------------------------------------------------
1998 1997 1996 ----------- ----------- ----------- REVENUES: Rental income (Note 1) ......................................... $ 2,297,908 $ 1,841,050 $ 1,778,871 Interest income (Note 3) ....................................... 375,420 338,722 349,620 ----------- ----------- ----------- Total revenues .............................................. 2,673,328 2,179,772 2,128,491 ----------- ----------- ----------- EXPENSES: Operating expenses: Depreciation and amortization ................................ 890,846 786,905 632,513 Property taxes and insurance ................................. 343,864 311,475 334,132 Administrative fees (Note 3) ................................. 244,116 216,177 224,760 Maintenance and repairs ...................................... 293,874 295,358 279,797 Utilities .................................................... 215,449 173,500 181,227 Management fees (Note 3) ..................................... 118,976 93,168 90,250 Legal and accounting ......................................... 130,252 215,138 141,929 General and administrative ................................... 36,549 53,955 37,108 Salaries and payroll taxes ................................... 36,000 36,000 36,000 Renting expenses ............................................. 13,761 23,333 13,599 Other operating expenses ..................................... 69,151 54,473 53,838 ----------- ----------- ----------- Total operating expenses .................................... 2,392,838 2,259,482 2,025,153 Interest ......................................................... 439,499 435,818 464,880 ----------- ----------- ----------- Total expenses .............................................. 2,832,337 2,695,300 2,490,033 ----------- ----------- ----------- LOSS BEFORE PARTNERSHIP'S SHARE OF UNCONSOLIDATED JOINT VENTURE LOSS ............................. (159,009) (515,528) (361,542) ----------- ----------- ----------- PARTNERSHIP'S SHARE OF UNCONSOLIDATED JOINT VENTURE LOSS FROM CONTINUING OPERATIONS (Note 5) ........................................... (14,912) (284,878) (186,808) PARTNERSHIP'S SHARE OF UNCONSOLIDATED JOINT VENTURE EXTRAORDINARY GAIN (Note 5) ..................... 0 0 348,706 ----------- ----------- ----------- NET LOSS ......................................................... $ (173,921) $ (800,406) $ (199,644) =========== =========== =========== Per limited partnership unit (Note 1): Loss before extraordinary gain ................................ $ (2.01) $ (9.24) $ (6.32) Extraordinary gain ............................................ 0 0 4.02 ----------- ----------- ----------- Net loss ......................................................... $ (2.01) $ (9.24) $ (2.30) =========== =========== ===========
See Accompanying Notes 23 SIERRA PACIFIC DEVELOPMENT FUND II AND SUBSIDIARY (A California Limited Partnership) CONSOLIDATED STATEMENTS OF CHANGES IN PARTNERS' EQUITY For the Years Ended December 31, 1998, 1997 and 1996 - --------------------------------------------------------------------------------
LIMITED PARTNERS TOTAL -------------------------------------------- GENERAL PARTNERS' CLASS A CLASS B TOTAL PER UNIT PARTNER EQUITY ------------ ------------ ------------ -------- ------------ ------------ Partners' equity - January 1, 1996 ........................ $ 9,193,008 $ 4,862,852 $ 14,055,860 $ 162.21 $ 0 $ 14,055,860 Net loss ................................. (130,574) (69,070) (199,644) (2.30) (199,644) Distributions ............................ (196,200) (103,800) (300,000) (3.46) (300,000) ------------ ------------ ------------ -------- ------------ ------------ Partners' equity - December 31, 1996 ..................... 8,866,234 4,689,982 13,556,216 156.45 0 13,556,216 Net loss ................................. (523,493) (276,913) (800,406) (9.24) (800,406) Distributions ............................ (32,692) (17,308) (50,000) (0.58) (50,000) ------------ ------------ ------------ -------- ------------ ------------ Partners' equity - December 31, 1997 ...................... 8,310,049 4,395,761 12,705,810 146.63 0 12,705,810 Net loss ................................. (113,750) (60,171) (173,921) (2.01) (173,921) ------------ ------------ ------------ -------- ------------ ------------ Partners' equity - December 31, 1998 ..................... $ 8,196,299 $ 4,335,590 $ 12,531,889 $ 144.62 $ 0 $ 12,531,889 ============ ============ ============ ======== ============ ============
See Accompanying Notes 24 SIERRA PACIFIC DEVELOPMENT FUND II AND SUBSIDIARY (A California Limited Partnership) CONSOLIDATED STATEMENTS OF CASH FLOWS For the Years Ended December 31, 1998, 1997 and 1996 - --------------------------------------------------------------------------------
1998 1997 1996 ----------- ----------- ----------- CASH FLOWS FROM OPERATING ACTIVITIES: Net loss ............................................................. $ (173,921) $ (800,406) $ (199,644) Adjustments to reconcile net loss to cash provided by (used in) operating activities: Depreciation and amortization ...................................... 890,846 786,905 632,513 Undistributed loss (income) of unconsolidated joint venture .................................................... 14,912 284,878 (161,898) (Increase) decrease in rent receivable ............................. (437) 3,526 47,374 Increase in other receivables ...................................... (343,229) (240,672) (58,879) Increase in other assets ........................................... (212,500) (646,387) (138,523) Increase (decrease) in accrued and other liabilities ............... 65,831 (60,658) 280,149 ----------- ----------- ----------- Net cash provided by (used in) operating activities ................ 241,502 (672,814) 401,092 ----------- ----------- ----------- CASH FLOWS FROM INVESTING ACTIVITIES: Payments for property additions ...................................... (416,813) (676,666) (848,511) Capital contributions to unconsolidated joint venture ................ (8,490) (293,000) 0 Distributions from unconsolidated joint venture ...................... 211,490 1,580,800 0 ----------- ----------- ----------- Net cash (used in) provided by investing activities ............... (213,813) 611,134 (848,511) ----------- ----------- ----------- CASH FLOWS FROM FINANCING ACTIVITIES: Loan to affiliates ................................................... 0 0 (205,674) Borrowings from affiliates ........................................... 0 0 349,900 Repayments of borrowings from affiliates ............................. 0 0 (489,900) Cash distributions ................................................... 0 (50,000) (300,000) Funding of note payable secured by property .......................... 0 1,300,000 2,000,000 Principal payments on notes payable .................................. (26,299) (1,141,492) (1,086,908) ----------- ----------- ----------- Net cash (used in) provided by financing activities .............. (26,299) 108,508 267,418 ----------- ----------- ----------- NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS ................................................. 1,390 46,828 (180,001) CASH AND CASH EQUIVALENTS - Beginning of year .......................... 69,790 22,962 202,963 ----------- ----------- ----------- CASH AND CASH EQUIVALENTS - End of year ............................... $ 71,180 $ 69,790 $ 22,962 =========== =========== =========== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Cash paid during the year for interest ............................... $ 443,823 $ 455,666 $ 466,407 =========== =========== ===========
In 1998, $373,078 of interest receivable was added to the principal balance of the notes receivable from affiliates. In 1997, $379,298 of interest receivable was added to the principal balance of the notes receivable from affiliates. These transactions are noncash items not reflected in the above statement of cash flows. See Accompanying Notes 25 SIERRA PACIFIC DEVELOPMENT FUND II AND SUBSIDIARY (A CALIFORNIA LIMITED PARTNERSHIP) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES ORGANIZATION Sierra Pacific Development Fund II (the "Partnership") was organized on April 29, 1983 in accordance with the provisions of the California Uniform Limited Partnership Act to acquire, develop and operate commercial and industrial real properties. S-P Properties, Inc. is the General Partner and manager of the Partnership. On December 30, 1994, all of the outstanding stock of TCP, Inc. was sold to Finance Factors, Inc. TCP, Inc. owns all of the common stock of S-P Properties, Inc. Finance Factors was a subsidiary of CGS Real Estate Company, Inc., a national real estate company. In July 1995, Finance Factors, Inc. merged with Bancor Real Estate Company, Inc., another subsidiary of CGS Real Estate Company, Inc. The Partnership's activities during the preceding five years have involved the ownership and operation of four real estate projects in Texas: Sierra Technology Center in Austin, Texas; Sierra Westlakes in San Antonio, Texas; Sierra Southwest Pointe in Houston, Texas; and 5850 San Felipe in Houston, Texas. In December 1997, Sierra Southwest Pointe LLC ("SSPLLC") was formed with the Partnership being the sole member. This company was formed solely to engage in the following activities: a) to acquire from Sierra Pacific Development Fund II the property known as Sierra Southwest Pointe, b) to own, hold, sell, assign, transfer, operate, lease, mortgage, pledge and otherwise deal with the Property, c) to exercise all powers enumerated in the Delaware Limited Liability Company Act necessary or convenient to conduct, promotion or attainment of the business or purposes otherwise set forth. Title to the Sierra Southwest Pointe property was transferred from the Partnership to SSPLLC. The accounts of SSPLLC are consolidated into the financial statements of the Partnership since the date of formation and all significant intercompany transactions are eliminated in consolidation. In December 1994, the Partnership sold Sierra Technology Center for $6,000,000. The sale proceeds were received in cash, a note receivable from the buyer, and equity in the 5850 San Felipe property. In 1985 Sierra Mira Mesa Partners ("SMMP"), a California general partnership was formed between the Partnership and Sierra Pacific Pension Investors `84 (SPPI'84). SMMP was initially created to develop and operate the office building known as Sierra Mira Mesa in San Diego, California. The Partnership's initial ownership interest in SMMP was 51%; the remaining 49% was owned by SPPI'84. Effective December 31, 1996, the general partners amended the partnership agreement to allow for adjustments in the sharing ratio each year based upon the relative net contributions and distributions since inception of each general partner. As a result, the sharing ratio in effect for 1997 was 45.58% for the Partnership and 54.42% for SPPI'84. In conjunction with this amendment, the general partners forgave the December 31, 1996 balances of advances due from SMMP and included these amounts as adjustments to their respective equity accounts. The sharing ratio in effect for 1998 was 33.74% for the Partnership and 66.26% for SPPI'84. On January 1, 1999 the sharing ratio will be decreased to 33.01% for the Partnership and increased to 66.99% for SPPI'84 to reflect the 1998 contributions and distributions. SMMP also holds an 88.59% interest in Sorrento I Partners (a California general partnership with Sierra Pacific Development Fund III formed in 1993), a 33.55% interest in Sorrento II Partners (a California general partnership with Sierra Pacific Institutional Properties V formed in 1993), a 9.33% interest in Sierra Creekside Partners (a California general partnership with Sierra Pacific Development Fund formed in 1994), and a 34.51% interest in Sierra Vista Partners (a California general partnership with Sierra Pacific Development Fund III formed in 1994). 