Item 1. Business
Item 1. BUSINESS
Organization
MacKenzie Realty Capital, Inc. (the “ Parent Company, ” together with its subsidiaries as discussed below, the “Company,” “ we, ” “ us, ” or “our”) is an externally managed non-diversified real estate
investment trust (“REIT”), as defined under Subchapter M of the Internal Revenue Code of 1986, as amended (the " Code "), that has elected to be treated as a business development company (“ BDC ”) under the Investment Company Act of 1940
(the “ 1940 Act ”).
Our investment objective is to generate both current income and capital appreciation through investments in real estate companies (as defined below). We are advised by MCM Advisers, LP (the “ Adviser ” or “ MCM
Advisers ”). MacKenzie Capital Management, LP (“ MacKenzie ” or the “ Administrator ”) provides us with non-investment management services and administrative services necessary for us to operate.
The Parent Company filed its initial registration statement in June 2012 with the Securities and Exchange Commission ("SEC") to register the initial public offering (“IPO”) of 5,000,000 shares of its common stock. The
IPO commenced in January 2014 and concluded in October 2016. The Parent Company filed a second registration statement with the SEC to register a subsequent public offering of 15,000,000 shares of its common stock. The second offering commenced in
December 2016 and concluded on October 28, 2019. The Parent Company filed a third registration statement with the SEC to register a public offering of 15,000,000 shares of its common stock that was declared effective by the SEC on October 31, 2019.
The third offering commenced shortly thereafter and is continuing.
The Parent Company’s wholly owned subsidiary, MRC TRS, Inc., (“ TRS ”) was incorporated under the general corporation laws of the State of California on February 22, 2016, and operates as a taxable REIT
subsidiary. TRS started its operation on January 1, 2017, and the financial statements of TRS have been consolidated with the Parent Company’s consolidated financial statements beginning with the quarter ended March 31, 2017. On December 20, 2017, a
wholly owned subsidiary of TRS, MacKenzie NY Real Estate 2 Corp. (“MacKenzie NY 2”), was formed for the purpose of making certain limited investments in New York companies, and its financial statements have been consolidated with the Parent Company.
While we remain a BDC, our investments generally range in size from $10,000 to $3 million. However, we may make smaller or larger investments from time to time on an opportunistic basis. We focus primarily on real
estate-related securities. We purchase most of our securities (i) directly from existing security holders, (ii) through established securities markets, and (iii) in the case of unregistered, privately offered securities, directly from issuers. We
invest primarily in debt and equity securities issued by U.S. companies that primarily own commercial real estate that are either illiquid or not listed on any exchange.
While we remain a BDC, we generally seek to invest in interests of real estate-related limited partnerships and REITs. Under normal market conditions, we invest at least 80% of our total assets in common stocks and
other equity or debt securities issued by real estate companies, including REITs and similar REIT-like entities. A real estate company is one that (i) derives at least 50% of its revenue from the ownership, construction, financing, management or sale
of commercial, industrial or residential real estate and land; or (ii) has at least 50% of its assets invested in such real estate. We will not invest in general partnerships, joint ventures, or other entities that do not afford limited liability to
their security holders. However, limited liability entities in which we invest may hold interests in general partnerships, joint ventures, or other non-limited liability entities. We generally favor purchasing securities issued by entities that have
(i) completed the initial offering of their securities, (ii) operated for a period of at least two years, and typically more than five years, from the completion of their initial offering, and (iii) fully invested their capital in real properties or
other real estate-related investments.
While we remain a BDC, we may also acquire or originate (i) loans secured by real property (i.e., we may originate such loans or we may purchase outstanding loans secured by real estate), (ii) securities of issuers
that own mortgages secured by income producing real property, and (iii) using no more than 20% of our available capital, securities of issuers that own assets other than real estate.
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At our board meeting on August 28, 2020, our Board of Directors approved the proposal to withdraw of our BDC election, while continuing our REIT status. Therefore, on October 23, 2020, our stockholders will be asked to
approve the withdrawal of our BDC election. If this proposal is approved, the Company will, effective upon receipt by the SEC of the Company’s application for withdrawal, no longer be regulated as a BDC or subject to the regulatory provisions of the
1940 Act. Withdrawal of our election to be regulated as a BDC will not affect our registration under Section 12(g) of the Securities Exchange Act of 1934 (the “Exchange Act”), and we will continue to file periodic reports on Form 10-K, Form 10-Q, and
Form 8-K, and file proxy statements and other reports required under the Exchange Act. Following withdrawal of our election to be regulated as a BDC, the application and presentation of our financial statements under accounting principles generally
accepted in the United States of America (“GAAP”) could change.
