-----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, DlNEANL/1VOsy11sstXDso5oRhi/dwnFtUJwPRwuaHF0zesnPRcfmUHXNvVN8mp3 r6nsakVC+mJKDANXdMxtAg== 0000892569-98-000956.txt : 19980401 0000892569-98-000956.hdr.sgml : 19980401 ACCESSION NUMBER: 0000892569-98-000956 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19971231 FILED AS OF DATE: 19980331 SROS: NONE FILER: COMPANY DATA: COMPANY CONFORMED NAME: AMERICAN RETIREMENT VILLAS PROPERTIES II CENTRAL INDEX KEY: 0000830156 STANDARD INDUSTRIAL CLASSIFICATION: REAL ESTATE [6500] IRS NUMBER: 330278155 STATE OF INCORPORATION: CA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: SEC FILE NUMBER: 033-20413 FILM NUMBER: 98583581 BUSINESS ADDRESS: STREET 1: 245 FISCHER AVE STE D1 CITY: COSTA MESA STATE: CA ZIP: 92626 BUSINESS PHONE: 7147517400 MAIL ADDRESS: STREET 2: 245 FISCHER AVE STE D1 CITY: COSTA MESA STATE: CA ZIP: 92626 10-K405 1 10-K405 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K (MARK ONE) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 [FEE REQUIRED] FOR THE FISCAL YEAR ENDED: DECEMBER 31, 1997 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED] FOR THE TRANSITION PERIOD FROM TO COMMISSION FILE NUMBER: 0-26468 AMERICAN RETIREMENT VILLAS PROPERTIES II A CALIFORNIA LIMITED PARTNERSHIP (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) CALIFORNIA 33-0278155 (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.) 245 FISCHER AVENUE, SUITE D-1, COSTA MESA, CALIFORNIA 92626 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE) REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (714) 751-7400 SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: UNITS OF LIMITED PARTNERSHIP (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 [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. Yes [X] No [ ] The aggregate market value of voting Units (all voting) held by non-affiliates of Registrant, computed by reference to the price at which such units were sold, was $34,995,000 as of March 24, 1998, a date within sixty (60) days of the filing of this Form 10-K. On that date there were 35,020 Units outstanding. 2 TABLE OF CONTENTS AMERICAN RETIREMENT VILLAS PROPERTIES II, A CALIFORNIA LIMITED PARTNERSHIP PART I ITEM 1. BUSINESS Overview The Assisted Living Market The Partnership's Assisted Living Services Factors Affecting Future Results Regarding Forward-looking Statements Competition Government Regulation Risks Common to the Partnership's Assisted Living Operations ITEM 2. PROPERTIES ITEM 3. LEGAL PROCEEDINGS ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS ITEM 6. SELECTED FINANCIAL DATA ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT ITEM 11. EXECUTIVE COMPENSATION ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K 3 PART I ITEM 1. BUSINESS OVERVIEW American Retirement Villas Properties II ("ARVP II" or the "Partnership") operates ten assisted living communities in the state of California, five of which it owns and five of which it leases. These communities house and provide personal care and support services to its senior residents. The ten communities contain an aggregate of 941 units. For the twelve months ended December 31, 1997, ARVP II's communities had a total average occupancy of approximately 92% as compared to 93% for the twelve months ended December 31, 1996. ARVP II was founded in February 1988 as a California limited partnership to develop, finance, acquire, and operate senior housing, inclusive of assisted living communities. The general partners of ARVP II are ARV Assisted Living, Inc., ("ARVAL"), which serves as Managing General Partner, Gary L. Davidson, John A. Booty, John S. Jason, and Tony Rota (collectively known as the "General Partners"). On May 16, 1996, ARVAL tendered for the limited partnership units in ARVP II, at a net cash price of $720 per unit. Prior to the tender offer ARVAL owned 110 units. At the close of the tender offer on June 21, 1996, holders of approximately 15,524 units tendered their units representing approximately 44% of all outstanding units. On July 26, 1996, ARVAL initiated a second tender offer to purchase up to 3,715 additional limited partnership units at a net cash price of $720 per unit less second quarter distributions. At the close of the second tender offer on August 23, 1996, holders of approximately 2,164 units tendered their units representing approximately 6.2% of all units. During 1997, ARVAL acquired 525 additional limited partnership units at a net cash price of approximately $720 per unit. As of December 31, 1997, ARVAL owns 18,323 units or approximately 52.3% of the limited partnership units. As such, ARVAL has a controlling interest in the Partnership. THE ASSISTED LIVING MARKET Assisted Living. Assisted living can be viewed as falling near the middle of the elder care continuum, between home-based care at one end and long-term skilled nursing facilities and acute care hospitals at the other. Assisted living represents a combination of housing, personalized support services, and health care designed to respond to the individual needs of the senior elderly who need help in activities of daily living, but do not need the medical care provided in a skilled nursing facility. The Partnership believes its assisted living business benefits from significant trends affecting the long-term care industry. The first is an increase in the demand for elder care resulting from the continued aging of the U.S. population, with the average age of the Partnership's assisted living residents falling within the fastest growing segments of the U.S. population. While increasing numbers of Americans are living longer and healthier lives, many gradually require increasing assistance with activities of daily living, and are not able to continue to age in place at home. The second is the effort to contain health care costs by the government, private insurers and managed care organizations by limiting lengths of stay, services, and reimbursement amounts to persons in acute care hospitals and skilled nursing facilities. Assisted living offers a cost effective long-term care alternative while preserving a more independent lifestyle for those senior elderly who do not require the broader array of medical services that acute care hospitals and skilled nursing facilities are required to provide. Other trends benefiting the Partnership include the increased financial net worth of the elderly population, the increase in the population of individuals living alone and the increasing number of women who work outside the home and are therefore less able to care for their elderly relatives. The Partnership believes that these trends will result in an increasing demand for assisted living services and communities to fill the gap between aging at home and aging in more expensive skilled nursing facilities. Aging Population. The primary consumers of long-term health care services are persons over the age of 65. This group represents one of the fastest growing segments of the population. According to U.S. Bureau of the Census data, the segment of the population over 65 years of age is currently 13% of the total population or 34 million 1 4 people. That number is projected to grow to 20% of the total population or 69 million people by the year 2030. Additionally, the number of people aged 85 and older, which comprises the largest percentage of residents at long-term care facilities, is currently 3.7 million and is projected to increase to 8.5 million by the year 2030. The Partnership believes that growth in the assisted living industry is being driven by several factors. Advances in the medical and nutrition field have resulted in an increased life expectancy, resulting in larger numbers of elderly people. The increased number of women in the labor force has reduced the supply of caregivers. Historically, unpaid women (mostly daughters or daughters-in-law) represented a large portion of the caregivers of the non-institutionalized senior elderly. As a result of changing societal patterns, the population of individuals living alone has increased significantly since 1960. This increase has been the result of an aging population in which women outlive men by an average of 6.8 years, rising divorce rates, and an increase in the number of unmarried individuals. Limitation on the Supply of Long-Term Care Facilities. The majority of states in the U.S. have enacted Certificate of Need or similar legislation, which generally limits the construction of skilled nursing facilities and the addition of beds or services in existing skilled nursing facilities. High construction costs, limitations on government reimbursement for the full cost of construction, and start-up expenses also act to constrain growth in the supply of such facilities. Such legislation benefits the assisted living industry by limiting the supply of skilled nursing beds for the senior elderly. Cost factors are placing pressure on skilled nursing facilities to shift their focus toward higher acuity care which enables them to charge higher fees, thus creating a shortage of lower acuity care availability, and thereby increasing the pool of potential assisted living residents. While Certificates of Need generally are not required for assisted living communities, except in a few states, most states do require assisted living providers to license their communities and comply with various regulations regarding building requirements and operating procedures and regulations. States typically impose additional requirements on assisted living facilities over and above the standard congregate care requirements. Further, the limited pool of experienced assisted living staff and management, as well as the costs and start-up expenses to construct an assisted living community, provide an additional barrier of entry to the assisted living business. Cost Containment Pressures of Health Reform. In response to rapidly rising health care costs, both government and private pay sources have adopted cost containment measures that have encouraged reduced lengths of stay in hospitals and skilled nursing facilities. The federal government has acted to curtail increases in health care costs under Medicare by limiting acute care hospital reimbursement for specific services to preestablished fixed amounts. Private insurers have also begun to limit reimbursement for medical services in general to predetermined "reasonable" charges. Managed care organizations, such as health maintenance organizations ("HMOs") and preferred provider organizations ("PPOs") are reducing hospitalization costs by negotiating for discounted rates for hospital services and by monitoring and decreasing hospitalization. The Partnership anticipates that both HMOs and PPOs increasingly may direct patients away from the more expensive nursing care facilities into less expensive assisted living communities. These cost containment measures have produced a "push-down" effect. As the number of patients being "pushed down" from acute care hospitals to skilled nursing facilities increases, the demand for residential options such as assisted living communities to serve patients who historically have been served by skilled nursing facilities will also increase. In addition, skilled nursing facility operators are continuing to focus on improving occupancy and expanding services (and fees) to subacute patients requiring very high levels of nursing care. As the level of skilled nursing facility patients increases, the supply of nursing facility space will be filled by patients with higher acuity needs paying higher fees, which again will provide opportunities for assisted living communities to increase their occupancy and services to residents requiring lesser levels of care than generally can be expected for patients in skilled nursing facilities. THE PARTNERSHIP'S ASSISTED LIVING SERVICES The Partnership provides services and care which are designed to meet the individual needs of its residents. The services provided by the Partnership are designed to enhance both the physical and mental well-being of the 2 5 senior elderly in each of its communities by promoting their independence and dignity in a home-like setting. The Partnership's assisted living program includes the following: Personalized Care Plan. A primary element of the Partnership's strategy is the concept of "personalized" care to meet each resident's specific needs. This concept of customizing services to meet the needs of the residents begins with the resident admissions process, where the community's management staff, the resident, the resident's family, and the resident's physician discuss the resident's needs and develop a plan for the resident's care. If recommended by the resident's physician, additional health care or medical services may be provided at the community by a third party home health care agency or other medical provider. The care plan is reviewed and modified on a regular basis. Basic Service and Care Package. The basic service and care package at the Partnership's assisted living communities generally includes the following: meals in a communal, "home-like" setting, housekeeping, linen and laundry service, social and recreational programs, security, utilities and transportation in the Partnership's van or minibus. Other care services can be provided under the basic package based upon the individual's personalized health care plan. Additional