26 Sierra Pacific Development Fund II and subsidiary Notes to Consolidated Financial Statements Page two BASIS OF FINANCIAL STATEMENTS The Partnership maintains its books and prepares its financial statements in accordance with generally accepted accounting principles. However, the Partnership prepares its tax returns on the accrual basis of accounting as defined by the Internal Revenue Code with adjustments to reconcile book and taxable income (loss) for differences in the treatment of certain income and expense items. The accompanying financial statements do not reflect any provision for federal or state income taxes since such taxes are the obligation of the individual partners. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reported period. Actual results could differ from those estimates. CASH AND CASH EQUIVALENTS Cash and cash equivalents include highly liquid, short-term investments with original maturities of three months or less. FAIR VALUE OF FINANCIAL INSTRUMENTS The financial instruments of the Partnership at December 31, 1998 and 1997 consist of cash and cash equivalents, receivables, due from affiliates, accounts payable and notes payable. The fair value of cash and cash equivalents, receivables and accounts payable approximates the carrying value due to the short term nature of these items. In the opinion of management, the estimated fair value of the notes payable, based on market rates at December 31, 1998, is $5,757,000. Management does not fair value the amounts due from affiliates due to the related party nature of these receivables. INCOME-PRODUCING PROPERTIES Property and tenant improvements are carried at cost and depreciated on the straight-line method over the estimated lives of the related assets, ranging from one to thirty years. Tenant improvements incurred at the initial leasing of the properties are depreciated over ten years and tenant improvements incurred at the re-leasing of the properties are depreciated over the life of the related lease. Expenditures for repairs and maintenance are charged against income as incurred. Improvements and major renewals are capitalized. Costs and the related accumulated depreciation of assets sold or retired are removed from the accounts in the year of disposal or when fully depreciated and any resulting gain or loss is reflected in income. Prior to 1995, the Partnership assessed impairment of income-producing properties based upon appraised values and established provisions for impairment where appraisals indicated other than temporary declines in value. Effective January 1, 1995, the Partnership implemented Statement of Financial Accounting Standards No. 121, "Accounting for Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of" (the "Statement"). The Partnership regularly evaluates long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable. Future cash flows are estimated and compared to the carrying amount of the asset to determine if an impairment has occurred. If the sum of the expected future cash flows is less than the carrying amount of the asset, the Partnership shall recognize an impairment loss in accordance with the Statement. No such impairments have been recognized by the Partnership since 1995. 27 Sierra Pacific Development Fund II and subsidiary Notes to Consolidated Financial Statements Page three Because the determination of fair value is based upon projections of future economic events such as property occupancy rates, rental rates, operating cost inflation and market capitalization rates which are inherently subjective, the amounts ultimately realized at disposition may differ materially from the net carrying value as of December 31, 1998. The cash flows used to determine fair value and net realizable value are based on good faith estimates and assumptions developed by management. Unanticipated events and circumstances may occur and some assumptions may not materialize; therefore, actual results may vary from the estimates and the variances may be material. The Partnership may provide additional write-downs which could be material in subsequent years if real estate markets or local economic conditions change. INVESTMENT IN UNCONSOLIDATED JOINT VENTURE The investment in unconsolidated joint venture is stated at cost and is adjusted for the Partnerships' share in earnings or losses and cash contributions to or distributions from the joint venture (equity method). OTHER ASSETS Deferred leasing costs represent costs incurred to lease properties and are amortized over the life of the related lease using the straight line method of accounting. Deferred loan costs represent costs incurred to obtain financing and are amortized over the life of the related loan using the straight line method of accounting. RENTAL INCOME AND RENT RECEIVABLE Rental income is recognized on the straight-line method over the term of the related operating lease in accordance with the provisions of Statement of Financial Accounting Standards No. 13, "Accounting for Leases". Rent receivable consists of (a) unbilled rent - the difference between rent recognized on the straight-line method and actual cash due; and (b) billed rent rent due but not yet received. CALCULATION OF EQUITY AND NET INCOME (LOSS) PER LIMITED PARTNERSHIP UNIT Equity and net income (loss) per limited partnership unit are determined by dividing the Limited Partners' equity and net income (loss) by the number of limited partnership units outstanding, 56,674 Class A and 29,979 Class B. RECENT ACCOUNTING PRONOUNCEMENTS The Financial Accounting Standards Board has issued Statement of Financial Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive Income" and SFAS No. 131, "Disclosures About Segments of an Enterprise and Related Information." These SFAS's, which are effective for the Partnership's fiscal year ending December 31, 1998, establish additional disclosure requirements but do not affect the measurement of the results of operations. During the periods presented, the Partnership did not have any items of comprehensive income. The adoption of SFAS No. 131 had no effect on the Partnership's financial statements as the Partnership operates in only one segment, the acquisition, development and operation of commercial real estate. 28 Sierra Pacific Development Fund II and subsidiary Notes to Consolidated Financial Statements Page four 2. DETAILS OF CERTAIN BALANCE SHEET ACCOUNTS Additional information regarding certain balance sheet accounts, at December 31, 1998 and 1997 is as follows: 1998 1997 ---------- ---------- Other assets: Prepaid expenses .................................. $ 20,192 $ 20,192 Deferred loan costs, net of accumulated amortization of $25,859 in 1998 and $11,617 in 1997 ........................................ 117,044 111,467 Deferred leasing costs, net of accumulated amortization of $259,518 in 1998 and $381,317 in 1997 ........................... 605,302 637,667 Tax impounds ...................................... 111,533 30,686 Reserves .......................................... 171,454 169,113 Deposits .......................................... 10,290 10,290 ---------- ---------- $1,035,815 $ 979,415 ========== ========== Accrued and other liabilities: Accounts payable .................................. $ 231,525 $ 326,284 Security deposits ................................. 90,891 83,475 Accrued expenses .................................. 225,264 87,407 Unearned rental income ............................ 19,641 0 Interest payable .................................. 12,500 16,824 ---------- ---------- $ 579,821 $ 513,990 ========== ========== 3. GENERAL PARTNER AND RELATED PARTY TRANSACTIONS An affiliate of the General Partner receives a management fee of 5% of the gross rental income collected from the properties. Management fees paid to affiliates for the years ended December 31, 1998, 1997 and 1996 were $118,976, $93,168 and $90,250, respectively. An affiliate of the General Partner is entitled to reimbursement for expenses incurred by the affiliate for services provided to the Partnership such as accounting, legal, data processing and similar services. The affiliate was reimbursed $252,201, $232,399 and $224,760 for such services for the years ended December 31, 1998, 1997 and 1996, respectively. The Partnership reimbursed the affiliate for construction supervision costs incurred by the affiliate. For the years ended December 31, 1998, 1997 and 1996 the affiliate received $16,754, $50,083 and $43,257, respectively, for tenant improvements supervisory costs. In consideration for services rendered with respect to initial leasing of Partnership properties, affiliates of the General Partner are paid initial leasing costs. For the years ended December 31, 1998, 1997 and 1996 these fees amounted to $49,811, $225,240 and $59,021, respectively, and were recorded as deferred leasing costs. 29 Sierra Pacific Development Fund II and subsidiary Notes to Consolidated Financial Statements Page five During 1993, the Partnership loaned funds to a former affiliate of the General Partner in the form of demand notes. Interest was paid at rates approximately 100 basis points above certificate of deposit rates established by major commercial banks. The loans reached a maximum of $1,100,000. The loans were reduced to $812,000 at December 31, 1994 and the interest rate was fixed at 6%. In 1998 and 1997, interest receivable of $54,078 and $89,298 was added to the principal balance of the note. Interest income of $54,078, $48,720, and $48,853 was recognized in 1998, 1997, and 1996, respectively, related to this note. The balance outstanding at December 31, 1998 is $955,376. The note is guaranteed by the owners of CGS Real Estate Company, Inc. Two affiliates of the General Partner lease a total of 22,841 square feet of 5850 San Felipe, a property of the Partnership. The terms of the leases are consistent with the current market conditions for office space in the area of the property. During the years ended December 31, 1998, 1997, and 1996, the Partnership recognized rental income of $219,760, $162,099, and $162,099 related to these leases. As further described in Note 4, in 1994 the Partnership sold a property to an affiliate of the General Partner for cash of $3,100,000 and a $2,900,000 trust deed note. The original note called for monthly interest only payments and bore interest of 10% per annum until December 1997, when the entire indebtedness was due in full. In 1997, the maturity date was extended to December 31, 1998 and interest receivable of $290,000 was added to the principal balance of the note. In 1998, the maturity date was extended to December 31, 1999 and interest receivable of $319,000 was added to the principal balance of the note. All other terms of the original note remained unchanged. During the years ended December 31, 1998, 1997, and 1996, the Partnership recognized interest income of $319,000, $290,000, and $290,000 related to this note. The December 31, 1998 principal balance was $3,509,000. The note is secured by a second lien on the property and management believes the collateral has sufficient value to recover the Partnership's net investment in the note after satisfaction of the first lien holder. In 1996, the Partnership made a short-term, non-interest bearing loan to Sierra Mira Mesa Partners in the amount of $155,590. This loan was forgiven and reclassed to investment in Sierra Mira Mesa Partners (See Note 1). During 1996, the Partnership made a non-interest bearing advance to an affiliate in the amount of $50,083. Repayment is expected in 1999. 