The Company has undertaken several steps to meet the requirements for withdrawal of its election to be regulated as a BDC, including (i) preparing a plan of operations in contemplation of such a change to the status of
the Company, (ii) evaluating potential investments in real estate assets that will allow the Company to transition to direct real estate asset investments, (iii) reviewing the potential adjusted investment strategy with potential capital providers,
and (iv) consulting with outside counsel as to the requirements for withdrawing its election as a BDC.
If this proposal is approved, the Company expects to continue operating as a BDC for a period of time in which it focuses on identifying and investing in real estate assets. During this transition period, the Company may liquidate some of its
securities portfolio. The Company expects that it will elect to withdraw the election within 30 days of stockholder approval and will immediately begin to transition away from a securities portfolio. By the end of the first year after withdrawal of
its election, the Company anticipates that its securities portfolio will comprise less than 20% of its assets.
Investment Strategy
While we remain a BDC, our investment objective is to generate current income and capital appreciation through debt and equity real estate-related investments. Our Independent Directors (as defined in Part II, Item 10
of this Annual Report on Form 10-K) review our investment policies with frequency, at least annually, to confirm that our policies are in the best interests of our stockholders. Each such determination and the basis thereof are contained in the
minutes of our Board of Directors meetings.
We seek to accomplish our objective by rigorously analyzing the net asset value (“ NAV ”) of and risks associated with potential security acquisitions, and by acquiring securities at significant discounts to their
NAV. Although we may acquire any type of security by any method, we anticipate our acquisitions will generally be accomplished in the following ways:
•
Tender offers . We acquire shares of non-traded REITs (" NTRs ") and other real estate companies via registered and non-registered tender offers (e.g., offers to purchase securities directly from
the existing holders). This is generally our preferred acquisition method, as it allows us to name the price at which we are willing to buy such securities. By purchasing securities at significant discounts to NAV, we believe we reduce the
risk of a loss of capital due to a decline in NAV while increasing total returns when the discount is realized. Also, by purchasing seasoned securities that are several years old, we reduce our anticipated holding period and potentially
increase our annualized rate of return.
•
Direct loans and private placements . We may occasionally make direct loans to private real estate companies and arrange for private placements of equity issued directly to us by private real estate
companies.
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Purchases of small-cap REITs on the open market . We believe that small-capitalization REITs (typically less than $250 million) are largely ignored by institutional investors and by Wall Street
analysts, and as a result they often trade for significant discounts to their NAV. While these REITs tend to be highly illiquid with very small trading volumes, our smaller size allows us to focus on these REITs and to purchase their
securities in meaningful quantities. Like shares of NTRs that we purchase at discounts to NAV, we believe these acquisitions can provide superior risk-adjusted returns.
Opportunistic property acquisitions . If our stockholders approve the withdrawal of our BDC election, we may expand our investment strategy to
include acquisition of distressed real properties. Like our other investments, we would expect to hold distressed properties and infuse funds as necessary to extract unrealized value.
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Our Corporate Information
Our offices are currently located at 89 Davis Road, Suite 100, Orinda, CA 94563 and our telephone number is (925) 631-9100 or (800) 854-8357. We relocated to our current address from 1640 School Street, Moraga, CA
94556 in June 2018.
Investments
While we remain a BDC, we engage in various investment strategies to achieve our overall investment objectives. The strategy we select depends upon, among other things, market opportunities, the skills and experience
of the Adviser's investment team and our overall portfolio composition. We generally seek to acquire securities that produce ongoing distributable income for investors, yet with a primary focus on purchasing such securities at a discount from what
the Adviser estimates to be the actual value of the real estate underlying the securities.
Types of Investments
We target the following real estate-related investments.
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Real Estate-Related Limited Partnerships. Limited partnerships which may be public or private, and which were formed primarily to own real property. They may actively operate the property, they may
develop the property, or they may passively own property operated by a third party.
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REITs. Corporations or trusts that are formed to own real property and are exempted from federal corporate income tax if they distribute at least 90.0% of their net income in the form of dividends
to their stockholders.
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Other Real Estate-Related Investments. May include equity interests in LLCs, tenancies-in-common, mortgages, loans, bonds, or any security whose underlying value derives from real estate. We may
invest in other real estate-related investment entities or, if our shareholders approve the withdrawal of our BDC election, direct ownership of real property. We do not invest in general partnerships, joint ventures, or other entities that do
not afford limited liability to their security holders. However, limited liability entities in which we invest may hold interests in general partnerships, joint ventures, or other non-limited liability entities.