Services. The Partnership has designed its additional assisted living service program which is available to residents on a personalized basis. Level One: Assistance to residents in the self-administration of medication. Where necessary, the assisted living staff will consult with the family, the physician or the insurance company of a resident to designate a home health care agency to administer the appropriate medication. Level Two: In addition to the services provided under Level One, assistance with bathing, dressing and grooming, escorting to and from meals and activities, reading mail, writing letters, shopping and other specialized activities. These services are provided on an as-needed basis and at the convenience of the resident within the overall operation of the community. Level Three: All of the services provided under Level One and Level Two, and, in addition, provision of those services on a 24-hour basis. Further, this level provides appropriate services for individuals who need help with incontinence. In addition to the above levels, the Partnership provides other levels of assistance to its residents in order to meet their individual needs. FACTORS AFFECTING FUTURE RESULTS AND FORWARD-LOOKING STATEMENTS The Partnership's business, results of operations and financial condition are subject to many risks, including those set forth below. Certain statements contained in this report, including without limitation statements containing the words "believes," "anticipates," "expects," and words of similar import, constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of the Partnership, or industry results, to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. The Partnership has made forward-looking statements in this report concerning, among other things the level of future capital expenditures. These statements are only predictions, however; actual events or results may differ materially as a result of risks facing the Partnership. These risks include, but are not limited to, those items discussed below. Certain of these factors are discussed in more detail elsewhere in this report, including without limitation under the captions "Business", "Legal Proceedings" and "Management's Discussion and Analysis of Financial Condition and Results of Operations." Given these uncertainties, readers are cautioned not to place undue reliance on such forward-looking statements, which speak only as of the date of this report. The Partnership disclaims any obligation to update any such factors or to publicly announce the result of any revisions to any of the forward-looking statements contained herein to reflect future events or developments. 3 6 COMPETITION The health care industry is highly competitive and the Partnership expects that the assisted living business in particular will become more competitive in the future. The Partnership continues to face competition from numerous local, regional and national providers of assisted living and long-term care whose facilities and services are on either end of the senior care continuum from skilled nursing facilities and acute care hospitals to companies providing home based health care, and even family members. In addition, the Partnership expects that as assisted living receives increased attention among the public and insurance companies, competition from current and new market entrants, including companies focused on assisted living as well as hospitality companies expanding into the market, will increase. Some of the Partnership's competitors operate on a not-for-profit basis or as charitable organizations, while others have, or may obtain, greater financial resources than those available to the Partnership. GOVERNMENT REGULATION Assisted Living. Health care is an area subject to extensive regulation and frequent regulatory change. Currently, no federal rules explicitly define or regulate assisted living. While specific assisted living regulation has not yet enacted, the Partnership is and will continue to be subject to varying degrees of regulation and licensing by health or social service agencies and other regulatory authorities in the various localities in which it operates or intends to operate. Changes in, or the adoption of, such laws and regulations, or new interpretations of existing laws and regulations, could have a significant effect on methods of doing business, costs of doing business and amounts of reimbursement from governmental and other payors. In addition, the President and Congress have proposed in the past, and may propose in the future, health care reforms that could impose additional regulations on the Partnership or limit the amounts that the Partnership may charge for its services. The Partnership cannot make any assessment as to the ultimate timing and impact that any pending or future health care reform proposals may have on the assisted living, home health care, nursing facility or on the health care industry in general. No assurance can be given that any such reform will not have a material adverse effect on the business, financial condition or results of operations of the Partnership. SSI Payments. A portion of the Partnership's revenue (currently, approximately 6% of the Partnership's assisted living revenue) is derived from residents who are recipients of Supplemental Security Income ("SSI") payments. Revenue derived from these residents is generally lower than that received from the Partnership's other residents and could be subject to payment delay. There can be no assurance that the Partnership's proportionate percentage of revenue received from SSI receipts will not increase, or that the amounts paid under SSI programs will not be further limited. RISKS COMMON TO THE PARTNERSHIP'S ASSISTED LIVING OPERATIONS Staffing and Labor Costs. Personnel at each of the Partnership's ten communities are employees of ARVAL. As of December 31, 1997, approximately 335 people were employed at the ten communities. The Partnership competes with other providers of assisted living and senior housing with respect to attracting and retaining qualified personnel. The Partnership also is dependent upon the available labor pool of employees. A shortage of qualified personnel may require ARVAL to enhance its wage and benefits package in order to compete. In addition, many health care workers in the nursing home industry are unionized. While there are currently no unionized employees at any of the Partnership's communities, any unionization or threat of unionization of workers in the assisted living industry or at the Partnership's communities could increase the Partnership's labor costs. No assurance can be given that the Partnership's labor costs will not increase, or that if they do increase, they can be matched by corresponding increases in revenues. Obtaining Residents and Maintaining Rental Rates. As of December 31, 1997, the assisted living community's owned or leased by the Partnership had a combined occupancy rate of 87%. Occupancy may drop due to changes in the health of residents, increased competition from other providers of assisted living services which may give residents more choices with respect to the provision of such services, the re-evaluation of residents regarding 4 7 retention criteria, changes in management and staffing, and implementation of the Partnership's assisted living programs. There can be no assurance that, at any time, any assisted living community will be substantially occupied at assumed rents. If operating expenses increase, local rental market conditions may limit the extent to which rents may be increased. In addition, the failure of the Partnership to generate sufficient revenue could result in an inability to meet minimum rent obligations under the Partnership's long-term operating leases and make interest and principal payments on its indebtedness. General Real Estate Risks. The performance of the Partnership's assisted living communities is influenced by factors affecting real estate investments, including the general economic climate and local conditions, such as an oversupply of, or a reduction in demand for, assisted living communities. Other factors include the attractiveness of properties to residents, zoning, rent control, environmental quality regulations or other regulatory restrictions, competition from other forms of housing and the ability of the Partnership to provide adequate maintenance and insurance and to control operating costs, including maintenance, insurance premiums and real estate taxes. ITEM 2. PROPERTIES The following table sets forth, as of December 31, 1997, the location, the date on which operations commenced, number of units, number of beds, and the Company's interest in the property.
OPERATIONS COMMUNITY LOCATION COMMENCED UNITS BEDS INTEREST --------- -------- ---------- ----- ---- -------- Retirement Inn of Burlingame Burlingame, CA 1989 68 90 Leased Retirement Inn of Campbell Campbell, CA 1989 72 90 Leased Covina Villa Covina, CA 1988 64 90 Fee-Owned, subject to ground lease Retirement Inn of Daly City Daly City, CA 1989 95 120 Fee-Owned Retirement Inn of Fremont Fremont, CA 1989 70 99 Leased Retirement Inn of Fullerton Fullerton, CA 1989 68 99 Fee-Owned Montego Heights Lodge Walnut Creek, CA 1989 171 200 Fee-Owned Retirement Inn of Sunnyvale Sunnyvale, CA 1989 124 160 Leased Valley View Lodge of Rossmoor Walnut Creek, CA 1989 125 153 Fee-Owned Inn at Willow Glen San Jose, CA 1989 84 120 Leased
ITEM 3. LEGAL PROCEEDINGS On September 27, 1996, the Partnership filed actions seeking declaratory judgements against the landlords of the Retirement Inn of Campbell ("Campbell") and the Retirement Inn of Sunnyvale ("Sunnyvale"). The Partnership leases the Campbell and Sunnyvale assisted living communities under long-term leases which were assumed when the community was acquired. A dispute has arisen as to the amount of rent due during the 10-year lease renewal periods which commenced in August 1995 for Campbell and March 1996 for Sunnyvale. The Partnership seeks a determination that the Partnership is not required to pay any higher rent during the 10-year renewal periods than during the original 20-year lease terms. In the event that the court finds against the Partnership, rent for the Campbell and Sunnyvale communities could increase significantly, which will reduce distributions to Unitholders in the future. These rent increases would be retroactive to the commencement of the lease renewal periods. Two other communities leased by the Partnership, the Retirement Inn of Fremont ("Fremont") and the Retirement Inn at Burlingame ("Burlingame"), are owned by entities which are related to the entities that own the Campbell and Sunnyvale communities. It is not known whether the landlords of those communities will dispute the amount of rent due during the renewal periods which began January 1997 for Fremont and August 1997 for Burlingame. If so, the Partnership may be required to file litigation to determine the rights under those leases as well. As of 5 8 March 24, 1998, no threat of litigation has been made by the landlords of the Retirement Inn of Fremont or the Retirement Inn at Burlingame. Management is of the opinion, based in part upon opinions of legal counsel, that the ultimate disposition of these matters will not have a material adverse effect on the Partnership's financial position, results of operations or liquidity. Management is of the opinion, based in part upon opinions of legal counsel, that the ultimate disposition of these matters will not have a material adverse effect on the Partnership's financial position, results of operations or liquidity. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matters were submitted to Unitholders during the fiscal year. PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED UNITHOLDER MATTERS There is no established public trading market for the Registrant's securities. As noted in Item 1, ARVAL, the Managing General Partner of ARVP II, tendered for the limited partnership units in ARVP II in May 1996 and July 1996. During 1997, ARVAL acquired 525 additional Partnership units at a net cash price of approximately $720 per unit. As of December 31, 1997, ARVAL owned 18,323 limited partnership units or approximately 52.3% of all outstanding units. As of December 31, 1997, there were approximately 1,821 Unitholders of record owning 35,019.88 Units. For the years ended December 31, 1997, 1996 and 1995, the Registrant made limited partner distributions of $45.24 per Unit, $60.77 per Unit, and $64.28 per Unit, respectively. The return of capital for the years ended December 31, 1997, 1996 and 1995 was $0 per unit, $16.22 per unit, and $39.57 per unit, respectively. There were distributions of earnings for the years ending December 31, 1997, 1996 and 1995 of $45.24 per unit, $44.55 per unit, and $24.71 per unit, respectively. ITEM 6. SELECTED FINANCIAL DATA The following table presents selected financial data for each of the Registrant's last five fiscal years. Certain of this financial data has been derived from the Registrant's audited financial statements included elsewhere in this Form 10-K and should be read in conjunction with those financial statements and accompanying notes and with "Management's Discussion and Analysis of Financial Condition and Results of Operations" at Item 7. This table is not covered by the Independent Auditors' Report.