4. INCOME-PRODUCING PROPERTIES At December 31, 1998 and 1997 the total cost and accumulated depreciation of the properties are as follows: 1998 1997 ------------ ------------ Land ................................. $ 4,263,746 $ 4,263,746 Building and improvements ............ 9,753,216 10,804,304 ------------ ------------ Total ............................. 14,016,962 15,068,050 Accumulated depreciation ............. (2,667,658) (3,405,671) Valuation allowance .................. (450,000) (450,000) ------------ ------------ Net ............................... $ 10,899,304 $ 11,212,379 ============ ============ During 1998 and 1997, the Partnership removed $1,467,901 and $37,220, respectively, from its buildings and improvements and related accumulated depreciation accounts for fully depreciated property. 30 Sierra Pacific Development Fund II and subsidiary Notes to Consolidated Financial Statements Page six On December 30, 1994, the Sierra Technology Center property, with a historical cost basis of $3,849,228, was sold for $6,000,000 ($3,100,000 cash down-payment and $2,900,000 trust deed note) to an affiliate of Finance Factors, Inc. In a related transaction, on December 30, 1994, the Partnership purchased 5850 San Felipe, an office building in Houston, Texas for $5,000,000 from an affiliate of Finance Factors, Inc. The Partnership paid $973,713 as cash down-payment and assumed a first trust deed note with a balance of $4,026,287. In accordance with Emerging Issues Task Force No. 87-29, "Exchange of Real Estate Involving Boot", the fair value of the assets and liabilities transferred in the two transactions was allocated between a monetary and a non-monetary component. Accordingly, the historical cost of the San Felipe building was reduced by $243,068, representing the non-monetary portion of the gain on sale of the Sierra Technology Center. The monetary portion of the gain on sale was recorded in accordance with Statement of Financial Accounting Standards No. 66 "Accounting For Sales of Real Estate" using the installment method and the Partnership recorded a gain of $539,835 (net of selling costs and unamortized loan fees and lease costs). A deferred gain of $736,271 will be recognized as principal payments on the trust deed note are received. Future minimum base rental income, under the existing operating leases for the properties, to be recognized on a straight-line basis and amounts to be received on a cash basis are as follows: STRAIGHT-LINE CASH YEAR ENDING DECEMBER 31, BASIS BASIS ------------------------ ------------- ---------- 1999 ........................ $ 2,093,704 $2,130,870 2000 ........................ 1,907,513 1,969,327 2001 ........................ 1,500,399 1,555,426 2002 ........................ 1,090,527 1,129,033 2003 ........................ 808,854 854,520 Thereafter ................... 2,274,930 2,314,079 ------------- ---------- Total ...................... $ 9,675,927 $9,953,255 ============= ========== Approximately 19% of 1998 rental revenues were generated from a Sears, Roebuck and Company telemarketing division for warranty sales. 31 Sierra Pacific Development Fund II and subsidiary Notes to Consolidated Financial Statements Page seven 5. INVESTMENT IN UNCONSOLIDATED JOINT VENTURE Sierra Mira Mesa Partners ("SMMP"), a California general partnership, was formed in 1985 between the Partnership and Sierra Pacific Pension Investors `84, an affiliate, to develop and operate the real property known as Sierra Mira Mesa, an office building, located in San Diego, California. The property contains 89,560 square feet and is 100% leased at December 31, 1998. At December 31, 1998 the Partnership's interest in SMMP is 33.74%; the remaining 66.26% interest was owned by Sierra Pacific Pension Investors `84. The Partnership's investment in SMMP as of December 31, 1998 and 1997 is comprised of the following: 1998 1997 ---------- ---------- Equity interest ............................ $3,044,004 $3,261,917 Investment advisory and other fees, less accumulated amortization of $58,302 and $53,444 in 1998 and 1997, respectively ............................. 149,890 154,747 ---------- ---------- Investment in unconsolidated joint venture ........................... $3,193,894 $3,416,664 ========== ========== The consolidated financial statements of SMMP include the accounts of SMMP and Sorrento I Partners, a majority owned California general partnership for the years ended December 31, 1998 and 1997. The condensed balance sheets at December 31, 1998 and 1997, and the condensed statements of operations for the years ended December 31, 1998, 1997 and 1996 for SMMP are as follows: 32 Sierra Pacific Development Fund II and subsidiary Notes to Consolidated Financial Statements Page eight CONDENSED CONSOLIDATED BALANCE SHEETS
DECEMBER 31, DECEMBER 31, 1998 1997 ----------------- ----------------- ASSETS Cash and cash equivalents ...................... $ 14,064 $ 244,408 Rent receivable ................................ 1,226,156 1,287,009 Due from affiliates ............................ 2,233,158 2,030,577 Income-producing property, net of accumulated depreciation ................. 9,000,294 9,086,805 Investment in unconsolidated joint ventures .............................. 1,640,460 1,793,770 Other assets ................................... 897,993 831,350 ----------------- ----------------- Total Assets ................................... $ 15,012,125 $ 15,273,919 ================= ================= LIABILITIES AND GENERAL PARTNERS' EQUITY Accrued and other liabilities .................. $ 251,990 $ 68,765 Notes payable .................................. 5,418,414 5,673,052 ----------------- ----------------- Total Liabilities .............................. 5,670,404 5,741,817 ----------------- ----------------- Minority interest in joint venture ............. (332,996) (333,783) ----------------- ----------------- General Partners' equity ....................... 9,674,717 9,865,885 ----------------- ----------------- Total Liabilities and General Partners' equity . $ 15,012,125 $ 15,273,919 ================= =================
33 Sierra Pacific Development Fund II and subsidiary Notes to Consolidated Financial Statements Page nine CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEAR ENDED DECEMBER 31, ----------------------------------------- 1998 1997 1996 ----------- ----------- ----------- Revenues: Rental income ........................ $ 1,883,630 $ 1,919,582 $ 1,808,673 Other income ......................... 205,781 184,168 178,726 ----------- ----------- ----------- Total revenues ............ 2,089,411 2,103,750 1,987,399 ----------- ----------- ----------- Expenses: Operating expenses ................... 754,978 742,548 728,593 Depreciation and amortization ........ 581,956 825,911 813,359 Interest ............................. 438,711 463,804 559,759 ----------- ----------- ----------- Total expenses ............ 1,775,645 2,032,263 2,101,711 ----------- ----------- ----------- Income (loss) before Partnership's share of unconsolidated joint venture losses ................ 313,766 71,487 (114,312) Partnership's share of unconsolidated joint venture losses ................ (131,897) (855,349) (354,765) ----------- ----------- ----------- Income (loss) before extraordinary gain . 181,869 (783,862) (469,077) Extraordinary gain ...................... 0 0 1,200,381 ----------- ----------- ----------- Income (loss) before minority interest's share of consolidated joint venture (income) loss ....................... 181,869 (783,862) 731,304 ----------- ----------- ----------- Minority interest's share of consolidated joint venture (income) loss from continuing operations ............... (787) (7,906) 102,787 Minority interest's share of consolidated joint venture extraordinary gain .... 0 0 (516,644) ----------- ----------- ----------- Net income (loss) ....................... $ 181,082 $ (791,768) $ 317,447 =========== =========== ===========
As of December 31, 1998, SMMP also holds a 33.55% interest in Sorrento II Partners (a California general partnership with Sierra Pacific Institutional Properties V formed in 1993), a 9.33% interest in Sierra Creekside Partners (a California general partnership with Sierra Pacific Development Fund formed in 1994), and a 34.51% interest in Sierra Vista Partners (a California general partnership with Sierra Pacific Development Fund III formed in 1994). 34 Sierra Pacific Development Fund II and subsidiary Notes to Consolidated Financial Statements Page ten The following is a summary of aggregated financial information for all investments owned by SMMP which are accounted for under the equity method: CONDENSED COMBINED BALANCE SHEETS DECEMBER 31, DECEMBER 31, 1998 1997 ------------ ------------ ASSETS Cash and cash equivalents .......................... $ 85,792 $ 122,997 Rent receivable .................................... 542,527 549,240 Due from affiliates ................................ 47,666 47,666 Income-producing property, net of accumulated depreciation .................. 8,343,438 8,610,352 Other assets ....................................... 1,320,667 1,339,407 ------------ ------------ Total Assets ....................................... $ 10,340,090 $ 10,669,662 ============ ============ LIABILITIES AND GENERAL PARTNERS' EQUITY Accrued and other liabilities ...................... $ 520,646 $ 325,087 Note payable ....................................... 1,720,324 1,763,420 ------------ ------------ Total Liabilities .................................. 2,240,970 2,088,507 ------------ ------------ Ground lessors' equity in income-producing property 3,000,000 3,000,000 ------------ ------------ General Partners' equity ........................... 5,099,120 5,581,155 ------------ ------------ Total Liabilities and General Partners' equity ..... $ 10,340,090 $ 10,669,662 ============ ============ 35 Sierra Pacific Development Fund II and subsidiary Notes to Consolidated Financial Statements Page eleven CONDENSED COMBINED STATEMENTS OF OPERATIONS FOR THE YEAR ENDED DECEMBER 31, ----------------------------------------- 1998 1997 1996 ----------- ----------- ----------- Revenues: Rental income ............... $ 1,734,403 $ 2,294,859 $ 2,474,335 Other income ................ 93,668 9,698 13,968 ----------- ----------- ----------- Total revenues ........... 1,828,071 2,304,557 2,488,303 ----------- ----------- ----------- Expenses: Operating expenses .......... 1,302,968 1,755,826 1,788,643 Depreciation and amortization 829,081 1,321,177 1,461,571 Interest .................... 156,636 459,763 427,967 ----------- ----------- ----------- Total expenses ........... 2,288,685 3,536,766 3,678,181 ----------- ----------- ----------- Loss before loss from property disposition ................. (460,614) (1,232,209) (1,189,878) Loss from property disposition . 0 (967,764) 0 ----------- ----------- ----------- Net Loss ....................... $ (460,614) $(2,199,973) $(1,189,878) =========== =========== =========== Reference is made to the audited financial statements of Sierra Mira Mesa Partners and Sorrento II Partners included herein. 36 Sierra Pacific Development Fund II and subsidiary Notes to Consolidated Financial Statements Page twelve 6. NOTES PAYABLE At December 31, 1998 and 1997, notes payable consisted of the following: 1998 1997 ---------- ---------- Mortgage note payable, due in monthly interest only payments at LIBOR rate + 300 basis points collateralized by certain land and buildings. This loan matures in January 1999. The loan contains an option to convert the note to a fixed interest rate and extend the maturity date ten years from the date the option is exercised ... The Partnership has decided to exercise this option and is currently negotiating extension terms with the lender. Management anticipates a fixed interest rate equal to the U.S. Government Security rate plus 250 basis points with monthly principal and interest payments based on a thirty-year amortization ........... $1,300,000 $1,300,000 Mortgage note payable, due in monthly interest only payments at 5%, collateralized by certain land and buildings. This note matures in April 2004 ............ 