Targeted Securities
Our Adviser has advised on a significant number of investments in the real estate industry. We leverage this prior investing experience to target attractive investments in the real estate industry. Securities to be
acquired by us generally consist of the following:
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Securities Issued by Owners of Real Property. We acquire securities issued by limited partnerships, REITs or other investment entities that have invested directly or indirectly in real property, real
estate joint ventures, or other real property-based investments. We buy securities issued by entities owning a variety of property types, including apartments, shopping centers, office buildings, nursing homes, mini-warehouses, and hotels.
•
Direct Real Property Obligations, Derivatives, and Other Securities. We may also acquire (i) individual mortgages secured by real property (i.e., originate, or purchase outstanding loans secured by
real estate), (ii) securities of issuers that own mortgages secured by income-producing real property, and (iii) using no more than 20.0% of our capital available for investment, securities of issuers that own assets other than real estate.
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We generally acquire securities in one of two ways:
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Securities Issued Previously Pursuant to a Registration Statement. In general, we seek to acquire securities originally registered by the issuer with the SEC. These target securities are typically
public limited partnership interests and shares in REITs issued by national real estate syndicators and companies. These issuers typically have hundreds or thousands of limited partners or stockholders and own numerous real property assets.
•
Securities Issued in Private Transactions. We may acquire securities that are or were privately placed by issuers that (i) are limited partnerships, REITs, or other real estate-related entities, (ii)
have sold their securities in private offerings to only a limited number of investors who have met suitability standards that are generally higher than those imposed by public partnerships, and (iii) have invested in only a single parcel or a
few parcels of real property.
Investment Selection
Our Adviser's investment team is responsible for all aspects of our investment process. The current members of the investment team are C.E. Patterson, Glen Fuller, Chip Patterson, Robert Dixon, Paul Koslosky, and
Christine Simpson. The investment strategy involves a team approach, whereby potential transactions are screened by various members of the investment team.
Our process for acquiring targeted real estate-related securities typically involves three steps: (i) identifying securities of the type we may be interested in acquiring; (ii) evaluating the securities to estimate
their value to us, and (iii) either acquiring securities on national markets or locating securities holders who may be interested in selling such securities on secondary markets. Different circumstances may require different procedures, or different
combinations of procedures, and we adjust our acquisition strategy to fit the circumstances. Nonetheless, the typical stages of our investment selection process are as follows:
Deal Generation/Origination
We source investments through long-standing relationships with industry contacts, brokers, commercial and investment bankers, entrepreneurs, services providers such as lawyers and accountants, as well as current and
former clients, portfolio companies and investors. Our Adviser's investment team supplements these lead generators by also utilizing broader marketing efforts, such as advertisements in real estate periodicals, newspapers and other publications,
attendance at prospective borrower industry conventions, active calling efforts to smaller private equity firms and sponsors, web presence and search tools.
Screening
In screening potential investments, the Adviser's investment team utilizes a value-oriented investment philosophy and commits resources to managing downside exposure.
Due Diligence
In conducting due diligence, the Adviser uses publicly available information as well as information from its relationships with former and current management teams, consultants, competitors and investment bankers. Our
Adviser's due diligence typically includes:
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review of historical and prospective financial information and regulatory disclosures;
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research relating to the company's management, industry, markets, products and services and competitors;
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verification of collateral; and
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asset and business value appraisals by third party advisers.
Upon the completion of due diligence and a decision to proceed with an investment, the investment professionals leading the investment present the investment opportunity to the Adviser's investment team, which then
determines whether to pursue the potential investment. Additional due diligence with respect to any investment may be conducted on our behalf by attorneys and independent accountants prior to the closing of the investment, as well as other outside
third-party advisers, as appropriate. Any fees and expenses incurred by the Adviser to oversee due diligence investigations undertaken by third parties are subject to reimbursement by us, if not otherwise reimbursed by the prospective borrower, which
reimbursements are in addition to any management or incentive fees payable by us under the advisory agreement amended and restated effective October 1, 2017, and subsequently amended October 23, 2018 (the " Investment Advisory Agreement ”).