1997 1996 1995 1994 1993 -------- -------- -------- -------- -------- (In thousands except unit data) Revenue $ 19,044 $ 17,834 $ 16,982 $ 16,003 $ 15,085 Net income (loss) 2,878 1,576 873 (107) (672) Net income (loss) (per limited partner unit) 81.35 44.55 24.71 (3.04) (19.00) Total assets 21,929 20,801 21,524 22,765 24,628 Partners' capital 13,523 12,245 12,819 13,765 15,832 Notes payable 6,403 6,562 7,212 7,189 7,306 Distributions of earnings 45.24 44.55 24.71 -- -- Distributions - return of capital -- 16.22 39.57 55.45 47.53 Total distributions (per limited partner unit) 45.24 60.77 64.28 55.45 47.53
6 9 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS LIQUIDITY. On a long-term basis, the Registrant's liquidity is sustained primarily from cash flow provided by operating activities. During 1997, net cash provided by operating activities was approximately $4.7 million compared to $3.3 million and $3.0 million for 1996 and 1995, respectively. The Managing General Partner has commenced a refurbishment program in order to repair, maintain and physically improve the Partnership's communities. Given the age of the communities (ages range from 11 to 23 years with an average age of 19.5 years), the Managing General Partner has determined the necessity of certain repairs and improvements. The repairs and improvements are expected to be funded primarily from operating cash flow of the Partnership. As a result of the planned renovations, the Managing General Partner believes that distributions of cash flow from operations will either be reduced or eliminated to the Partners over the near term. The General Partners expect that the cash to be generated from operations of the Partnership's communities will be adequate to pay operating expenses, make necessary capital improvements and make required principal reductions of loans. During 1997, the Registrant used net cash in investing activities of approximately $1.2 million compared to $0.7 million and $0.9 million for 1996 and 1995, respectively. The primary investing activities consist of property improvements and the purchase of furniture, fixtures and equipment. During 1997, the Registrant used net cash in financing activities of approximately $2.0 million compared to $2.6 million and $2.2 million for 1996 and 1995, respectively. Cash used in financing activities is primarily the result of distribution payments made to the unit holders. The General Partners are not aware of any trends, other than national economic conditions, which have had or which may be reasonably expected to have a material favorable or unfavorable impact on revenues or income from the operations or sale of properties. The General Partners believe that if the inflation rate increases, they will be able to recove subsequent increases in operating expenses from higher rental and assisted living rates. The Registrant has long term debt of approximately $6.4 million, as of December 31, 1997. CAPITAL RESOURCES. During 1998, the Partnership is implementing a refurbishment program in order to repair, maintain and physically improve the ten communities. The Registrant expects that the funds for these improvements should be available from operations or Registrant's replacement reserves. Other than as disclosed above, there are no known material trends, favorable or unfavorable, in the Registrant's capital resources, and there is no expected change in the mix of such resources. RESULTS OF OPERATIONS. Revenue for the years ended December 31, 1997, 1996 and 1995, includes rental income and assisted living revenue from ten facilities, interest earned on cash balances and other revenue. In 1997 and 1996, the Registrant's rental revenue increased over prior years due to higher rental rates and increased utilization of assisted living services. Total revenues for the year ended December 31, 1997, were approximately $19.0 million compared to $17.8 million and $17.0 million for the years ended December 31, 1996 and December 31, 1995, respectively. The largest component of revenue, rent, increased by approximately 4% or $530,000 from 1996 to 1997 and by approximately 2% or $339,000 from 1995 to 1996. During 1997 and 1996, the increase in rent was primarily due to an increase in rental rates offset by a slight decline in occupancy. 7 10 Revenue from assisted living increased by 23% or $585,000 from 1996 to 1997 and 24% or $490,000 from 1995 to 1996. The increase in assisted living was due to aggressive marketing of the assisted living services and the resulting increase in the number of residents using the program. Interest and other revenue increased by 44% or $95,000 from 1996 to 1997 and by 12% or $23,000 from 1995 to 1996. Interest income results from interest earned on cash deposits. Other revenue generally includes processing fees, forfeited security deposits and beauty shop revenue. Total costs and expenses for the years ended 1997, 1996 and 1995 were approximately $16.2, $16.3 million, and $16.1 million, respectively. The largest component of expenses, rental property operations, consists primarily of property management costs, payroll related expenses, utilities, food expenses, maintenance and supplies. Rental property operations expense varied by less than 1% for each of the three years ended December 31, 1997, 1996 and 1995. Assisted living expenses consist primarily of the related payroll expense. Assisted living expenses increased by 22% or $221,000 from 1996 to 1997 following an 18% or $155,000 increase from 1995 to 1996. Assisted living expenses increased as a result of the increase in the related staff providing assisted living services. This increase corresponds with the increase in assisted living revenue. General and administrative expenses are comprised of, but not limited to, costs for accounting, partnership administration, bad debts, data processing, investor relations, insurance and professional services. General and administrative expense remained consistent at $1.3 million in 1997 and 1996. General and administrative expenses increased by 59% or $471,000 in 1996 from 1995. This increase was primarily due to an increase in Partnership administration fees paid as a result of higher net operating income generated by the communities. Depreciation and amortization expense decreased by 33% or $555,000 from 1996 to 1997 following a 19% or $339,000 decrease from 1995 to 1996. The primary reasons for these decreases are the full amortization of assets associated with the expiration of the initial lease term of four of the community operating leases and the extension of the operating leases for two additional leased communities thus increasing the lives of the associated leasehold improvements. Additionally, in 1996, the Managing General Partner changed the asset lives following capital improvements to these communities and evaluation of the physical plant. This change had the effect of reducing depreciation expense and increasing net income by approximately $51,000 ($1.44 per limited partner unit) in 1996 and 1997. Property taxes have remained consistent over the three year period. Interest expense decreased by approximately 5% or $27,000 from 1996 to 1997 and decreased 4% or $22,000 from 1995 to 1996. Interest expense is lower due to a decrease in the principal balance outstanding on the notes payable. FUTURE CASH DISTRIBUTIONS. The General Partners believe that the Registrant's ability to make cash distributions to limited partners depends on factors such as the Registrant's ability to rent the available units and maintain high occupancies and rates, the Registrant's ability to control both operating and administrative expenses, the Registrant's ability to maintain adequate working capital, the absence of any losses from uninsured property damage (e.g., earthquakes) or future litigation, the Registrant's ability to generate proceeds from the sales of its properties and the Registrant's ability to renew existing leases under favorable terms. YEAR 2000 The Year 2000 issue is the result of computer programs being written using two digits rather than four to define the applicable year. ARVAL had developed a plan to address the Year 2000 issue for its financial information systems and, 8 11 during the year ended December 31, 1997, began converting its computer systems to be Year 2000 compliant. However, ARVAL abandoned its attempted accounting software conversion in February 1998, when numerous application errors were discovered in the software package ARVAL had purchased. As a result, ARVAL is currently reassessing its planned conversion efforts for its financial and operational information systems as well as related operational issues at its communities. While an estimate of the total project costs is not currently available due to the recent events, it is anticipated that such costs will be funded from operating cash flow. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA Included in Item 14 "Exhibits, Financial Statement Schedules and Reports on Form 8-K" below and incorporated by reference herein. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT INDIVIDUAL GENERAL PARTNERS OF THE REGISTRANT JOHN A. BOOTY. Mr. Booty, age 59, is a graduate of the University of California at Berkeley, from which he also holds a Master's Degree in Business Administration. Mr. Booty was with Ford Motor Company Aeronutronics, Development Research Associates and Booz Allen and Hamilton, of which Mr. Booty was a Vice President. In 1979, he co-founded California Retirement Villas Corporation which merged into ARVAL. In 1996, Mr. Booty retired as President of ARVAL but he returned on an interim basis in 1997. Mr. Booty continues to serve as a Director of ARVAL. DAVID P. COLLINS. Mr. Collins, age 60, received his Bachelor's Degree from St. Anselm College, Manchester, New Hampshire in 1960. His first association with ARVAL occurred in 1982. Mr. Collins is a registered principal with the National Association of Securities Dealers, Inc., and from its formation in December 1985, has been President of ARV Capital Corporation. Mr. Collins is a member and former Chairman of the Board of the Orange County Chapter of the International Association for Financial Planners. For many years, Mr. Collins was active in the field of international finance, mostly in the Middle East, and in 1971, was a founder of the World Trade Center Association of Orange County. Effective December 31, 1997, Mr. Collins resigned as Senior Executive Vice President of ARVAL. Mr. Collins continues to serve as a Director of ARVAL. GARY L. DAVIDSON. Mr. Davidson, age 63, an attorney, received his Bachelor's Degree in 1958 and his Juris Doctor Degree in 1961 from the University of California at Los Angeles. Mr. Davidson has practiced law in Orange County since 1962. During his professional career, he has been active in numerous business and professional sports ventures. In 1979, he co-founded the predecessor to ARVAL. In October 1997, Mr. Davidson resigned as Chief Executive Officer, Director and Chairman of the Board of ARVAL. JOHN S. JASON, 62, graduated from the University of Indiana with a degree in Business Administration. He was associated with KPMG Peat Marwick LLP for 6 years. In 1979, he co-founded the predecessor to ARVAL. In February 1993, Mr. Jason retired from his positions as a Director and as Executive Vice President of ARVAL. TONY ROTA, 69, is a licensed real estate broker, and has been active in real estate investments since 1958. In 1979, he co-founded the predecessor to ARVAL. In November 1992, Mr. Rota retired from his positions as a Director and as Vice President of ARVAL. 9 12 EXECUTIVE OFFICERS OF ARV ASSISTED LIVING, INC. ("ARVAL") HOWARD G. PHANSTIEL. Mr. Phanstiel, age 49, was appointed Chairman and Chief Executive Officer of the Company on December 5, 1997. From December 1994 to September 1997, Mr. Phanstiel was the Executive Vice President, Finance and Information Systems of Wellpoint Health Networks, Incorporated, a large managed care company. From 1989 to 1994, he served in various capacities at Prudential Bache, including Chairman and Chief Executive Officer of Prudential Bache International Bank and Managing Director of Prudential Bache Securities, Inc. Mr. Phanstiel received his Bachelor's Degree and his Master of Public Administration from Syracuse University. GRAHAM P. ESPLEY-JONES. Mr. Espley-Jones, age 38, graduated from Pepperdine University with an MBA and from San Diego State University with a degree in Business Administration. Mr. Espley-Jones is a Registered Representative and Financial Principal with the National Association of Securities Dealers ("NASD"). From 1985 to 1988 he served as the Controller for the real estate division of First California Savings Bank. Mr. Espley-Jones joined ARVAL in 1988 and serves as Chief Financial Officer, Executive Vice President and Assistant Secretary. SHEILA M. MULDOON. Ms. Muldoon, age 42, has acted as the Company's General Counsel since April 1996, and prior to that time was employed as Assistant General Counsel since September 1994. Ms. Muldoon is a Senior Vice President and Secretary of ARVAL. Prior to that date Ms. Muldoon was the General Counsel of Osprey Financial Group, Inc. From 1990 to 1993, she worked with the FDIC as a Senior Attorney in the Real Estate Section of the Legal Division. Prior to that time, Ms. Muldoon was a partner in the San Diego law firm of Higgs, Fletcher & Mack. Ms. Muldoon did her undergraduate work at the University of Notre Dame, and received her law degree from The Hastings College of the Law. ERIC K. DAVIDSON. Mr. Eric Davidson, age 35, became the Senior Vice President of the Company in charge of acquisitions in April 1996. He has been employed by the Company since September of 1994. Prior to that time, Mr. Davidson was a real estate broker with Cushman & Wakefield for more than nine years, specializing in commercial real estate transactions. Mr. Davidson is a graduate of U.C. Berkeley. DIRECTORS OF ARVAL For a description of Messieurs Phanstiel, Booty and Collins, please see above. R. BRUCE ANDREWS. Mr. Andrews, age 57, has served as President and Chief Executive Officer of Nationwide Health Properties, Inc. (a New York Stock Exchange listed REIT) since September 1989 and a director of that company since October 1989. Mr. Andrews had previously served as a director of American Medical International, Inc., a hospital management company, and served as its Chief Financial Officer from 1970 to 1985 and its Chief Operating Officer in 1985 and 1986. Mr. Andrews is also a director of Alexander Haagen Properties, Inc. MAURICE J. DEWALD. Mr. DeWald, age 58, is Chairman and Chief Executive Officer of Verity Financial Group based in Irvine, California. Mr. DeWald founded Verity Financial in 1992 to develop and implement investment opportunities in the U.S. and internationally. Previously, Mr. DeWald had a 30 year career at KPMG Peat Marwick LLP, where he was a Managing Partner and served on its Board of Directors. Mr. DeWald is currently a director of several other firms, including: Tenet Healthcare Corporation, Dai-Ichi Kangyo Bank of California, and Monarch Funds. He is also a trustee of St. John's Hospital and Health Care Foundation and Loyola Marymount University, and serves on the advisory Council of the University of Notre Dame School of Business. Mr. DeWald is a Certified Public Accountant. ROBERT P. FREEMAN. Mr. Freeman, age 52, is President and Managing Director of Lazard Freres Real Estate Investors, LLC ("LFREI"), which he joined in 1992. Mr. Freeman received a Juris Doctor Degree from Harvard Law School and a Bachelors Degree from Stanford University. He is currently a director of American Apartment Communities, Atlantic American Properties Trust and Commonwealth Atlantic Properties. 10 13 MURRY N. GUNTY. Mr. Gunty, age 30, is a Vice President of LFREI, which he joined in 1995. From 1993 to 1995, he was associated with J.E. Robert Company, a real estate investment company. He is currently a director of Atlantic American Properties Trust. Mr. Gunty received a Master of Business Administration Degree from Harvard Business School and a Bachelor of Arts Degree from Harvard College. KENNETH M. JACOBS. Mr. Jacobs, age 39, is a Managing Director in the Banking Group of Lazard Freres & Co. LLC, which position he has held since 1991. He received a Master of Business Administration Degree from Stanford Graduate School of Business and a Bachelor of Arts Degree from The University of Chicago. JOHN J. RYDZEWSKI. Mr. Rydzewski, age 44, is an investment banker specializing in health care finance. He has been a member of the firm Benedetto, Gartland & Greene, Inc. since 1993. Mr. Rydzewski served as Executive Vice President and Chief Financial Officer in 1992 for Four Winds, Inc., a provider of behavioral health care services. He also served as a Vice President in the health care finance group of Kidder, Peabody & Co. Incorporated from 1986 to 1992. He has served as a director of United Medical Corporation, a diversified health services provider, and Maxim Healthcare Corporation, a behavioral health services provider. Mr. Rydzewski received a Master of Business Administration and a Bachelor of Science Degree from the Wharton School of the University of Pennsylvania and is a Certified Public Accountant. ITEM 11. EXECUTIVE COMPENSATION The following table summarizes the compensation earned by the General Partners. Acquisition Fees (ARV Assisted Living, Inc.) A property acquisition fee of 2% of Gross Offering Proceeds to be paid for services in connection with the selection and purchase of Projects and related negotiations. In addition, a development, processing and renovation fee of 5.5% of Gross Offering Proceeds to be paid for services in connection with negotiations for or the renovation or improvement of existing facilities and the development, processing or construction of Projects developed by the Registrant. There were no property acquisitions, development, processing and renovation fees for the years ending December 31, 1997, 1996 and 1995. Rent-Up and Staff Training Fees (ARV Assisted Living, Inc.) Rent-up and staff training fees of 4.5% of the Gross Offering Proceeds allocated to each specific acquired or developed Project. Such fees will be paid for services in connection with the opening and initial operations of the Projects including, without limitation, design and implementation of the advertising, direct solicitation and other campaigns to attract residents and the initial hiring and training of managers, food service specialists, activities directors and other personnel employed in the individual communities. There were no rent-up and staff training fees for the years ending December 31, 1997, 1996 and 1995. Property Management Fees (ARV Assisted Living, Inc.) A property management fee of 5% of gross revenue is paid for managerial services including general supervision, hiring of onsite management personnel employed by ARVAL, renting of units, 11 14 installation and provision of food service, maintenance, and other operations. For the years ended December 31, 1997, 1996 and 1995, the property management fee amounted to $952,000, $892,000, and $849,000, respectively. Partnership Management Fees (ARV Assisted Living, Inc.) A partnership management fee of 10% of cash flow before distributions is paid for implementing the Partnership business plan, supervising and managing the Registrant's affairs including general administration and coordination of legal, audit, tax, and insurance matters. For the years ended December 31, 1997, 1996 and 1995, the partnership management fee amounted to $422,000, $399,000, and $330,000, respectively. Sale of Partnership Projects (General Partners) The Limited Partnership Agreement permits payment in the form of real estate commissions to the General Partners or its Affiliates. Any such compensation shall not exceed 3% of the gross sales price or 50% of the standard real estate brokerage commission, whichever is less. For the years ended December 31, 1997, 1996 and 1995, no real estate commissions were paid. Subordinated Incentive Compensation (ARV Assisted Living, Inc.) ARVAL is entitled to receive 15% of the Proceeds of Sale or Refinancing subordinated to a return to the limited partners of Initial Capital Contributions plus an 8%-10% (depending on the timing of the limited partners' investment) per annum cumulative, but not compounded, return thereon from all sources. For the years ended December 31, 1997, 1996 and 1995, no incentive compensation was earned. Partnership Interest (General Partners) 1% of all items of capital, profit or loss, and liquidating Distributions, subject to a capital account adjustment, is paid to the General Partners. Reimbursed Expenses (General Partners) All Partnership expenses are billed directly to and paid by the Registrant. The General Partners may be reimbursed for the actual cost of goods and materials obtained from unaffiliated entities and used for or by the Registrant. The Managing Partner is reimbursed for administrative services necessary to the prudent operation of Registrant, provided that such reimbursement is at the lower 12 15 of its actual cost or the amount which the Registrant would be required to pay to independent parties for comparable administrative services in the same geographic location. Total reimbursements to ARVAL amounted to $6.6 million, $6.0 million, and $5.6 million, for the years ended December 31, 1997, 1996 and 1995, respectively. SEE FOOTNOTE 3 OF NOTES TO FINANCIAL STATEMENTS (TRANSACTIONS WITH AFFILIATES). ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