3,000,000 3,000,000 Mortgage note payable, due in monthly installments with interest at 9%, collateralized by certain land and buildings. This note matures in March 2006 ............ 1,931,204 1,957,503 ---------- ---------- $6,231,204 $6,257,503 ========== ========== The Partnership is exposed to interest rate fluctuations on $1,300,000 of variable debt on December 31, 1998. Annual maturities of notes payable as of December 31, 1998, are: $1,326,269 in 1999; $31,231 in 2000; $34,160 in 2001; $37,365 in 2002; $40,870 in 2003; and $4,761,309 thereafter. 7. PARTNERS' EQUITY Accrual basis profits and losses resulting from operations of the Partnership are allocated 99% to the Limited Partners and 1% to the General Partner. Currently, the Partnership does not meet the criteria for distributing cash to the General Partner, and it cannot reasonably predict when the criteria will be met. Accordingly, no accrual basis profits and losses from operations were allocated to the General Partner. Upon any sale, refinancing or other disposition of the Partnership's real properties, allocations and distributions are made after each Limited Partner has received 100% of his Adjusted Capital Contributions plus a 15% per annum cumulative return on such invested capital. Any remaining proceeds shall be distributed 85% to the Limited Partners and 15% to the General Partner. Distributions of the remaining proceeds to the Limited Partners shall be made in a manner such that Limited Partners holding Class A Units shall receive distributions 15% greater than the distributions received by the holders of Class B Units. 37 Sierra Pacific Development Fund II and subsidiary Notes to Consolidated Financial Statements Page thirteen 8. LITIGATION In November 1995, a limited partner of the Partnership, on their own behalf and on behalf of all others similarly situated, filed a lawsuit against S-P Properties, Inc., the General Partner of the Partnership, among others, in the Superior Court of the State of California, County of Los Angeles (the "Court"). This suit alleged breach of fiduciary duty and breach of contract. The Plaintiff's claims related to various loans made by the Partnership and by Sierra Mira Mesa Partners to a former affiliate of the General Partner which were allegedly improper or made below market rates. The Plaintiffs were seeking unspecified compensatory and punitive damages and removal of the General Partner. In September 1997, the Court denied the Plaintiff's motion for class certification, but granted the Plaintiff leave to file an amended complaint. The Partnership demurred to all class action allegations in the amended complaint. The Court granted the demurred without leave to amend, thereby reducing the Plaintiff's allegations to a derivative suit. The case is presently in discovery. The Partnership believes any damages awarded in favor of the Plaintiff's derivative suit would be immaterial to the Partnership's operations. 38 SIERRA MIRA MESA PARTNERS AND SUBSIDIARY (A CALIFORNIA GENERAL PARTNERSHIP) CONSOLIDATED BALANCE SHEETS AS OF DECEMBER 31, 1998 AND 1997 AND STATEMENTS OF OPERATIONS, CHANGES IN GENERAL PARTNERS' EQUITY AND CASH FLOWS FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1998 AND INDEPENDENT AUDITORS' REPORT 39 INDEPENDENT AUDITORS' REPORT To the Partners of Sierra Mira Mesa Partners We have audited the accompanying consolidated balance sheets of Sierra Mira Mesa Partners and subsidiary, a California general partnership, (the "Partnership") as of December 31, 1998 and 1997, and the related consolidated statements of operations, changes in general partners' equity and cash flows for each of the three years in the period ended December 31, 1998. These financial statements are the responsibility of the Partnership's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Sierra Mira Mesa Partners and subsidiary as of December 31, 1998 and 1997, and the results of its operations and cash flows for each of the three years in the period ended December 31, 1998 in conformity with generally accepted accounting principles. DELOITTE & TOUCHE LLP Houston, Texas March 12, 1999 40 SIERRA MIRA MESA PARTNERS AND SUBSIDIARY (A California General Partnership) CONSOLIDATED BALANCE SHEETS December 31, 1998 and 1997 DECEMBER 31, DECEMBER 31, 1998 1997 ------------ ------------ ASSETS Cash and cash equivalents .................... $ 14,064 $ 244,408 Receivables: Unbilled rent (Notes 1 and 4) ............. 1,226,156 1,274,906 Billed rent (Note 1) ...................... 0 12,103 Due from affiliates, net (Note 3) ............ 2,233,158 2,030,577 Income-producing property - net of accumulated depreciation of $3,273,970 in 1998 and $4,625,842 in 1997 (Notes 1, 4 and 6) ..... 9,000,294 9,086,805 Investment in unconsolidated joint ventures (Notes 1 and 5) ............ 1,640,460 1,793,770 Other assets (Notes 1, 2 and 3) .............. 897,993 831,350 ------------ ------------ Total Assets ................................. $ 15,012,125 $ 15,273,919 ============ ============ LIABILITIES AND GENERAL PARTNERS' EQUITY Accrued and other liabilities (Note 2) ....... $ 251,990 $ 68,765 Notes payable (Note 6) ....................... 5,418,414 5,673,052 ------------ ------------ Total Liabilities ............................ 5,670,404 5,741,817 ------------ ------------ Minority interest in consolidated joint venture (Note 1) .................... (332,996) (333,783) General Partners' equity (Note 1) ............ 9,674,717 9,865,885 ------------ ------------ Total Liabilities and General Partners' equity $ 15,012,125 $ 15,273,919 ============ ============ See Accompanying Notes 41 SIERRA MIRA MESA PARTNERS AND SUBSIDIARY (A California General Partnership) CONSOLIDATED STATEMENTS OF OPERATIONS For the Years Ended December 31, 1998, 1997 and 1996
1998 1997 1996 ----------- ----------- ----------- Revenues: Rental income (Note 1) ............... $ 1,883,630 $ 1,919,582 $ 1,808,673 Interest income ...................... 205,781 174,764 178,726 Other income ......................... 0 9,404 0 ----------- ----------- ----------- Total revenues .................. 2,089,411 2,103,750 1,987,399 ----------- ----------- ----------- Expenses: Operating expenses: Depreciation and amortization ........ 581,956 825,911 813,359 Property taxes and insurance ......... 97,781 92,347 53,587 Administrative fees (Note 3) ......... 111,206 104,580 101,142 Maintenance and repairs .............. 240,965 228,890 262,271 Management fees (Note 3) ............. 109,725 101,558 93,780 Utilities ............................ 135,077 138,203 138,443 Legal and accounting ................. 27,657 47,242 42,011 General and administrative ........... 7,443 12,677 4,484 Renting expenses ..................... 0 309 5,128 Other operating expenses ............. 25,124 16,742 27,747 ----------- ----------- ----------- Total operating expenses ................ 1,336,934 1,568,459 1,541,952 Interest ............................. 438,711 463,804 559,759 ----------- ----------- ----------- Total expenses .................. 1,775,645 2,032,263 2,101,711 ----------- ----------- ----------- INCOME (LOSS) BEFORE PARTNERSHIP'S SHARE OF UNCONSOLIDATED JOINT VENTURE LOSSES 313,766 71,487 (114,312) ----------- ----------- ----------- PARTNERSHIP'S SHARE OF UNCONSOLIDATED JOINT VENTURE LOSSES (Note 5) ........ (131,897) (855,349) (354,765) ----------- ----------- ----------- INCOME (LOSS) BEFORE EXTRAORDINARY GAIN . 181,869 (783,862) (469,077) EXTRAORDINARY GAIN ON EXTINGUISHMENT OF DEBT (Note 6) ..................... 0 0 1,200,381 ----------- ----------- ----------- INCOME (LOSS) BEFORE MINORITY INTEREST'S SHARE OF CONSOLIDATED JOINT VENTURE (INCOME) LOSS ........................ 181,869 (783,862) 731,304 ----------- ----------- ----------- MINORITY INTEREST'S SHARE OF CONSOLIDATED JOINT VENTURE (INCOME) LOSS FROM CONTINUING OPERATIONS ................ (787) (7,906) 102,787 MINORITY INTEREST'S SHARE OF CONSOLIDATED JOINT VENTURE EXTRAORDINARY GAIN ..... 0 0 (516,644) ----------- ----------- ----------- NET INCOME (LOSS) ....................... $ 181,082 $ (791,768) $ 317,447 =========== =========== ===========
See Accompanying Notes 42 SIERRA MIRA MESA PARTNERS AND SUBSIDIARY (A California General Partnership) CONSOLIDATED STATEMENTS OF CHANGES IN GENERAL PARTNERS' EQUITY For the Years Ended December 31, 1998, 1997 and 1996
GENERAL PARTNERS ----------------------------------------------- SIERRA PACIFIC SIERRA PACIFIC DEVELOPMENT PENSION FUND II INVESTORS '84 TOTAL -------------- -------------- ----------- General Partners' equity - January 1, 1996 . $ 4,517,107 $ 4,339,966 $ 8,857,073 Net income ................................. 161,898 155,549 317,447 -------------- -------------- ----------- General Partners' equity - December 31, 1996 4,679,005 4,495,515 9,174,520 Transfer of advances ....................... 155,590 1,311,300 1,466,890 Net loss ................................... (284,878) (506,890) (791,768) Contributions .............................. 293,000 1,551,843 1,844,843 Distributions .............................. (1,580,800) (247,800) (1,828,600) -------------- -------------- ----------- General Partners' equity - December 31, 1997 3,261,917 6,603,968 9,865,885 Net income (loss) .......................... (14,912) 195,994 181,082 Contributions .............................. 8,490 42,000 50,490 Distributions .............................. (211,490) (211,250) (422,740) -------------- -------------- ----------- General Partners' equity - December 31, 1998 $ 3,044,005 $ 6,630,712 $ 9,674,717 ============== ============== ===========
See Accompanying Notes 43 SIERRA MIRA MESA PARTNERS AND SUBSIDIARY (A California General Partnership) CONSOLIDATED STATEMENTS OF CASH FLOWS For the Years Ended December 31, 1998, 1997 and 1996
1998 1997 1996 ----------- ----------- ----------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income (loss) .................................... $ 181,082 $ (791,768) $ 317,447 Adjustments to reconcile net income (loss) to cash provided by operating activities: Depreciation and amortization ...................... 581,956 825,911 813,359 Gain from extinguishment of debt ................... 0 0 (1,200,381) Undistributed losses of unconsolidated joint ventures .................... 131,897 855,349 354,765 Minority interest in consolidated joint venture income ............................ 787 7,906 413,857 Decrease (increase) in rent receivable ............. 60,853 (100,191) (164,870) Increase in due from affiliates .................... (202,581) (168,779) (70,286) (Increase) decrease in other assets ................ (215,974) 55,566 (293,798) Increase (decrease) in accrued and other liabilities 183,225 (35,663) 12,579 ----------- ----------- ----------- Net cash provided by operating activities ............ 721,245 648,331 182,672 ----------- ----------- ----------- CASH FLOWS FROM INVESTING ACTIVITIES: Payments for property additions .................... (346,113) (231,484) (745,134) Capital contributions to unconsolidated joint ventures .................... (350,900) (2,315,041) (824,400) Distributions received from unconsolidated joint ventures ................................... 372,312 2,439,098 731,500 ----------- ----------- ----------- Net cash used in investing activities ................ (324,701) (107,427) (838,034) ----------- ----------- ----------- CASH FLOWS FROM FINANCING ACTIVITIES: Loans to affiliates ................................ 0 0 (4,771) Repayments of loans to affiliates .................. 0 0 142,801 Borrowings from affiliates ......................... 0 0 166,890 Capital contributions from General Partners ........ 50,490 1,844,843 0 Cash distributions ................................. (422,740) (1,828,600) 0 Principal payments on notes payable ................ (254,638) (339,460) (992,832) ----------- ----------- ----------- Net cash used in financing activities ................ (626,888) (323,217) (687,912) ----------- ----------- ----------- NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS ................................ (230,344) 217,687 (1,343,274) CASH AND CASH EQUIVALENTS - Beginning of year .......... 244,408 26,721 1,369,995 ----------- ----------- ----------- CASH AND CASH EQUIVALENTS - End of year ................ $ 14,064 $ 244,408 $ 26,721 =========== =========== =========== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Cash paid during the year for interest ............... $ 439,756 $ 470,608 $ 580,906 =========== =========== ===========
