Comstock Holding Companies, Inc. 10-Q

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and related notes appearing elsewhere in this report. This discussion and analysis contains forward-looking statements that involve risks and uncertainties. Please see “Cautionary Notes Regarding Forward-looking Statements” for more information. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of various factors including, but not limited to, those discussed below and elsewhere in this report, particularly under the headings “Cautionary Notes Regarding Forward-looking Statements.” References to dollar amounts are in thousands except per share data, or as otherwise noted. Cautionary Notes Regarding Forward-looking Statements This report includes forward-looking statements that are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements can be identified by the use of words such as “anticipate,” “believe,” “estimate,” “may,” “likely,” “intend,” “expect,” “will,” “should,” “seeks” or other similar words or expressions. Forward-looking statements are based largely on our expectations and involve inherent risks and uncertainties, many of which are beyond our control. You should not place undue reliance on any forward-looking statement, which speaks only as of the date made. Some factors which may affect the accuracy of the forward-looking statements apply generally to the real estate industry, while other factors apply specifically to us. Any number of important factors which could cause actual results to differ materially from those in the forward-looking statements include: general economic and market conditions, including interest rate levels; changes in the real estate markets; inherent risks in investment in real estate; our ability to attract and retain clients; our ability to compete in the markets in which we operate; regulatory actions; fluctuations in operating results; shortages and increased costs of labor or materials; adverse weather conditions and natural disasters; public health emergencies, including potential health risks and economic uncertainties relating to the coronavirus (COVID-19) pandemic; our ability to raise debt and equity capital and grow our operations on a profitable basis; and our continuing relationships with affiliates. Our actual results could differ materially from these projected or suggested by the forward-looking statements. The Company undertakes no obligation to update publicly or revise any forward-looking statements in light of new information or future events, except as required by law. We make available, free of charge, on our website, our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to these reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, or the Exchange Act, as soon as reasonably practicable after these forms are filed with, or furnished to, the SEC. The information on or accessible through our website, www.comstockcompanies.com , is not incorporated by reference into this Quarterly Report on Form 10-Q. Overview Comstock Holding Companies, Inc. (“CHCI” or “the Company”) is a developer, operator, and asset manager of mixed-use and transit-oriented development properties in the greater Washington, D.C. metropolitan area, where we focus primarily on select high-growth urban and transitioning “sub-urban” markets. We provide a broad range of real estate asset management services, including development and construction management services, leasing and property management services, debt and equity financing origination, and other real estate related services. Our customers primarily include private and institutional owners and investors in the real estate properties that we manage and various governmental bodies that have a vested interest in public-private partnerships responsible for the development of certain properties that we develop and manage. We also invest capital on behalf of our asset management clients and institutional real estate investors in office, retail, residential and mixed-use properties, generally retaining an economic interest for the Company and providing management services to those properties, thereby enabling the Company to increase its assets under management (“AUM”) in order to realize competitive advantages of scale and enhance our overall returns. The Company also provides additional fee-based real estate services, including capital markets, brokerage, and title insurance to properties in the Company’s managed portfolio. As of September 30, 2021, our AUM consisted of 28 operating assets comprising 13 commercial assets totaling approximately 1.9 million square feet and 4 multifamily assets totaling 1,123 units, and 11 commercial garages comprised of over 10,000 parking spaces. Additionally, we have: (i) one commercial asset currently under-construction and scheduled for delivery in 22 TABLE OF CONTENTS 2022 totaling approximately 250,000 square feet that is 100% pre-leased; and (ii) 18 development pipeline assets consisting of approximately 2.0 million square feet of additional planned commercial development, approximately 1,700 multifamily units and 2 hotel assets that will include 370 keys. As a vertically integrated real estate operating and investment company, we earn revenue from multiple sources, including fees generated from asset management services that we provide to our managed portfolio of real estate assets on behalf of our asset management clients, and fees from additional real estate related services. The services we provide pursuant to the asset management agreements