Name and Address of Amount and Nature of Percent of Title of Class Beneficial Owner Beneficial Ownership Class -------------- ------------------ --------------------- ---------- Limited Partnership ARV Assisted Living, Inc. 18,323 units 52.3% Units 245 Fischer Ave., D-1 Direct ownership Costa Mesa, CA 92626
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Other than the compensation earned by the General Partners, as set out under ITEM 11 above, no General Partner or Affiliate receives any direct or indirect compensation from the Registrant. The Managing Partner receives a management fee of 5% of Gross Revenues. Because these fees are payable without regard to whether particular facilities are generating Cash Flow or otherwise benefiting the Registrant, a conflict of interest could arise in that it might be to the advantage of the General Partners that a facility be retained or re-financed rather than sold. On the other hand, an Affiliate of the General Partners may earn a real estate commission on sale of a property, creating incentive to sell what might be a profitable property. The General Partners have authority to invest the Registrant's funds in properties or entities in which they or any Affiliate have an interest, provided the Registrant acquires a controlling interest. In any such investment, duplicate property management or other fees will not be permitted. The General Partners or Affiliates may, however, purchase property in their own names and temporarily hold title to facilitate acquisition for the Registrant, provided that such property is purchased by the Registrant at cost (including acquisition, closing and carrying costs). The General Partners will not commingle Registrant's funds with those of any other person or entity. Conflicts of interest exist to the extent that communities owned or operated compete, or are in a position to compete for residents, general managers or key employees with assisted living communities owned or operated by the General Partners and Affiliates in the same geographic area. The General Partners seek to reduce any such conflicts by offering such persons their choice of residence or employment on comparable terms in any community. The personnel working at each community are employed by ARVAL. ARVAL pays payroll and retirement benefit expenses on the Registrant's behalf and is subsequently reimbursed by the Registrant. The retirement benefit expense consists of contributions made to an employee stock ownership plan ("ESOP"). Effective April 1, 1991, ARVAL approved an ESOP to enable all eligible employees of ARVAL and its affiliates to own common stock in ARVAL. The last contribution made to the ESOP was on March 31, 1995. Effective January 1, 1997, ARVAL established a savings plan ("the Savings Plan") that qualifies as a deferred salary arrangement under Section 401 (k) of the Internal Revenue Code. Total Savings Plan expense for the Partnership was $21,000 for the year ended December 31, 1997. Further conflicts may exist if and to the extent that other affiliated owners of assisted living communities seek to refinance or sell at the same time as the Registrant. The General Partners seek to reduce any such conflicts by making prospective purchasers aware of all communities available for sale. 13 16 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K (a) The following documents are filed as a part of this Report: (i) Independent Auditors' Report. (ii) Balance Sheets - December 31, 1997 and 1996. (iii) Statements of Income - Years Ended December 31, 1997, 1996 and 1995. (iv) Statements of Partners' Capital - Years Ended December 31, 1997, 1996 and 1995. (v) Statements of Cash Flows - Years Ended December 31, 1997, 1996 and 1995. (vi) Notes to Financial Statements. (vii) Financial Statement Schedule - Schedule III - Real Estate and Related Accumulated Depreciation and Amortization - December 31, 1997. (b) Reports on Form 8-K. The Registrant did not file any 8-K reports during the last quarter of 1997. (c) Exhibit 27 - Financial Data Schedule. 14 17 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. AMERICAN RETIREMENT VILLAS PROPERTIES II, A CALIFORNIA LIMITED PARTNERSHIP, BY THE FOLLOWING PERSONS ON BEHALF OF THE REGISTRANT. /s/ HOWARD G. PHANSTIEL By: Howard G. Phanstiel, Chief Executive Officer and Chairman of the Board of ARVAL, Managing General Partner /s/ GRAHAM P. ESPLEY-JONES By: Graham P. Espley-Jones, Chief Financial Officer and Assistant Secretary of ARVAL, Managing General Partner /s/ JOHN A. BOOTY By: John A. Booty, Director of ARVAL, Managing General Partner 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.
SIGNATURE TITLE DATE --------- ----- ---- /s/ HOWARD G. PHANSTIEL Chief Executive Officer March 31, 1998 Howard G. Phanstiel and Chairman of the Board of ARVAL, Managing General Partner /s/ GRAHAM P. ESPLEY-JONES Chief Financial Officer March 31, 1998 Graham P. Espley-Jones and Assistant Secretary of ARVAL, Managing General Partner /s/ JOHN A. BOOTY Director of ARVAL, March 31, 1998 John A. Booty Managing General Partner
15 18 AMERICAN RETIREMENT VILLAS PROPERTIES II (A California Limited Partnership) Annual Report - Form 10-K Financial Statements and Schedule Items 8 and 14(a) December 31, 1997, 1996 and 1995 (With Independent Auditors' Report Thereon) 19 AMERICAN RETIREMENT VILLAS PROPERTIES II (A California Limited Partnership) Annual Report - Form 10-K Items 8 and 14(a) Index to Financial Statements and Schedule
Page ---- Independent Auditors' Report F-1 Balance Sheets - December 31, 1997 and 1996 F-2 Statements of Income - Years ended December 31, 1997, 1996 and 1995 F-3 Statements of Partners' Capital - Years ended December 31, 1997, 1996 and 1995 F-4 Statements of Cash Flows - Years ended December 31, 1997, 1996 and 1995 F-5 Notes to Financial Statements F-6 Schedule Real Estate and Related Accumulated Depreciation and Amortization - December 31, 1997 Schedule III
All other schedules are omitted, as the required information is inapplicable or the information is presented in the financial statements or related notes. 20 INDEPENDENT AUDITORS' REPORT ARV Assisted Living, Inc. as the Managing General Partner of American Retirement Villas Properties II: We have audited the financial statements of American Retirement Villas Properties II, a California limited partnership, as listed in the accompanying index. In connection with our audits of the financial statements, we have also audited the financial statement schedule listed in the accompanying index. These financial statements and financial statement schedule are the responsibility of the Partnership's management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits. We conducted our audits in accordance with 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 American Retirement Villas Properties II as of December 31, 1997 and 1996 and the results of its operations and its cash flows for each of the years in the three-year period ended December 31, 1997, in conformity with generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein. /s/KPMG PEAT MARWICK LLP Orange County, California March 24, 1998 F-1 21 AMERICAN RETIREMENT VILLAS PROPERTIES II (A California Limited Partnership) Balance Sheets December 31, 1997 and 1996 (In thousands, except units)
ASSETS 1997 1996 ------------- ---------------- Properties, at cost: Land $ 2,903 $ 2,903 Buildings and improvements, less accumulated depreciation of $5,827 and $5,250 in 1997 and 1996, respectively 14,521 14,723 Leasehold property and improvements, less accumulated depreciation of $5,686 and $5,545 in 1997 and 1996, respectively 468 349 Furniture, fixtures and equipment, less accumulated depreciation of $976 and $888 in 1997 and 1996, respectively 1,098 940 ------------- ---------------- Net properties 18,990 18,915 Cash 1,857 370 Other assets, including impound accounts of $756 and $672 in 1997 and 1996, respectively 1,082 1,516 ------------- ---------------- $ 21,929 $ 20,801 ============= ================ LIABILITIES AND PARTNERS' CAPITAL Liabilities: Notes payable $ 6,403 $ 6,562 Accounts payable 832 617 Accrued expenses 414 446 Amounts payable to affiliate 277 189 Distributions payable to Partners 480 742 ------------- ---------------- Total liabilities 8,406 8,556 ------------- ---------------- Commitments and contingencies Partners' capital: General partners 283 270 Limited partners, 35,020 units authorized, issued and outstanding 13,240 11,975 ------------- ---------------- Total partners' capital 13,523 12,245 ------------- ---------------- $ 21,929 $ 20,801 ============= ================
See accompanying notes to financial statements. F-2 22 AMERICAN RETIREMENT VILLAS PROPERTIES II (A California Limited Partnership) Statements of Income Years ended December 31, 1997, 1996 and 1995 (In thousands, except amounts per unit)