In 1998, $202,581 of interest receivable was added to the principal balance of the note receivable from affiliate. In 1997, $338,020 of interest receivable was added to the principal balance of the note receivable from affiliate. These transactions are noncash items not reflected in the above statement of cash flows. See Accompanying Notes 44 SIERRA MIRA MESA PARTNERS AND SUBSIDIARY (A CALIFORNIA GENERAL PARTNERSHIP) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - ------------------------------------------------------------------------------ 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES ORGANIZATION Sierra Mira Mesa Partners ("SMMP"), a California general partnership, was formed in 1985 between Sierra Pacific Development Fund II ("SPDFII") and Sierra Pacific Pension Investors '84 ("SPPI'84") to develop and operate the real property known as Sierra Mira Mesa, an office building, located in San Diego, California. The property contains 89,560 square feet and is 100% leased at December 31, 1998. Per the terms of the partnership agreement, SPDFII and SPPI'84 shared in earnings, contributions and distributions in a ratio of 51% to 49%, respectively. Effective December 31, 1996, the general partners amended the partnership agreement to allow for adjustments in the sharing ratio each year based upon the relative net contributions and distributions since inception of each general partner. As a result, the sharing ratio in effect for 1997 was 45.58% for SPDFII and 54.42% for SPPI'84. In conjunction with this amendment, the general partners forgave the December 31, 1996 balances of advances due from SMMP and included these amounts as adjustments to their respective equity accounts. The sharing ratio in effect for 1998 was 33.74% for SPDFII and 66.26% for SPPI'84. On January 1, 1999, the sharing ratio will be decreased to 33.01% for SPDF II and increased to 66.99% for SPPI'84 to reflect the 1998 contributions and distributions. S-P Properties, Inc. is the General Partner and manager of SPDFII and SPPI'84. On December 30, 1994, all of the outstanding stock of TCP, Inc. was sold to Finance Factors, Inc. TCP, Inc. owns all of the common stock of S-P Properties, Inc. Finance Factors was a subsidiary of CGS Real Estate Company, Inc., a national real estate company. In July 1995, Finance Factors, Inc. merged with Bancor Real Estate Company, Inc., another subsidiary of CGS Real Estate Company, Inc. SMMP also holds investments in other industrial/commercial properties through its investments in unconsolidated joint ventures. Refer to Note 5 for additional information. BASIS OF FINANCIAL STATEMENTS The Partnership maintains its books and prepares its financial statements in accordance with generally accepted accounting principles. However, the Partnership prepares its tax returns on the accrual basis of accounting as defined by the Internal Revenue Code with adjustments to reconcile book and taxable income (loss) for differences in the treatment of certain income and expense items. The accompanying financial statements do not reflect any provision for federal or state income taxes since such taxes are the obligation of the individual partners. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reported period. Actual results could differ from those estimates. The consolidated financial statements of SMMP include the accounts of SMMP and Sorrento I Partners, a majority owned joint venture as of December 31, 1998. All significant intercompany balances and transactions have been eliminated in consolidation. 45 Sierra Mira Mesa Partners Notes to Consolidated Financial Statements Page two CASH AND CASH EQUIVALENTS Cash and cash equivalents include highly liquid, short-term investments with original maturities of three months or less. FAIR VALUE OF FINANCIAL INSTRUMENTS The financial instruments of the Partnership at December 31, 1998 and 1997 consist of cash and cash equivalents, receivables, due from affiliates, accounts payable and notes payable. The fair value of cash and cash equivalents, receivables and accounts payable approximate the carrying value due to the short term nature of these items. In the opinion of management, the fair value of the notes payable approximates the carrying value as the interest rate is based on market rates at December 31, 1998. Management does not fair value the amounts due from affiliates due to the related party nature of these receivables. INCOME-PRODUCING PROPERTIES Property and tenant improvements are carried at cost and depreciated on the straight-line method over the estimated lives of the related assets, ranging from three to thirty years. Tenant improvements incurred at the initial leasing of the properties are depreciated over ten years and tenant improvements incurred at the re-leasing of the properties are depreciated over the life of the related lease. Expenditures for repairs and maintenance are charged against income as incurred. Improvements and major renewals are capitalized. Costs and the related accumulated depreciation of assets sold or retired are removed from the accounts in the year of disposal or when fully depreciated and any resulting gain or loss is reflected in income. Prior to 1995, the Partnership assessed impairment of income-producing properties based upon appraised values and established provisions for impairment where appraisals indicated other than temporary declines in value. Effective January 1, 1995, the Partnership implemented Statement of Financial Accounting Standards No. 121, "Accounting for Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of" (the "Statement"). The Partnership regularly evaluates long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable. Future cash flows are estimated and compared to the carrying amount of the asset to determine if an impairment has occurred. If the sum of the expected future cash flows is less than the carrying amount of the asset, the Partnership shall recognize an impairment loss in accordance with the Statement. No such impairment has been recognized by the Partnership. Because the determination of fair value is based upon projections of future economic events such as property occupancy rates, rental rates, operating cost inflation and market capitalization rates which are inherently subjective, the amounts ultimately realized at disposition may differ materially from the net carrying value as of December 31, 1998. The cash flows used to determine fair value and net realizable value are based on good faith estimates and assumptions developed by management. Unanticipated events and circumstances may occur and some assumptions may not materialize; therefore actual results may vary from the estimates and the variances may be material. The Partnership may provide additional write-downs which could be material in subsequent years if real estate markets or local economic conditions change. INVESTMENT IN UNCONSOLIDATED JOINT VENTURES The investment in unconsolidated joint ventures is stated at cost and is adjusted for the Partnership's share in earnings or losses and cash contributions to or distributions from the joint ventures (equity method). 46 Sierra Mira Mesa Partners Notes to Consolidated Financial Statements Page three OTHER ASSETS Deferred leasing costs represent costs incurred to lease properties and are amortized over the life of the related lease using the straight line method of accounting. Deferred loan costs represent costs incurred to obtain financing and are amortized over the life of the related loan using the straight line method of accounting. RENTAL INCOME AND RENT RECEIVABLE Rental income is recognized on the straight-line method over the term of the related operating lease in accordance with the provisions of Statement of Financial Accounting Standards No. 13, "Accounting for Leases". Rent receivable consists of (a) unbilled rent - the difference between rent recognized on the straight-line method and actual cash due; (b) billed rent rent due but not yet received. RECENT ACCOUNTING PRONOUNCEMENTS The Financial Accounting Standards Board has issued Statement of Financial Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive Income" and SFAS No. 131, "Disclosures About Segments of an Enterprise and Related Information." These SFAS's, which are effective for the Partnership's fiscal year ending December 31, 1998, establish additional disclosure requirements but do not affect the measurement of the results of operations. During the periods presented, the Partnership did not have any items of comprehensive income. The adoption of SFAS No. 131 had no effect on the Partnership's financial statements as the Partnership operates in only one segment, the acquisition, development, and operation of commercial real estate. 2. DETAILS OF CERTAIN BALANCE SHEET ACCOUNTS Additional information regarding certain balance sheet accounts, at December 31, 1998 and 1997, is as follows: 1998 1997 -------- -------- Other assets: Prepaid expenses .................................. $ 21,070 $ 20,800 Deferred loan costs, net of accumulated amortization of $226,318 in 1998 and $202,307 in 1997 ................................ 133,878 157,889 Deferred leasing costs, net of accumulated amortization of $414,395 in 1998 and $871,903 in 1997 ................................ 637,028 609,019 Tax impounds ...................................... 23,728 23,288 Tenant improvement reserves ....................... 82,289 20,354 -------- -------- $897,993 $831,350 ======== ======== Accrued and other liabilities: Accounts payable .................................. $192,455 $ 38,666 Security deposits ................................. 17,922 5,999 Accrued expenses .................................. 8,101 2,073 Unearned rental income ............................ 12,530 0 Interest payable .................................. 