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Managerial Assistance
We offer and provide significant managerial assistance to our portfolio companies, and must continue to do so while we remain a BDC. This assistance could involve, among other things, monitoring the operations of our
portfolio companies, participating in board and management meetings, consulting with and advising officers of portfolio companies and providing other organizational and financial guidance. We may receive fees for these services. The Adviser provides
such managerial assistance on our behalf to portfolio companies that request this assistance.
Monitoring
Our Adviser monitors our investments on an ongoing basis. Our Adviser has several methods of evaluating and monitoring the performance and fair value of the portfolio companies in which we invest, which include the
following:
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Assessment of success in adhering to business plans and compliance with covenants;
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Periodic and regular contact with portfolio company management and, if appropriate, the financial or strategic sponsor, to discuss financial position, requirements and accomplishments;
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Comparisons to other portfolio companies in the industry, if any;
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Attendance at and participation in our board meetings; and
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Review of monthly and quarterly consolidated financial statements and financial projections for portfolio companies.
Valuation Procedures
We determine our NAV consistent with accounting principles generally accepted in the United States of America (“ GAAP ”) and the 1940 Act. Securities for which market quotations are readily available on an
exchange will be valued at the closing price on the day closest to the valuation date. Where a security is traded but in limited volume, we may instead utilize the weighted average closing price of the security over the prior 10 trading days. To
value securities that do not trade on a national exchange, we may use published secondary market trading information.
Securities for which reliable market data are not readily available or for which the pricing source does not provide a valuation or methodology or provides a valuation or methodology that, in the judgment of the Adviser or Board of Directors, does
not accurately measure fair value, which we expect will represent a substantial portion of our portfolio, are valued as follows: (i) the securities are initially valued by the investment professionals responsible for the portfolio investment; (ii)
preliminary valuation conclusions are documented and discussed with our senior management; and (iii) the Board of Directors reviews these preliminary valuations and, where appropriate and necessary, valuations by third-party valuation firms, and uses
such valuations, as adjusted by the Board if appropriate, to determine the fair value of the securities.
Securities for which market data are not readily available or for which a pricing source does not accurately measure value may include the following:
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private placements and restricted securities that do not have an active trading market;
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securities whose trading has been suspended or for which market quotes are no longer available;
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debt securities that have recently gone into default and for which there is no current market;
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securities whose prices are stale;
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securities affected by significant events; and
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securities that the Adviser believes were priced incorrectly.
Determination of fair value involves subjective judgments and estimates. Accordingly, the notes to our consolidated financial statements express the uncertainty with respect to the possible effect of such valuations,
and any change in such valuations, on our consolidated financial statements.
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Competition
While we remain a BDC, we compete for investments with investment funds (including private equity funds). Additionally, because competition for investment opportunities generally has increased among alternative
investment vehicles, such as hedge funds, those entities have begun to make non-traditional investments, including investments in real estate companies. As a result of these new entrants, competition for investment opportunities in real estate and
real estate-related companies may intensify. Many of these entities have greater financial and managerial resources than we do or may not be subject to comparable regulation. We believe the experience and contacts of the Adviser, our responsive and
efficient investment analysis and decision-making processes, the investment terms we offer, and our willingness to make smaller investments allows us to successfully compete with these competitors. For additional information concerning the
competitive risks we face, see "Risk Factors — Risk Relating to Our Business and Structure — We may face increasing competition for investment opportunities."
Staffing
We do not currently have any employees. Our day-to-day investment operations are managed by the Adviser. Our Adviser may hire additional investment professionals, based upon its needs. We also entered into an
administration agreement with MacKenzie (the “ Administration Agreement ”), under which we reimburse MacKenzie for our allocable portion of overhead and other expenses incurred by it in performing its obligations, including rent, the fees and
expenses associated with performing compliance functions, and the compensation of our chief financial officer, our chief compliance officer (or "CCO"), and any administrative support staff.
Board Approval of the Investment Advisory Agreement
Our investment advisory and administrative services agreements were approved by our board of directors in May 2012, and, following amendments, re-approved most recently in October 2018. Such approvals were made in
accordance with, and on the basis of an evaluation satisfactory to our board of directors as required by Section 15(c) of the 1940 Act and applicable rules and regulations thereunder, including a consideration of, among other factors, (i) the nature,
quality, and extent of the advisory and other services to be provided under the agreements, (ii) the investment performance of the personnel who manage investment portfolios with objectives similar to ours, to the extent available, (iii) comparative
data with respect to advisory fees or similar expenses paid by other BDCs with similar investment objectives, to the extent available and (iv) information about the services to be performed and the personnel performing such services under each of the
agreements.
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