1997 1996 1995 ------------- ------------ ------------- Revenues: Rent $ 15,638 $ 15,108 $ 14,769 Assisted living 3,094 2,509 2,019 Interest 17 15 20 Other 295 202 174 ------------- ------------ ------------- Total revenues 19,044 17,834 16,982 ------------- ------------ ------------- Costs and expenses: Rental property operations (including $5,896, $5,820 and $5,514 related to affiliates in 1997, 1996 and 1995, respectively) 10,050 10,026 9,994 Assisted living (all to affiliates) 1,235 1,014 859 General and administrative (including $843, $522 1,342 and $453 related to affiliates in 1997, 1996 and 1995, respectively) 1,342 1,271 800 Communities rent 1,176 1,172 1,178 Depreciation and amortization 1,123 1,678 2,077 Property taxes 496 465 488 Advertising 221 82 141 Interest 523 550 572 ------------- ------------ ------------- Total costs and expenses 16,166 16,258 16,109 ------------- ------------ ------------- Net income $ 2,878 $ 1,576 $ 873 ============= ============ ============= Net income per limited partner unit $ 81.35 $ 44.55 $ 24.71 ============= ============ =============
See accompanying notes to financial statements. F-3 23 AMERICAN RETIREMENT VILLAS PROPERTIES II (A California Limited Partnership) Statements of Partners' Capital Years ended December 31, 1997, 1996 and 1995 (In thousands, except amounts per unit)
TOTAL GENERAL LIMITED PARTNERS' PARTNERS PARTNERS CAPITAL ------------- ------------ ------------- Balance (deficit) at December 31, 1994 $ (163) $ 13,928 $ 13,765 Distribution to partners ($64.28 per limited partner unit) (23) (2,249) (2,272) Capital contribution - cancellation of indebtedness 453 -- 453 Net income 9 864 873 ------------- ------------ ------------- Balance at December 31, 1995 276 12,543 12,819 Distribution to partners ($60.77 per limited partner (unit) (22) (2,128) (2,150) Net income 16 1,560 1,576 ------------- ------------ ------------- Balance at December 31, 1996 270 11,975 12,245 Distribution to partners ($45.24 per limited partner (unit) (16) (1,584) (1,600) Net income 29 2,849 2,878 ------------- ------------ ------------- Balance at December 31, 1997 $ 283 $ 13,240 $ 13,523 ============= ============ =============
See accompanying notes to financial statements. F-4 24 AMERICAN RETIREMENT VILLAS PROPERTIES II (A California Limited Partnership) Statements of Cash Flows Years ended December 31, 1997, 1996 and 1995 (In thousands)
1997 1996 1995 ------------- ------------ ------------- Cash flows from operating activities: Net income $ 2,878 $ 1,576 $ 873 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 1,123 1,678 2,077 Change in assets and liabilities: (Increase) decrease in other assets 434 (326) (61) Increase (decrease) in accounts payable and accrued expenses 183 305 (14) Increase in amounts payable to affiliate 88 34 114 ------------- ------------ ------------- Net cash provided by operating activities 4,706 3,267 2,989 ------------- ------------ ------------- Cash flows used in investing activities -capital expenditures (1,198) (748) (891) ------------- ------------ ------------- Cash flows from financing activities: Principal repayments on notes payable (159) (150) (132) Increase in long-term debt -- -- 154 Borrowings on line of credit -- -- 1,225 Repayments on line of credit -- (500) (1,225) Distributions paid (1,862) (1,988) (2,236) ------------- ------------ ------------- Net cash used in financing activities (2,021) (2,638) (2,214) ------------- ------------ ------------- Net increase (decrease) in cash 1,487 (119) (116) Cash at beginning of year 370 489 605 ------------- ------------ ------------- Cash at end of year $ 1,857 $ 370 $ 489 ============= ============ ============= Supplemental disclosure of cash flow information - cash paid during the year for interest $ 523 $ 550 $ 572 ============= ============ ============= Supplemental disclosure of noncash financing activities: Distributions accrued to partners $ 442 $ 162 $ 36 ============= ============ ============= Cancellation of indebtedness $ -- $ -- $ 453 ============= ============ =============
See accompanying notes to financial statements. F-5 25 AMERICAN RETIREMENT VILLAS PROPERTIES II (A California Limited partnership) Notes to Financial Statements December 31, 1997, 1996 and 1995 (1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES BASIS OF ACCOUNTING American Retirement Villas Properties II (the Partnership) maintains its records on the accrual method of accounting for financial reporting and Federal and state tax purposes. CARRYING VALUE OF REAL ESTATE Properties are recorded at cost less accumulated depreciation. Depreciation is computed using the straight-line method over the estimated useful lives of the assets, ranging from 3 to 35 years. In 1996, the Partnership extended the estimated useful lives of buildings and improvements to better reflect the estimated periods during which such assets will remain in service. The change had the effect of reducing depreciation expense and increasing net income by approximately $51,000 ($1.44 per limited partner unit) in 1996 and 1997. Leasehold property and improvements are amortized on a straight-line basis over the lesser of the lease term or the estimated useful life of the assets. The Partnership reviews its long-lived assets for impairment when events or changes in circumstances indicate that the carrying amount of the assets may not be recoverable. In reviewing recoverability, the Partnership estimates the future cash flows expected to result from using the assets and eventually disposing of them. If the sum of the expected future cash flows (undiscounted and without interest charges) is less than the carrying amount of the asset, an impairment loss is recognized based upon the asset's fair value. USE OF ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. IMPOUND ACCOUNTS Other assets includes funds held in impound accounts with the U.S. Department of Housing and Urban Development (HUD) for payment of property taxes, insurance and future property improvements (replacement reserves) on certain properties with HUD financing. LOAN FEES Loan fees are amortized using the interest method over the term of the notes payable and are included in other assets. RENTAL INCOME Rent agreements with tenants are on a month-to-month basis. Advance deposits are applied to the first month's rent. INCOME TAXES F-6 26 AMERICAN RETIREMENT VILLAS PROPERTIES II (A California Limited Partnership) Notes to Financial Statements, Continued Under provisions of the Internal Revenue Code and the California Revenue and Taxation Code, partnerships are generally not subject to income taxes. For tax purposes, any income or losses realized are those of the individual partners, not the Partnership. The Partnership has not requested a ruling from the Internal Revenue Service to the effect that it will be treated as a partnership and not an association taxable as a corporation for Federal income tax purposes. The Partnership has received an opinion of counsel as to its tax status prior to the offering of limited partnership units, but such opinion is not binding upon the Internal Revenue Service. Following are the Partnership's assets and liabilities as determined in accordance with generally accepted accounting principles (GAAP) and for Federal income tax reporting purposes at December 31 (in thousands):
1997 1996 -------------------------------------------------------- GAAP TAX BASIS GAAP TAX BASIS BASIS (1) BASIS (1) -------------------------------------------------------- Total assets $21,929 $28,211 $20,801 $26,419 ======================================================== Total liabilities 8,406 7,964 8,556 8,705 ========================================================
Following are the differences between the financial statement and tax return income (in thousands):
1997 1996 1995 ------------ ------------- ------------ Net income per financial statements $ 2,878 $ 1,576 $ 873 Cancellation of indebtedness income (note 8) -- -- 453 Depreciation differences on property (1) (496) (47) (637) Amortization differences on intangible assets (47) 363 885 Other (1) 178 42 (15) ------------ ------------- ------------ Taxable income per Federal tax return(1) $ 2,513 $ 1,934 $ 1,559 ============ ============= ============
(1) Unaudited NET INCOME PER LIMITED PARTNER UNIT Net income per limited partner unit was based on the weighted-average number of limited partner units outstanding of 35,020 in 1997, 1996 and 1995. RECLASSIFICATIONS Certain 1996 and 1995 amounts have been reclassified to conform to the 1997 presentation. NEW ACCOUNTING PRONOUNCEMENTS The Financial Accounting Standards Board (FASB) has issued Statement of Financial Accounting Standards (SFAS) No. 128, "Earnings Per Share (EPS)" which is effective for both interim and annual reporting periods ending after December 15, 1997. This standard requires restatement of prior interim and annual earnings per share calculations. SFAS No. 128 replaces fully diluted EPS with diluted EPS and replaces primary EPS with basic EPS. Basic EPS is F-7 27 AMERICAN RETIREMENT VILLAS PROPERTIES II (A California Limited Partnership) Notes to Financial Statements, Continued computed by dividing reported earnings by weighted average shares outstanding. Diluted EPS is computed the same way as fully diluted EPS, except that the calculation now uses the average share price for the reporting period to compute dilution from options and warrants under the treasury stock method. The adoption of SFAS No. 128 did not have an impact on the Partnership's financial statements. The FASB issued SFAS No. 129, "Disclosure of Information about Capital Structure". This statement is effective for both interim and annual financial statement periods ending after December 15, 1997. This statement requires disclosure in summary form of the pertinent rights and privileges of various securities outstanding including dividend and liquidation preferences, participation rights, call prices and dates, sinking-fund requirements, unusual voting rights and significant terms of contracts to issue additional shares. The adoption of SFAS No. 129 did not have an impact on the Partnership's financial statements. The FASB issued SFAS No. 130, "Reporting Comprehensive Income" which is effective for fiscal years beginning after December 15, 1997, and requires restatement of earlier financial statements for comparative purposes. SFAS No. 130 requires that items meeting the criteria of a component of comprehensive income, including foreign currency items and unrealized gains and losses on certain investments in debt and equity securities, be shown in the financial statements. SFAS No. 130 does not require a specific format for disclosure of comprehensive income