20,982 22,027 -------- -------- $251,990 $ 68,765 ======== ======== 47 Sierra Mira Mesa Partners Notes to Consolidated Financial Statements Page four 3. GENERAL PARTNER AND RELATED PARTY TRANSACTIONS An affiliate of S-P Properties, Inc. receives a management fee of 5.5% of the gross rental income collected from the property. This fee amounted to $109,725, $101,558 and $93,780, respectively, for the years ended December 31, 1998, 1997 and 1996. This fee was recorded as part of the operating expenses of the property. SMMP reimburses an affiliate of S-P Properties, Inc. for expenses incurred by the affiliate for services provided to SMMP such as accounting, data processing and similar services. The affiliate was reimbursed $111,206, $104,580 and $101,142, respectively, for such services for the years ended December 31, 1998, 1997 and 1996. Additionally, SMMP reimbursed an affiliate for construction supervision costs incurred by the affiliate. For the years ended December 31, 1998, 1997 and 1996, the affiliate received $1,327, $11,154 and $48,205, respectively, for tenant improvements supervisory costs. In consideration for services rendered with respect to initial leasing of SMMP's property, an affiliate of S-P Properties, Inc. is paid initial leasing costs. For the years ended December 31, 1998, 1997, and 1996, these fees amounted to $63,492, $3,656, and $65,120 respectively, and were recorded as deferred leasing costs. During 1993, SMMP loaned funds to a former affiliate of S-P Properties, Inc. in the form of demand notes. Such liabilities were assumed by Finance Factors, Inc. which acquired S-P Properties, Inc. as of December 30, 1994. In July 1995, Finance Factors, Inc. merged with Bancor Real Estate Company, Inc. who has assumed the note. The annual interest rate of the loans was variable at bank prime plus 2-1/4% - 3% with a minimum rate of 9%. The loans totaled $2,360,000 at December 31, 1993 and were reduced to $1,687,787 at December 31, 1994. This loan was amended effective January 1, 1995 fixing the interest rate at 10%. On December 31, 1998 and 1997, interest receivable of $202,581 and $338,020, respectively, was added to the principal balance of the loan. No interest related to this loan was due to the Partnership at December 31, 1998 and 1997. The principal balance outstanding at December 31, 1998 is $2,228,387. The loan is guaranteed by the owners of CGS Real Estate Company, Inc. In 1996, the Partnership received a short-term, non-interest bearing loan from SPDFII in the amount of $155,590. This loan was reclassed to equity in 1997 (See Note 1). During 1996, the Partnership made a non-interest bearing advance to an affiliate in the amount of $4,771. Repayment is expected in 1999. During 1995 and 1996, the Partnership received non-interest bearing short-term advances from SPPI'84 of $1,300,000 and $11,300, respectively. These advances were reclassed to equity in 1997 (See Note 1). See Note 6 for note payable transactions with related parties. 48 Sierra Mira Mesa Partners Notes to Consolidated Financial Statements Page five 4. INCOME-PRODUCING PROPERTIES At December 31, 1998 and 1997 the total cost and accumulated depreciation of the properties are as follows: 1998 1997 ------------ ------------ Land ................................. $ 3,786,458 $ 3,786,458 Building and improvements ............ 8,487,806 9,926,189 ------------ ------------ Total ....................... 12,274,264 13,712,647 Accumulated depreciation ............. (3,273,970) (4,625,842) ------------ ------------ Net ......................... $ 9,000,294 $ 9,086,805 ============ ============ During 1998 and 1997, the Partnership removed $1,784,496 and $787,700, respectively, from its building and improvements and related accumulated depreciation accounts for fully depreciated property. Future minimum base rental income, under the existing operating leases for the Sierra Mira Mesa and Sorrento I properties, to be recognized on a straight-line basis and amounts to be received on a cash basis are as follows: YEAR ENDING STRAIGHT-LINE CASH DECEMBER 31, BASIS BASIS -------------------- ------------- ------------ 1999......... $ 2,078,020 $ 2,189,576 2000......... 2,029,716 2,246,281 2001......... 2,023,332 2,339,768 2002......... 2,014,332 2,437,297 2003......... 595,285 677,208 Thereafter...... 772,937 849,648 ------------- ------------ Total........ $ 9,513,622 $ 10,739,778 ============= ============ In each of the three years in the period ending December 31, 1998, two tenants accounted for the majority of the Partnership's rental income. A state governmental agency associated with workers compensation insurance accounted for rental income of 78%, 67%, and 81% in 1998, 1997 and 1996, respectively; a tenant in the communications sector accounted for rental income of 15%, 13% and 10% in 1998, 1997 and 1996, respectively. 5. INVESTMENT IN UNCONSOLIDATED JOINT VENTURES SMMP holds the following investments accounted for under the equity method at December 31, 1998: o a 33.55% equity interest in Sorrento II Partners ("SIIP"), a joint venture formed on October 1, 1993 with Sierra Pacific Institutional Properties V, an affiliate, to develop and operate Sierra Sorrento II, an industrial building located in San Diego, California. SMMP's investment in SIIP as of December 31, 1998 and 1997 is $1,711,089 and $1,711,297, respectively. SMMP's share of the net loss of SIIP for the three years ended December 31, 1998, 1997 and 1996 is $143,251, $59,066 and $61,933, respectively; 49 Sierra Mira Mesa Partners Notes to Consolidated Financial Statements Page six o a 9.33% equity interest in Sierra Creekside Partners ("SCP"), a joint venture formed on February 1, 1994 with Sierra Pacific Development Fund, an affiliate, to develop and operate Sierra Creekside, a commercial office building in San Ramon, California. SMMP's investment in SCP as of December 31, 1998 and 1997 is $(75,610) and $25,510, respectively. SMMP's share of the net loss of SCP for the three years ended December 31, 1998, 1997 and 1996 is $8,420, $14,995 and $70,232, respectively; o a 34.51% equity interest in Sierra Vista Partners ("SVP"), a joint venture formed on February 1, 1994 with Sierra Pacific Development Fund III, an affiliate, to develop and operate Sierra Vista, an industrial building in Anaheim, California. SMMP's investment in SVP as of December 31, 1998 and 1997 is $4,981 and $56,963, respectively. SMMP's share of the net income (loss) of SVP for the three years ended December 31, 1998, 1997 and 1996 is $19,774, $(781,288) and $(222,600), respectively. The Sierra Vista property was sold in October 1997. The following is a summary of aggregated financial information for all investments owned by SMMP which are accounted for under the equity method: CONDENSED COMBINED BALANCE SHEETS DECEMBER 31, DECEMBER 31, 1998 1997 ------------ ------------ ASSETS Cash and cash equivalents ......................... $ 85,793 $ 122,997 Rent receivable ................................... 542,527 549,240 Due from affiliate ................................ 47,666 47,666 Income-producing property, net of accumulated depreciation ................. 8,343,438 8,610,352 Other assets ...................................... 1,320,667 1,339,407 ------------ ------------ Total Assets ...................................... $ 10,340,090 $ 10,669,662 ============ ============ LIABILITIES AND GENERAL PARTNERS' EQUITY Accrued and other liabilities ..................... $ 520,646 $ 325,087 Note payable ...................................... 1,720,324 1,763,420 ------------ ------------ Total Liabilities ................................. 2,240,970 2,088,507 ------------ ------------ Ground lessors' equity in income-producing property 3,000,000 3,000,000 ------------ ------------ General Partners' equity .......................... 5,099,120 5,581,155 ------------ ------------ Total Liabilities and General Partners' equity .... $ 10,340,090 $ 10,669,662 ============ ============ 50 Sierra Mira Mesa Partners Notes to Consolidated Financial Statements Page seven CONDENSED COMBINED STATEMENTS OF OPERATIONS FOR THE YEAR ENDED DECEMBER 31, ------------------------------------------ 1998 1997 1996 ----------- ----------- ----------- Revenues: Rental income ............. $ 1,734,403 $ 2,294,859 $ 2,474,335 Other income .............. 93,668 9,698 13,968 ----------- ----------- ----------- Total revenues .... 1,828,071 2,304,557 2,488,303 ----------- ----------- ----------- Expenses: Operating expenses ........ 1,302,968 1,755,826 1,788,643 Depreciation and amortization 829,081 1,321,177 1,461,571 Interest .................. 156,636 459,763 427,967 ----------- ----------- ----------- Total expenses .... 2,288,685 3,536,766 3,678,181 ----------- ----------- ----------- Net loss before disposition of property .................. (460,614) (1,232,209) (1,189,878) Loss from property disposition 0 (967,764) 0 ----------- ----------- ----------- Net loss ..................... $ (460,614) $(2,199,973) $(1,189,878) =========== =========== =========== 6. NOTES PAYABLE
1998 1997 ---------- ---------- Mortgage note payable, due in monthly installments with interest at 7.74%, collateralized by the real property known as Sierra Mira Mesa. This note matures in October 2010 ...... $4,802,191 $5,041,225 Mortgage note payable to affiliate, due in monthly installments with interest fixed at 9.34% per annum through October 1998, at which time the rate converted to the one-year treasury rate plus 375 basis points. The note is collateralized by the real property known as Sorrento I. This note matures in March 2015 .................................. 616,223 631,827 ---------- ---------- $5,418,414 $5,673,052 ========== ==========
CGS Real Estate Company, Inc. ("CGS"), an affiliate of the General Partner, acquired the Sorrento I mortgage note, due in July 1998, and security documents from the bank in May 1996. In connection with the purchase of the bank note and security documents by CGS, the Partnership made a principal payment to the bank of $750,000 and entered into a $750,000 note agreement with CGS (the "CGS Agreement"). The CGS Agreement, collaterized by real and personal property, called for monthly interest payments through December 1996 and monthly principal and interest payments thereafter until maturity on May 31, 2016. The interest rate is fixed at 9.34% per annum for the first year of the note and will thereafter be the one year Treasury rate plus 375 basis points. A pre-payment in the amount of $105,000 was paid in April 1997. 51 Sierra Mira Mesa Partners Notes to Consolidated Financial Statements Page eight At any time upon 120 days written notice to CGS, the Partnership may fully discharge the note by the payment of an amount equal to $750,000 less the aggregate amount of principal paid under the note between the date of the CGS Agreement and the date of payment plus any interest due. A modification agreement was entered into on September 30, 1997. The interest rate remained fixed at 9.34% through October 1998, at which time the rate converted to the one-year treasury rate plus 375 basis points (9.06% at December 31, 1998). The principal of the note on the effective date was $635,479 and is amortized over a 210-month term until maturity in March 2015. Current payments are $6,048 per month, principal and interest inclusive. The loan balance as of December 31, 1998 was $616,223. The excess of the net carrying amount of the balance due under the bank note agreement, net of unamortized deferred loan fees, over the balance due under the CGS Agreement was recognized as an extraordinary item in 1996 in the amount of $1,200,381. Annual maturities under the Sierra Mira Mesa note and the CGS Agreement as of December 31, 1998 are: $275,661 in 1999; $298,018 in 2000; $322,194 in 2001; $348,333 in 2002; $376,598 in 2003; and $3,797,610 thereafter. The Partnership is exposed to interest rate fluctuations on $616,223 of variable debt at December 31, 1998. 52 SORRENTO II PARTNERS (A CALIFORNIA GENERAL PARTNERSHIP) BALANCE SHEETS AS OF DECEMBER 31, 1998 AND 1997 AND STATEMENTS OF OPERATIONS, CHANGES IN GENERAL PARTNERS' EQUITY AND CASH FLOWS FOR EACH OF THE THREE YEARS IN THE PERIOD ENDED DECEMBER 31, 1998 AND INDEPENDENT AUDITORS' REPORT 53 INDEPENDENT AUDITORS' REPORT To the Partners of Sorrento II Partners We have audited the accompanying balance sheets of Sorrento II Partners, a California general partnership, (the "Partnership") as of December 31, 1998 and 1997, and the related statements of operations, changes in general partners' equity and cash flows for each of the three years in the period ended December 31, 1998. These financial statements are the responsibility of the Partnership's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Sorrento II Partners as of December 31, 1998 and 1997, and the results of its operations and cash flows for each of the three years in the period ended December 31, 1998 in conformity with generally accepted accounting principles. DELOITTE & TOUCHE LLP Houston, Texas February 26, 1999 54 SORRENTO II PARTNERS (A CALIFORNIA GENERAL PARTNERSHIP) BALANCE SHEETS DECEMBER 31, 1998 AND 1997