covering our AUM properties vary by property, and include property management, development and construction management, leasing management, acquisition and disposition management, origination and negotiation of debt and equity facilities, risk management, and various other property-specific services. Substantially all of the properties included in our managed portfolio are covered by full-service asset management agreements encompassing substantially all aspects of development, construction, and operations management relating to the subject properties. Our long-term asset management contracts generally include material early termination payments to us in the event the contract is prematurely terminated by the asset owner. A limited number of properties in our managed portfolio are covered by service-specific asset management contracts that focus our services on defined critical elements of operations, such as marketing, leasing, and construction management, where the property owner continues to manage other operating functions. Our limited-service asset management agreements generally are anticipated to be short term in nature and do not include material early termination penalties. Anchoring the Company’s asset management services platform is a long-term full service asset management agreement (the “2019 AMA”) with an affiliated company owned by the Company’s Chief Executive Officer, Christopher Clemente, that encompasses the majority of the properties we currently manage, including two of the largest transit-oriented, mixed-use developments in the Washington, DC area: Reston Station, a 5 million square foot transit-oriented, mixed-use development located in Reston, VA, and Loudoun Station, a nearly 2.5 million square foot transit-oriented, mixed-use development in Ashburn, VA, as well as other additional development assets, which together constitute our anchor portfolio (the “Anchor Portfolio”). The 2019 AMA for our Anchor Portfolio is a long-term agreement with an original term of 10 years that provides for significant financial payments to Comstock in the case of early termination by the asset owner. In addition to the various recurring asset management fee-based revenue received by the Company, we also generate additional revenue from co-investments with our investment partners in certain property acquisitions and expect to receive performance-based incentive compensation from assets in our Anchor Portfolio and other assets in our managed portfolio. The Company can earn these incentive-based fees upon the occurrence of certain transaction-related events, including asset acquisitions or dispositions, asset related capital market transactions, leasing, marketing and property management, development and construction management, real title services, and when the performance of a subject property meets defined performance metrics. The co-investment business plans are property specific and therefore vary in expected duration but are generally expected to be between four and seven years; but may be accelerated or extended depending upon market conditions or the strategic objectives of the subject joint venture. Outlook Although the long-term impact of the COVID-19 pandemic on the commercial real estate market in the greater Washington, DC area remains uncertain, we believe that our Anchor Portfolio is well positioned to withstand potential negative impact of the COVID-19 pandemic. We also believe that our management team is properly aligned with the interests of the Company and its shareholders and is committed to the Company’s objectives of providing exceptional experiences for those that we do business with while enhancing shareholder value. Further, we believe that we are properly staffed for current market conditions and the foreseeable future and that our Company has the ability to manage risk and pursue opportunities for additional growth as market conditions warrant. Our real estate development and management operations are primarily focused on the greater Washington, D.C. region, where we believe our 30-plus years of experience provides us the best opportunity to continue leveraging our significant experience acquiring, developing, and managing high quality real estate assets and capitalizing on positive growth trends. Managed Portfolio Reston Station Reston Station, located at the terminus of Phase I of Metro’s Silver Line, is strategically located midway between Tysons Corner and Dulles International Airport. Reston Station is among the largest mixed-use, transit-oriented developments in the Washington, DC area and the Reston Station neighborhood spans the Dulles Toll Road and surrounds the first, and currently only, Metro rail station in the Dulles Corridor. Covering a total of approximately 60 acres, assets included in Comstock’s managed 23 TABLE OF CONTENTS portfolio cover approximately 37 of the 60-acre neighborhood and will, upon full build-out, include approximately five million square feet of mixed-used development. Currently, Comstock’s managed portfolio of Reston Station has approximately 1.7 million square feet of mixed-use development completed, including 448 residential units, approximately 1.2 million square feet of office, approximately 40,000 square feet of retail and more than 6,000 parking spaces, including one of the largest underground commuter parking garages and bus transit facilities in the region. The Company is providing a wide variety of its real estate and asset management services to the project pursuant to the 2019 AMA, including