and its components in the financial statements. The Partnership elected early adoption of SFAS No. 130 which did not have an impact on the Partnership's financial statements. The FASB issued SFAS No. 131, "Disclosure about Segments of an Enterprise and Related Information." This standard requires that a public business enterprise report financial and descriptive information about its reportable operating segments. Operating segments are components of an enterprise about which separate financial information is available that is regularly evaluated by the chief operating decision makers in deciding how to allocate resources and in assessing performance. SFAS No. 131 also requires that all public business enterprises report information about the revenues derived form the enterprise's products or services (or groups of similar products or services), about the countries in which the enterprise earns revenues and holds assets and about major customers regardless of whether that information is used in making operating decisions. However, this Statement does not require an enterprise to report information that is not prepared for internal use if reporting it would be impractical. This Statement is effective for financial statements for periods beginning after December 15, 1997. In the initial year of application, comparative information for earlier years is required to be restated. Comparative information for interim periods is not required until the second year of application. The Partnership elected early adoption of SFAS No. 131 which did not have an impact on the Partnership's financial statements. (2) ORGANIZATION AND PARTNERSHIP AGREEMENT The Partnership was formed on February 9, 1988 for the purpose of acquiring, developing and operating residential retirement facilities. The term of the Partnership is 59 years and may be dissolved earlier under certain circumstances. Limited Partner units (minimum of 2 units per investor for Individual Retirement Accounts, KEOGHs and pension plans and 5 units for all other investors) were offered for sale to the general public. A maximum number of 35,000 units were offered at $1,000 per unit and an additional 25 units were issued in lieu of commissions. The Partnership was initially capitalized by a $1,000 contribution from a Limited Partner and a $500 contribution from the General Partners. The Partnership reached its maximum capitalization in October 1989, representing a total capital investment of $35,000,000. In June 1990, the Partnership repurchased and effectively retired 5 units for $4,600 (the balance of unreturned initial contributions) from a Limited Partner. No additional capital contributions will be required from any Limited Partner. Under the Partnership Agreement, the maximum liability of the Limited Partners is the amount of their capital contributions. F-8 28 AMERICAN RETIREMENT VILLAS PROPERTIES II (A California Limited Partnership) Notes to Financial Statements, Continued The Managing General Partner is ARV Assisted Living, Inc. (ARVAL), a California corporation, and the individual General Partners are John A. Booty, John S. Jason, Gary L. Davidson and Tony Rota. The General Partners are not required to make capital contributions to the Partnership. Profits and losses for financial and income tax reporting purposes shall generally be allocated, other than cost recovery deductions (as defined in the Partnership Agreement), 1% to the General Partners and 99% to the Limited Partners. Cost recovery deductions for each year are allocated 1% to the General Partners and 99% to the Limited Partners who are taxable investors. Cash available for distribution from operations, which is determined at the sole discretion of the managing general partner, is to be distributed 1% to the General Partners and 99% to the Limited Partners. Upon any sale, refinancing or other disposition of the Partnership's real properties, distributions are to be made 1% to the General Partners and 99% to the Limited Partners until the Limited Partners have received an amount equal to 100% of their capital contributions plus an amount ranging from 8% to 10% (depending upon the timing of the Limited Partner's investment) of their capital contributions per annum, cumulative but not compounded, from the date of each Partner's investment. The cumulative return is to be reduced, but not below zero, by the aggregate amount of prior distributions from all sources. Thereafter, distributions are to be 15% to the General Partners and 85% to the Limited Partners, except that after the sale of the properties, the proceeds of sale of any last remaining assets owned by the Partnership are to be distributed in accordance with positive capital account balances. (3) TRANSACTIONS WITH AFFILIATES The Partnership has an agreement with ARVAL providing for a property management fee of 5% of gross revenues amounting to $952,000, $892,000 and $849,000, for the years ended December 31, 1997, 1996 and 1995, respectively. Additionally, a Partnership management fee of 10% of cash flow before distribution, as defined in the Partnership Agreement, amounted to $422,000, $399,000 and $330,000, for the years ended December 31, 1997, 1996 and 1995, respectively. Payment of the Partnership management fee out of cash flow is subordinated to a quarterly noncumulative distribution from each property to the Limited Partners of an amount equal to an annualized return, per quarter, of 7.5% of Capital Contributions allocated to each property. ARVAL pays certain expenses such as repairs and maintenance, supplies, and payroll and retirement benefit expenses on behalf of the Partnership and is subsequently reimbursed by the Partnership. The total reimbursements to ARVAL are included in rental property operations and general and administrative expenses in the accompanying statements of operations and amounted to $6,576,000, $6,040,000 and $5,648,000 for the years ended December 31, 1997, 1996 and 1995, respectively. Effective April 1, 1997, ARVAL began allocating bulk expenses on a monthly basis in order to increase efficiency. As a result, all costs allocated in 1997 are included in general and administrative expenses which accounts for the increase in general and administrative expenses from 1996 to 1997. Prior to 1995, in consideration for services rendered with respect to property acquisitions, the Managing General Partner was paid an investment advisory fee of a maximum of 2% of the gross offering proceeds. In addition, the Managing General Partner was entitled to a development and processing fee of a maximum of 5.5% of gross offering proceeds allocated to a particular project. Investment advisory and development and processing fees were capitalized to properties to the extent that gross offering proceeds were allocated to the respective properties acquired. Amounts payable to affiliates at December 31, 1997 and 1996 include expense reimbursements and accrued property management and partnership management fees. F-9 29 AMERICAN RETIREMENT VILLAS PROPERTIES II (A California Limited Partnership) Notes to Financial Statements, Continued (4) PROPERTIES The following table sets forth, as of December 31, 1997, the location, the date on which operations commenced, number of units, and the Partnership's interest in the property.
OPERATIONS COMMUNITY LOCATION COMMENCED UNITS INTEREST --------- -------- ---------- ----- -------- Retirement Inn of Burlingame, CA 1989 68 Leased Burlingame Retirement Inn of Campbell Campbell, CA 1989 72 Leased Covina Villa Covina, CA 1988 64 Fee-Owned, subject to ground lease Retirement Inn of Daly City Daly City, CA 1989 95 Fee-Owned Retirement Inn of Fremont Fremont, CA 1989 70 Leased Retirement Inn of Fullerton Fullerton, CA 1989 68 Fee-Owned Montego Heights Lodge Walnut Creek, CA 1989 171 Fee-Owned Retirement Inn of Sunnyvale Sunnyvale, CA 1989 124 Leased Valley View Lodge of Walnut Creek, CA 1989 125 Fee-Owned Rossmoor Inn at Willow Glen San Jose, CA 1989 84 Leased
(5) COMMITMENTS AND CONTINGENCIES LEASE COMMITMENTS: COVINA VILLA In October 1988, the Partnership purchased Covina Villa, an existing assisted living facility in Covina, California. In conjunction with the acquisition, the Partnership assumed a ground lease, expiring in 2037, covering the land on which the facility is built. Pledged as collateral for the ground lease is a security interest in the facility property and in all furniture, fixtures and equipment which the Partnership places in the facility. Rent expense under the ground lease for 1997, 1996 and 1995 was $110,000, $103,000 and $103,000, respectively. RETIREMENT INNS OF AMERICA In April 1989, the Partnership acquired the operations of eight existing assisted living facilities located throughout California from Retirement Inns of America, Inc. As part of the purchase agreement, the Partnership acquired certain assets and assumed certain liabilities relating to the operations of the facilities. The Partnership purchased three of the facilities and assumed a tenant's position under long-term operating leases for the other five facilities. Rent expense under the operating leases for 1997, 1996 and 1995 was $1,066,000, $1,069,000 and $1,071,000, respectively. The original expiration dates for the leases ranged from August 1995 to November 1997. The Partnership exercised its first of two options to extend each of the leases for additional ten-years. F-10 30 AMERICAN RETIREMENT VILLAS PROPERTIES II (A California Limited Partnership) Notes to Financial Statements, Continued Future minimum lease payments under all ground and community leases which are treated as operating leases are as follows (in thousands): Year ending December 31: 1998 1,157 1999 1,157 2000 1,157 2001 1,157 2002 1,157 Thereafter 8,047 ------------- $ 13,832 ============= TENDER OFFER FOR LIMITED PARTNERSHIP UNITS Pursuant to the Partnership agreement, the minimum holding period for the Partnership's assets has expired. The Managing General Partner may explore potential disposition strategies for the Partnership's assets. In order to provide liquidity and a disposition strategy for certain of the limited partners, the Managing General Partner made a tender offer in 1996 to purchase limited partnership units at a cash price of $720 per unit. Pursuant to this tender offer and