DECEMBER 31, 1998 DECEMBER 31, 1997 ----------------- ----------------- ASSETS Cash and cash equivalents ..................... $ 3,203 $ 23,479 Receivables: Unbilled rent (Notes 1 and 4) ............... 486,238 476,278 Due from affiliates (Note 3) .................. 18,995 18,995 Prepaid ground lease (Note 3) ................. 683,000 845,000 Income-producing property - net of accumulated depreciation of $2,760,889 in 1998 and $2,390,306 in 1997 (Notes 1 and 4) ..................... 5,570,726 5,629,596 Other assets (Notes 1, 2 and 3) ............... 385,079 219,646 ----------------- ----------------- Total Assets .................................. $ 7,147,241 $ 7,212,994 ================= ================= LIABILITIES AND PARTNERS' EQUITY Accrued and other liabilities (Note 2) ........ $ 252,764 $ 48,386 Ground lease payable (Note 1) ................. 185,863 172,058 ----------------- ----------------- Total Liabilities ............................. 438,627 220,444 ----------------- ----------------- Ground lessor's equity in income- producing property (Note 3) ................. 3,000,000 3,000,000 ----------------- ----------------- General Partners' equity (Notes 1 and 5) ...... 3,708,614 3,992,550 ----------------- ----------------- Total Liabilities and Partners' equity ........ $ 7,147,241 $ 7,212,994 ================= =================
SEE ACCOMPANYING NOTES 55 SORRENTO II PARTNERS (A CALIFORNIA GENERAL PARTNERSHIP) STATEMENTS OF OPERATIONS FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 1998 1997 1996 ----------- ----------- ----------- REVENUES: Rental income (Note 1) .......... $ 814,801 $ 979,052 $ 990,901 ----------- ----------- ----------- Total revenues ............. 814,801 979,052 990,901 ----------- ----------- ----------- EXPENSES: Operating expenses: Depreciation and amortization . 458,276 447,453 447,452 Ground lease (Note 3) ......... 373,805 381,826 382,733 Property taxes and insurance .. 104,621 89,444 90,530 Maintenance and repairs ....... 80,758 66,599 84,287 Administrative fees (Note 3) .. 74,059 65,163 67,428 Management fees (Note 3) ...... 49,919 59,515 54,102 Legal and accounting .......... 29,742 61,781 33,070 General and administrative .... 15,055 13,655 25,316 Utilities ..................... 26,250 22,029 20,193 Renting expenses .............. 0 1,981 1,940 Other operating expenses ...... 29,295 6,723 13,915 ----------- ----------- ----------- Total operating expenses ... 1,241,780 1,216,169 1,220,966 ----------- ----------- ----------- NET LOSS .......................... $ (426,979) $ (237,117) $ (230,065) =========== =========== =========== SEE ACCOMPANYING NOTES 56 SORRENTO II PARTNERS (A CALIFORNIA GENERAL PARTNERSHIP) STATEMENTS OF CHANGES IN GENERAL PARTNERS' EQUITY FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996
GENERAL PARTNERS -------------------------------------------- SIERRA PACIFIC SIERRA INSTITUTIONAL MIRA MESA PROPERTIES V PARTNERS TOTAL -------------- ----------- ----------- General Partners' equity - January 1, 1996 . $ 2,627,436 $ 1,286,896 $ 3,914,332 Net loss ................................... (168,132) (61,933) (230,065) Contributions .............................. 0 44,500 44,500 Distributions .............................. 0 (190,500) (190,500) -------------- ----------- ----------- General Partners' equity - December 31, 1996 2,459,304 1,078,963 3,538,267 Net loss ................................... (178,051) (59,066) (237,117) Contributions .............................. 0 953,400 953,400 Distributions .............................. 0 (262,000) (262,000) -------------- ----------- ----------- General Partners' equity - December 31, 1997 2,281,253 1,711,297 3,992,550 Net loss ................................... (283,728) (143,251) (426,979) Contributions .............................. 0 228,700 228,700 Distributions .............................. 0 (85,657) (85,657) -------------- ----------- ----------- General Partners' equity - December 31, 1998 $ 1,997,525 $ 1,711,089 $ 3,708,614 ============== =========== ===========
SEE ACCOMPANYING NOTES 57 SORRENTO II PARTNERS (A CALIFORNIA GENERAL PARTNERSHIP) STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996
1998 1997 1996 --------- --------- --------- CASH FLOWS FROM OPERATING ACTIVITIES: Net loss ............................................. $(426,979) $(237,117) $(230,065) Adjustments to reconcile net loss to cash provided by (used in) operating activities: Depreciation and amortization ...................... 458,276 447,453 447,452 (Increase) decrease in rent receivable ............. (9,960) 13,687 (88,632) Increase in other assets ........................... (62,463) (844,087) (1,967) Increase (decrease) in accrued and other liabilities 218,183 (27,122) 31,729 --------- --------- --------- Net cash provided by (used in) operating activities 177,057 (647,186) 158,517 --------- --------- --------- CASH FLOWS FROM INVESTING ACTIVITIES: Payments for property additions ...................... (340,376) (29,313) (51,877) --------- --------- --------- Net cash used in investing activities ................ (340,376) (29,313) (51,877) --------- --------- --------- CASH FLOWS FROM FINANCING ACTIVITIES: Payments to affiliates ............................... 0 0 (18,995) Distributions to General Partner ..................... (85,657) (262,000) (190,500) Contributions from General Partner ................... 228,700 953,400 44,500 --------- --------- --------- Net cash provided by (used in) financing activities .. 143,043 691,400 (164,995) --------- --------- --------- NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS .............................. (20,276) 14,901 (58,355) CASH AND CASH EQUIVALENTS - Beginning of year .......... 23,479 8,578 66,933 --------- --------- --------- CASH AND CASH EQUIVALENTS - End of year ............... $ 3,203 $ 23,479 $ 8,578 ========= ========= =========
SEE ACCOMPANYING NOTES 58 SORRENTO II PARTNERS (A CALIFORNIA GENERAL PARTNERSHIP) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - ------------------------------------------------------------------------------ 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES ORGANIZATION Sorrento II Partners ("SIIP") was organized on October 1, 1993 as a California general partnership between Sierra Pacific Institutional Properties V ("SPIPV") and Sierra Mira Mesa Partners ("SMMP") to develop and operate the real property known as Sorrento II (the "Property"), an 88,073 office building in San Diego, California. The property consists of two separate buildings; a two-story building consisting of 29,500 usable square feet that was completed in November 1988 and a two-story building consisting of 58,573 usable square feet that was completed in May 1989. In 1993, SMMP contributed cash of $710,000 ($1,470,400, net, through December 31, 1995) for a 20.11% interest and SPIPV contributed the property and $115,000 cash for a 79.89% interest. During 1996, 1997 and 1998, SMMP contributed an additional $44,500, $953,400 and $228,700 and received distributions amounting to $190,500, $262,000 and $85,657 respectively. The partnership agreement calls for a recalculation of the percentage ownership interest each year on January 1st to account for the partners' aggregate capital contributions and distributions since inception through the prior year. Accordingly, as of January 1, 1996, 1997 and 1998 SPIPV's interest in SIIP was changed to 73.08%, 75.09% and 66.45%, respectively. On January 1, 1999, SPIPV's interest will be decreased to 64.90% and SMMP's interest will be increased to 35.10% to reflect the 1998 contributions and distributions. S-P Properties, Inc. is the General Partner of SPIPV and of SMMP's general partners, Sierra Pacific Development Fund II ("SPDFII") and Sierra Pacific Pension Investors '84 ("SPPI'84"). On December 30, 1994, all of the outstanding stock of TCP, Inc. was sold to Finance Factors, Inc. TCP, Inc. owns all of the common stock of S-P Properties, Inc. Finance Factors was a subsidiary of CGS Real Estate Company, Inc., a national real estate company. In July 1995, Finance Factors, Inc. merged with Bancor Real Estate Company, Inc., another subsidiary of CGS Real Estate Company, Inc. On October 1, 1993, the Partnership created a California general partnership (Sorrento II Partners) with Sierra Mira Mesa Partners ("SMMP"), an affiliate, to facilitate cash contributions by SMMP for the continued development and operation of the Sorrento II property. The Partnership contributed the Sierra Sorrento II property and cash and SMMP contributed cash to the newly formed partnership. At December 31, 1998, the Partnership's remaining asset is a 66.45% interest in Sorrento II Partners. On July 8, 1997, the Sorrento II land was purchased from Lincoln National Life Insurance Company by CGS Real Estate Company, Inc., an affiliate of the General Partner. On September 24, 1997, all rights, title and interest in the ground lease were transferred and assigned to CGS Real Estate Company, Inc. ("Ground Lessor") (See Note 3). BASIS OF FINANCIAL STATEMENTS SIIP maintains its books and prepares its financial statements in accordance with generally accepted accounting principles. However, the Partnership prepares its tax returns on the accrual basis of accounting as defined by the Internal Revenue Code with adjustments to reconcile book and taxable income (loss) for differences in the treatment of certain income and expense items. The accompanying financial statements do not reflect any provision for federal or state income taxes since such taxes are the obligation of the individual partners. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reported period. Actual results could differ from those estimates. 59 Sorrento II Partners Notes to Consolidated Financial Statements Page two CASH AND CASH EQUIVALENTS Cash and cash equivalents include highly liquid, short-term investments with original maturities of three months or less. FAIR VALUE OF FINANCIAL INSTRUMENTS The financial instruments of SIIP at December 31, 1998 and 1997 consist of cash and cash equivalents, receivables, due from affiliates, and accounts payable. The fair value of cash and cash equivalents, receivables, and accounts payable approximates the carrying value due to the short term nature of these items. The amounts due from affiliates are not fair valued due to the related party nature of these receivables. INCOME-PRODUCING PROPERTY Property and tenant improvements are carried at cost and depreciated on the straight-line method over the estimated lives of the related assets, ranging from three to thirty years. Tenant improvements incurred at the initial leasing of the property are depreciated over ten years and tenant improvements incurred at the re-leasing of the property are depreciated over the life of the related lease. Expenditures for repairs and maintenance are charged against income as incurred. Improvements and major renewals are capitalized. Costs and the related accumulated depreciation of assets sold or retired are removed from the accounts in the year of disposal or when fully depreciated and any resulting gain or loss is reflected in income. Prior to 1995, the Partnership assessed impairment of income-producing properties based upon appraised values and established provisions for impairment where appraisals indicated other than temporary declines in value. Effective January 1, 1995, SIIP implemented Statement of Financial Accounting Standards No. 121, "Accounting for Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of" (the "Statement"). SIIP regularly evaluates long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable. Future cash flows are estimated and compared to the carrying amount of the asset to determine if an impairment has occurred. If the sum of the expected future cash flows is less than the carrying amount of the asset, SIIP shall recognize an impairment loss in accordance with the Statement. No such impairment has been recognized by the Partnership. Because the determination of fair value is based upon projections of future economic events such as property occupancy rates, rental rates, operating cost inflation and market capitalization rates which are inherently subjective, the amounts ultimately realized at disposition may differ materially from the net carrying value as of December 31, 1998. The cash flows used to determine fair value and net realizable value are based on good faith estimates and assumptions developed by management. Unanticipated events and circumstances may occur and some assumptions may not materialize; therefore actual results may vary from the estimates and the variances may be material. SIIP may provide additional write-downs which could be material in subsequent years if real estate markets or local economic conditions change. OTHER ASSETS Deferred leasing costs represent costs incurred to lease properties and are amortized over the life of the related lease using the straight line method of accounting. 