development and construction management services, leasing management services, property management services, and capital markets services. Loudoun Station Loudoun Station, located at the terminus of Phase II of Metro’s Silver Line, is Loudoun County’s first Metro connected development and represents Loudoun County’s beginning transformation into a transit connected community with direct metro rail connectivity to Dulles International Airport, Reston, Tysons Corner, and downtown Washington, D.C. Currently, Loudoun Station has approximately 1,000,000 square feet of mixed-use development completed, including 675 residential units, approximately 50,000 square feet of Class-A office space, approximately 150,000 thousand square feet of retail spaces including an 11-sceen AMC Cinema, and a 1,500-space Metro commuter parking garage. The Metro Garage is the focus of a public-private partnership between an affiliate of the Company and Loudoun County, Virginia and is managed by a subsidiary of the Company. Phase II of Metro’s Silver Line is under construction and expected to commence passenger service in early to mid 2022. The Company is providing a variety of its real estate and asset management services related to the existing buildings and the future development pursuant to the 2019 AMA, including development and construction management services, leasing management services, property management services, and capital markets services. Herndon Station Herndon Station will include up to approximately 340,000 square feet of residential, retail and entertainment spaces, including a performing arts center, and an approximately 700 space parking garage in the historic downtown portion of the Town of Herndon in western Fairfax County, Virginia. The commercial Garage is the focus of a public private partnership between an affiliate of the Company and the Town of Herndon. The development will also include improvements to existing connections to the adjacent WO&D trail, a popular pedestrian and bicycle route managed by Northern Virginia Regional Parks Authority and Fairfax County Parks Department. The Company is providing a variety of asset management and development services related to the Herndon Station development pursuant to the 2019 AMA. International Gateway Since 2018 the Company has, pursuant to an asset management agreement with an unaffiliated property owner, provided asset management, property management, leasing management, and consulting services for a privately owned portfolio of two mixed-use retail/office buildings in Tysons Corner, Virginia, known as International Gateway. The Hartford Building In late 2019, the Company partnered with Partners, an entity that is controlled by our CEO, and wholly owned by Mr. Clemente and certain family members, to acquire a Class-A office building immediately adjacent to Clarendon Station on Metro’s Orange Line in Arlington County’s premier transit-oriented office market, the Rosslyn-Ballston Corridor. Built in 2003, the 211,000 square foot mixed-use building is LEED GOLD certified. In February 2020, the Company arranged for DivcoWest to purchase a majority ownership stake in the Hartford Building and secured a $87 million loan facility from MetLife. As part of the transaction, the Company entered into asset management and property management agreements to manage the property. Results of Operations The following discussion relates to our results from continuing operations. Three and nine months ended September 30, 2021 compared to the three and nine months ended September 30, 2020 Revenue Revenue for the three months ended September 30, 2021 and 2020 was $10.2 million and $5.9 million, respectively. This represents an increase of $4.3 million, or 72.5%, compared to prior year. Revenue for the nine months ended September 30, 2021 and 2020 was $23.3 million and $15.8 million, respectively. This represents an increase of $7.5 million, or 47.4%, compared to prior year. Revenue increased in all periods primarily due to $2.6 million of capital markets fees earned in the third quarter of 2021 along with increased costs that are reimbursable from CDS under the 2019 AMA and recognized as revenue along with the growth in the number of managed commercial properties and parking facilities. The prior year to date revenue was also reduced by $1.4 million due to the PPP Loan. 24 TABLE OF CONTENTS Direct costs Direct costs for the three months ended September 30, 2021 and 2020 was $6.7 million and $5.1 million, respectively. This 32.2% increase amounts to a $1.6 million increase to direct costs and is primarily attributable to co-broker fees incurred in connection with the capital markets transaction that closed in the third quarter of 2021 as well as an increase in rent expense for the Company's new headquarters and personnel expenses due to the growth of our property management and asset management businesses. Direct costs for the nine months ended September 30, 2021 and 2020 was $18.3 million and $12.9 million, respectively. This 41.5% increase amounts to a $5.4 million increase to direct costs. This is primarily attributable to co-broker fees incurred in connection with the capital markets transaction that closed during the third quarter of 2021 as well as an increase in rent expense for the Company's new headquarters and personnel expenses due to the growth of our property management and asset management businesses. The prior period payroll and rent expense was also reduced by $1.9 million due to the PPP Loan. General and administrative General