subsequent acquisitions, the Managing General Partner acquired 52.3% of the outstanding limited partnership units and has thus attained majority control of the Partnership. LITIGATION On September 27, 1996, the Partnership filed actions seeking declaratory judgments against the landlords of the Retirement Inn of Campbell (Campbell) and the Retirement Inn of Sunnyvale (Sunnyvale). The Partnership leases the Campbell and Sunnyvale assisted living facilities under long-term leases. A dispute has arisen as to the amount of rent due during the 10-year lease renewal periods which commenced in August 1995 for Campbell and March 1996 for Sunnyvale. The Partnership seeks a determination that the Partnership is not required to pay any higher rent during the 10-year renewal periods than during the original 20-year lease terms. In the event that the court finds against the Partnership, rent for the Campbell and Sunnyvale facilities could increase significantly, which will reduce distributions to unit holders in the future. These rent increases would be retroactive to the commencement of the lease renewal periods. Two other facilities leased by the Partnership, the Retirement Inn of Fremont (Fremont) and the Retirement Inn at Burlingame (Burlingame) are owned by entities which are related to the entities that own the Campbell and Sunnyvale facilities. It is not known whether the landlords of those facilities will dispute the amount of rent due during the renewal periods which began January 1997 for Fremont and August 1997 for Burlingame. If so, the Partnership may be required to file litigation to determine the rights under those leases. Management is of the opinion, based in part upon opinions of legal counsel, that the ultimate disposition of these matters will not have a material adverse effect on the Partnership's financial position, results of operations or liquidity. F-11 31 AMERICAN RETIREMENT VILLAS PROPERTIES II (A California Limited Partnership) Notes to Financial Statements, Continued (6) NOTES PAYABLE At December 31, 1997 and 1996, notes payable included the following (in thousands):
1997 1996 ------------- ------------- HUD financed note payable, bearing interest at 7.5%; monthly principal and interest payments of $26; due August 1, 2018; collateralized by deed of trust on the Montego Heights property $3,294 $3,359 HUD financed note payable, bearing interest at 8.25%; monthly principal and interest payments of $23; due November 1, 2016; collateralized by deed of trust on the Valley View Lodge property 2,693 2,750 Note payable to bank, bearing interest at 1% in excess of the bank's prime rate (8.5% at December 31, 1997); monthly principal and interest payments of $5; due January 10, 2003; collateralized by deed of trust on the Fullerton property 319 323 Various notes payable, bearing interest at rates from 8.67% to 10.39%, payable in monthly principal and interest installments of $3,000 and all unpaid principal and interest due on or before November 1, 2000; collateralized by equipment 97 130 ------------- ------------- $6,403 $6,562 ============= =============
The annual principal payments of the notes payable are as follows (in thousands): Year ending December 31: 1998 233 1999 248 2000 234 2001 230 2002 243 Thereafter 5,215 ------------- $ 6,403 ============= (7) EMPLOYEE BENEFIT PLANS Prior to 1996, ARVAL offered an Employee Stock Ownership Plan ("ESOP") to all eligible employees. The amount of stock contributed annually to the ESOP is at the discretion of ARVAL. F-12 32 AMERICAN RETIREMENT VILLAS PROPERTIES II (A California Limited Partnership) Notes to Financial Statements, Continued During 1995, ARVAL's Board of Directors declared a contribution in only the first quarter of the year and that contribution approximated 3% of each employee's payroll expense. No further contributions have been declared. The Partnership's expense was $28,000 for the ESOP (as a reimbursement to ARVAL) in 1995. Effective January 1, 1997, ARVAL established a savings plan (the "Savings Plan") that qualifies as a deferred salary arrangement under Section 401(k) of the Internal Revenue Code. Under the Savings Plan, participating employees may defer a portion of their pretax earnings, up to the Internal Revenue Service annual contribution limit. ARVAL matches 25% of each employee's contributions up to a maximum of 6% of the employee's earnings. An employee becomes eligible to participate in the plan upon completing one year and 1,000 hours of service and being at least 21 years of age. The Partnership's Savings Plan expense was $21,000 (as a reimbursement to ARVAL) for the year ended December 31, 1997. (8) DISCLOSURES ABOUT THE FAIR VALUE OF FINANCIAL INSTRUMENTS The estimated fair values of the Partnership's financial instruments have been determined using available market information and appropriate valuation methodologies. However, considerable judgment is necessarily required to interpret market data to develop the estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amounts that could be realized in a current market exchange. The use of different market assumptions or estimation methodologies may have a material impact on the estimated fair value amounts. NOTES PAYABLE For notes payable with variable interest rates, fair value is the amount reported as payable in the financial statements. For notes payable with fixed rates of interest, fair value is estimated using the rates currently offered for bank borrowings with similar terms. As of December 31, 1997, carrying value for these notes approximates fair value. (9) CANCELLATION OF INDEBTEDNESS On March 31, 1995, ARVAL, the Managing General Partner of the Partnership, decided to cancel indebtedness owed to it by the Partnership in the amount of $453,000. This indebtedness related to accrued Partnership management fees accumulated in prior years. As discussed at Note 3, the Partnership agreement provides that the payment of a Partnership management fee is subordinate to a quarterly noncumulative distribution from each property to the Limited Partners of an amount equal to an annualized return, per quarter, of 7.5% of capital contributions allocated to each property. ARVAL canceled the indebtedness as collection appeared unlikely. Such cancellation of indebtedness was treated as a capital contribution by the Managing General Partner for financial reporting purposes. (10) YEAR 2000 The Year 2000 issue is the result of computer programs being written using two digits rather than four to define the applicable year. ARVAL had developed a plan to address the Year 2000 issue for its financial information systems and, during the year ended December 31, 1997, began converting its computer systems to be Year 2000 compliant. However, ARVAL abandoned its attempted accounting software conversion in February 1998 when numerous application errors were discovered in the software package ARVAL had purchased. As a result, ARVAL is currently reassessing its planned conversion efforts for its financial and operational information systems as well as related operational issues at its communities. While an estimate of the total project costs is not currently available due to the recent events, it is anticipated that such costs will be funded from operating cash flow. F-13 33 Schedule III AMERICAN RETIREMENT VILLAS PROPERTIES II (A California Limited Partnership) Real Estate and Related Accumulated Depreciation and Amortization December 31, 1997 (In thousands)
Costs capital- ized Leasehold subse- Leasehold Bldgs property quent Bldgs property Accumu- Date Depre- and and to and and mulated of ciable Encum- improve- improve- acqui- improve- improve- Total depre- acqui- lives Description brances Land ments ments sition Land ments ments (1) ciation sition (years) - -------------- ------- -------- -------- -------- --------- -------- ----------------- ----------------------------------- $ -- $ -- 1,850 $ -- $ 641 $ -- $2,491 $ -- 2,491 $ 781 10/88 35 Covina Villa Retirement Inns: Burlingame -- -- -- 938 378 -- -- 1,316 1,316 1,236 4/89 8.5 (2) Campbell -- -- -- 814 (526) -- -- 288 288 247 4/89 6.3 (2) Daly City -- 500 1,178 -- 669 500 1,847 -- 2,347 576 4/89 35 Fremont -- -- -- 567 345 -- -- 912 912 857 4/89 7.8 (2) Fullerton 319 500 982 -- 866 500 1,848 -- 2,348 487 4/89 35 Willow -- -- -- 1,011 303 -- -- 1,314 1,314 1,205 4/89 8.7 (2) Glen Sunnyvale -- -- -- 1,431 893 -- -- 2,324 2,324 2,142 4/89 7.0 (2) Valley 2,693 1,000 4,018 -- 1,088 1,000 5,106 -- 6,106 1,482 4/89 35 View Montego 3,294 900 7,800 -- 1,259 903 9,056 -- 9,959 2,500 11/89 35 Heights -------- -------- ------- ------- --------- -------- -------- -------- ----------------- 6,306 2,900 $15,828 4,761 5,916 2,903 20,348 6,154 29,405 11,513 ======== ======== ======= ======= ========= ======== ======== ======== =================
Following is a summary of investment in properties for the years ended December 31, 1997, 1996 and 1995:
1997 1996 1995 --------------- ------------- ------------- Balance at beginning of year $ 28,770 $ 30,077 $ 29,798 Improvements/construction 635 371 279 Disposals -- (1,678) -- --------------- ------------- ------------- Balance at end of year $ 29,405 $ 28,770 $ 30,077 =============== ============= =============
Following is a summary of accumulated depreciation and amortization of investment in properties for the years ended December 31, 1997, 1996, and 1995:
1997 1996 1995 --------------- ------------- ------------- Balance at beginning of year $ 10,795 $ 11,170 $ 9,461 Additions charged to expense 718 (375) 1,709 --------------- ------------- ------------- Balance at end of year $ 11,513 $ 10,795 $ 11,170 =============== ============= =============
(1) Aggregrate cost for Federal income tax purposes is $28,211 at December 31, 1997. (2) Leasehold property and improvements are amortized over remaining terms of ground leases, which are shorter than the estimated useful lives. F-14 34 EXHIBIT INDEX EXHIBIT NUMBER DESCRIPTION - ------- ----------- 27 Financial Data Schedule EX-27 2 FINANCIAL DATA SCHEDULE
5 1,000 YEAR DEC-31-1997 JAN-01-1997 DEC-31-1997 1,857 0 0 0 0 0 31,479 12,489 21,929 0 6,403 0 0 0 13,523 21,929 0 19,044 0 15,643 0 0 523 2,878 0 2,878 0 0 0 2,878 81.35 81.35 Net income per limited partner unit.
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