60 Sorrento II Partners Notes to Consolidated Financial Statements Page three RENTAL INCOME AND RENT RECEIVABLE Rental income is recognized on the straight-line method over the term of the related operating lease in accordance with the provisions of Statement of Financial Accounting Standards No. 13, "Accounting for Leases". Unbilled rent receivable represents the difference between rent recognized on the straight-line method and actual cash due. GROUND LEASE PAYABLE Ground lease payable represents the difference between rent recognized on the straight-line method in accordance with the provisions of Statement of Financial Accounting Standards No. 13, "Accounting for Leases" and actual cash due and paid by that date. RECENT ACCOUNTING PRONOUNCEMENTS The Financial Accounting Standards Board has issued Statement of Financial Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive Income" and SFAS No. 131, "Disclosures About Segments of an Enterprise and Related Information." These SFAS's, which are effective for the Partnership's fiscal year ending December 31, 1998, establish additional disclosure requirements but do not affect the measurement of the results of operations. During the periods presented, the Partnership did not have any items of comprehensive income. The adoption of SFAS No. 131 had no effect on the Partnership's financial statements as the Partnership operates in only one segment, the acquisition, development, and operation of commercial real estate. 2. DETAILS OF CERTAIN BALANCE SHEET ACCOUNTS Additional information regarding certain balance sheet accounts, at December 31, 1998 and 1997, is as follows: 1998 1997 -------- -------- Other assets: Prepaid expenses ................................ $ 45,741 $ 37,106 Deferred leasing costs, net of accumulated amortization of $225,616 in 1998 and $204,574 in 1997 ....................... 339,338 182,540 -------- -------- $385,079 $219,646 ======== ======== Accrued and other liabilities: Accounts payable ................................ $ 83,801 $ 40,319 Unearned rental income .......................... 152,150 0 Security deposits ............................... 7,249 7,249 Other ........................................... 9,564 818 -------- -------- $252,764 $ 48,386 ======== ======== 61 Sorrento II Partners Notes to Consolidated Financial Statements Page four 3. GENERAL PARTNER AND RELATED PARTY TRANSACTIONS An affiliate of the General Partner may receive a management fee of 6% of the gross rental income collected from the properties. Management fees paid to affiliates for the years ended December 31, 1998, 1997 and 1996 were $49,919, $59,515 and $54,102, respectively. An affiliate of the General Partner is entitled to reimbursement for expenses incurred by the affiliate for services provided to SIIP such as accounting, legal, data processing and similar services. The affiliate was reimbursed $77,844, $69,720 and $67,428 for such services for the years ended December 31, 1998, 1997, and 1996, respectively. In consideration for services rendered with respect to initial leasing of SIIP properties, ASRE is paid initial leasing costs. For the year ended December 31, 1998, a total of $74,504 was paid for initial leasing costs. No such costs were incurred in 1997 and 1996. Additionally, SIIP reimbursed the affiliate for construction supervision costs incurred by the affiliate. For the years ended December 31, 1998 and 1997, the affiliate received $22,511 and $1,998, respectively, for tenant improvements supervisory costs. No such costs were incurred in 1996. SIIP sold the Sierra Sorrento II land holdings to Lincoln National Life Insurance Company for $3,000,000 on February 1, 1989. Upon ownership transfer, SIIP entered into a 40 year ground lease with the insurance company. The Sierra Sorrento II land lease requires initial minimum payments of $25,000 per month commencing February 1989. The terms of the ground lease require scheduled rent increases over the lease term and additional ground rent. Subject to the provisions of the ground lease, SIIP has the right to sell the property (land and buildings) to a third party. Upon ownership transfer the ground lease will terminate. Upon sale, the Ground Lessor is entitled to remuneration of the prior $3,000,000 investment prior to distribution of proceeds to SIIP. The Ground Lessor will also participate in the appreciation of the property (upon sale) based on a formula contained in the ground lease agreement. On July 8, 1997, the land was purchased from Lincoln National Life Insurance Company by CGS Real Estate Company, Inc., an affiliate of the General Partner. On September 24, 1997, all rights, title and interest in the ground lease were transferred and assigned to CGS Real Estate Company, Inc. ("Ground Lessor"). In October 1997, SIIP prepaid $900,000 of the ground lease to CGS Real Estate Company, Inc in exchange of an amendment reducing the minimum rent required under the lease from $360,000 to $330,000 per year from 1999 to 2008. The minimum basic rent effective January 1, 2009 through December 31, 2028 remained unchanged at $360,000 per year. The November 1997, December 1997, and January 1998 rent amounts payable under the terms of the lease were applied against the prepaid balance. Effective February 1998, rent amounts shall be paid at the rate of $18,000 per month until such time that the prepaid balance is extinguished. For the years ended December 31, 1998 and 1997, the SIIP paid $198,000 and $35,000, respectively, to CGS Real Estate Company, Inc. and $162,000 and $55,000, respectively, was applied against the prepaid balance. Hence, at December 31, 1998 the prepaid balance was $683,000. Future minimum basic rent required under the ground lease is as follows: MINIMUM BASIC YEAR ENDING DECEMBER 31, RENT - ------------------------- ----------- 1999 .................... $ 330,000 2000 .................... 330,000 2001 .................... 330,000 2002 .................... 330,000 2003 .................... 330,000 Thereafter ............... 8,850,000 ----------- Total .................. $10,500,000 =========== 62 Sorrento II Partners Notes to Consolidated Financial Statements Page five During 1996, the Partnership made a non-interest bearing loan to an affiliate in the amount of $18,995. Repayment is expected in 1999. 4. INCOME-PRODUCING PROPERTY At December 31, 1998 and 1997 the total cost and accumulated depreciation of the property are as follows: 1998 1997 ----------- ----------- Land ................................... $ 2,569,815 $ 2,569,815 Building and improvements .............. 5,761,800 5,450,087 ----------- ----------- Total ......................... 8,331,615 8,019,902 Accumulated depreciation ............... (2,760,889) (2,390,306) ----------- ----------- Net ........................... $ 5,570,726 $ 5,629,596 =========== =========== SIIP experienced a land ownership transfer during 1997 (See Note 3). Future minimum base rental income, under the existing operating leases for the Sierra Sorrento II property, to be recognized on a straight-line basis and amounts to be received on a cash basis are as follows: STRAIGHT-LINE CASH YEAR ENDING DECEMBER 31, BASIS BASIS ----------------------- ------------- ---------- 1999 ................ $ 964,485 $1,004,441 2000 ................ 964,485 1,050,272 2001 ................ 964,485 1,081,755 2002 ................ 964,485 1,110,726 2003 ................ 443,200 486,301 Thereafter ........... 561,738 615,621 ------------- ---------- Total ..... $ 4,862,878 $5,349,116 ============= ========== In 1998, the Partnership relied on two tenants to generate all rental income; 82% was from an electronics manufacturer and the remaining 18% from a media and marketing company. In 1997 and 1996, two tenants generated all rental income; 65% from the electronics manufacturer and 35% from a healthcare administrator. 63 Sorrento II Partners Notes to Consolidated Financial Statements Page six 5. GENERAL PARTNERS' EQUITY In accordance with the partnership agreement, accrual basis losses resulting from operations of the partnership are first allocated to the General Partners in proportion to the relative amounts of net cumulative partnership profits until such allocated losses equal the previously allocated net cumulative partnership profits. Then, losses are allocated in proportion to the Partners' percentage interests as computed January 1st of the year in which the loss occurred. Likewise, accrual basis profits resulting from operations of the partnership are first allocated to the General Partners in proportion to the relative amounts of net cumulative partnership losses until such allocation of profits equals the previously allocated net cumulative partnership losses. Then, profits are allocated in proportion to the distributions made to the Partners during the year. Upon dissolution of the partnership, any proceeds should be distributed first to Sierra Mira Mesa as a return of capital in proportion to its aggregate unreturned capital contributed and then to Sierra Pacific Instituional Properties V in proportion to its aggregate unreturned capital contributed. Any remaining proceeds shall be first distributed pro rata in proportion to the Partners' positive balances in their capital accounts and then in accordance with their percentage interest in the year of dissolution. 64 EXECUTIVE OFFICERS OF THE GENERAL PARTNER The Executive Officers of S-P Properties, Inc., the General Partner are as follows: NAME POSITION - ------------------ -------------------------------- Thomas N. Thurber President and Director Dawson L. Davenport Vice President Steven M. Speier Secretary/Treasurer and Director William J. Carden Assistant Secretary/Treasurer and Director The 10-K Report sent to the Securities and Exchange Commission contains additional information on the partnership's operations and is available to Limited Partners upon request. 65 EX-27 2
5 THE FINANCIAL DATA SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM SIERRA PACIFIC DEVELOPMENT FUND II DECEMBER 31, 1998 FINANCIAL STATEMENTS AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 12-MOS DEC-31-1998 DEC-31-1998 71,180 0 364,533 0 0 1,163,844 14,016,962 3,117,658 19,342,914 488,930 6,231,204 0 0 0 12,531,889 19,342,914 2,297,908 2,673,328 0 1,501,992 890,846 0 439,499 (173,921) 0 (173,921) 0 0 0 (173,921) (2.01) (2.01)
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