and administrative expenses for the three months ended September 30, 2021 and 2020 was $329 thousand and $323 thousand, respectively. For the nine months ended September 30, 2021 and 2020, general and administrative costs decreased $69 thousand or 6.7% primarily attributable to a decrease in stock compensation expense. Selling and marketing Selling & marketing expenses for the three months ended September 30, 2021 and 2020 was $3 thousand and $0, respectively. The expenses for the nine months ended September 30, 2021 and 2020 was $21 thousand and $1 thousand, respectively. The increase is attributable to an increase in selling and marketing expenses as the Company invests in further expansion of its property management business. Interest expense For the three months ended September 30, 2021 and 2020, the Company’s interest expense was approximately equivalent. For the nine months ended September 30, 2021 and 2020, the Company’s interest expense was $176 thousand and $286 thousand, respectively. The 38.5% reduction to interest expense amounts to an $110 thousand decrease in interest expense as a result of the repayment of the Comstock Growth Fund loan during the three months ended March 30, 2020. Income taxes For the nine months ended September 30, 2021, the Company recognized an income tax benefit of $11.3 million. The income tax benefit resulted from applying an estimated annual effective tax benefit rate of 0.85% to pre-tax consolidated loss reported during the period, as well as the net effects of certain discrete items occurring which impact our income tax provision in the period in which they occur primarily related to the release of $11.3 million valuation allowance in the second quarter of 2021. There were no other material discrete items occurring during the nine months ended September 30, 2021. For the three months ended September 30, 2021, the Company recognized an income tax expense of $25 thousand. The income tax expense resulted from applying an estimated annual worldwide effective tax benefit rate of 0.80% to pre-tax consolidated loss reported during the period, as well as the net effects of certain discrete items occurring which impact our income tax provision in the period in which they occur. There were no material discrete items occurring during the three months ended September 30, 2021. For the three and nine months ended September 30, 2020, the Company recognized deferred income tax expense of $1 thousand and $15 thousand, respectively. The effective tax rate for the three and nine months ended September 30, 2020 is 0% and -0.11%, respectively. Income (loss) from discontinued operations For the three and nine months ended September 30, 2021, the loss from discontinued operations of $137 thousand and $724 thousand, respectively, represents the loss generated by CES primarily due to the impairment loss recognized on the reclassification to held for sale. The income from discontinued operations of $23 thousand and $112 thousand for the three and nine months ended September 30, 2021, respectively, represents the income generated by CES primarily due to the reduction of payroll expense as a result of the PPP Loan. 25 TABLE OF CONTENTS Liquidity and Capital Resources We finance our Asset Management operations, capital expenditures, and business acquisitions with internally generated funds, distributions from our equity method investments, and borrowings from our credit facilities. See Note 7 in the accompanying condensed consolidated financial statements for more details on our debt and credit facilities. Cash Flow from Continuing Operations For the nine months ended September 30, 2021, net cash provided by operating activities was $3.1 million, which is primarily related to fees earned in the quarter for the capital markets transaction offset by an increase in related party receivables. Fo r the nine months ended September 30, 2020, net provided by operating activities was $1.8 million, primarily related to non-cash stock compensation and increases in trade receivables offset by a decrease in personnel costs. Net cash used in investing activities of $0.6 million for the nine months ended September 30, 2021 is primarily due to deposits paid for the Company's multifamily acquisition in Rockville, Maryland offset by distributions from Investors X. Net cash provided by investing activities of $1.2 million for the nine months ended September 30, 2020 was primarily related to distributions from equity method investments. Net cash used in financing activities for the nine months ended September 30, 2021 was $215 thousand which was primarily related to taxes paid related to net share settlement of equity awards net of proceeds from notes payable. Net cash provided by financing activities was $269 thousand for the nine months ended September 30, 2020 which was primarily related to proceeds from the Revolver of $5.5 million offset by the repayment of the Comstock Growth Fund loan. Critical Accounting Policies and Estimates There have been no other significant changes to our critical accounting policies and estimates during the nine months ended September 30, 2021 from those disclosed in our Annual Report on Form 10-K for the year ended December 31, 2020. Recently Issued Accounting Standards See Note 1 - Organization and Basis of Presentation to the accompanying condensed consolidated financial statements included in this Quarterly Report on Form 10-Q. Off Balance Sheet Arrangements None. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Not Applicable.