NexPoint Residential Trust, Inc.: Form 10-Q for the period ended Jun 30, 2024

The following is a discussion and analysis of our financial condition and our historical results of operations. The following should be read in conjunction with our financial statements and accompanying notes included herein and with our annual report on Form 10-K for the year ended December 31, 2023 (our “Annual Report”), filed with the Securities and Exchange Commission (the “SEC”) on February 27, 2024. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those projected, forecasted, or expected in these forward-looking statements as a result of various factors, including, but not limited to, those discussed below and elsewhere in this quarterly report. See “Cautionary Statement Regarding Forward-Looking Statements” in this report, and “Risk Factors” in Part I, Item 1A, “Risk Factors” of our Annual Report.

Overview

As of June 30, 2024, our Portfolio consisted of 36 multifamily properties primarily located in the Southeastern and Southwestern United States encompassing 13,174 units of apartment space that was approximately 94.1% leased with a weighted average monthly effective rent per occupied apartment unit of $1,517. Substantially all of our business is conducted through the OP. We own the Portfolio through the OP and our TRS. The OP owns approximately 99.9% of the Portfolio; our TRS owns approximately 0.1% of the Portfolio. The OP GP is the sole general partner of the OP. As of June 30, 2024, there were 26,053,988 OP Units outstanding, of which 25,951,154, or 99.6%, were owned by us, and 102,834, or 0.4%, were owned by an unaffiliated limited partner (see Note 8 to our consolidated financial statements).

We are primarily focused on directly or indirectly acquiring, owning, and operating well-located multifamily properties with a value-add component in large cities and suburban submarkets of large cities, primarily in the Southeastern and Southwestern United States. We generate revenue primarily by leasing our multifamily properties. We intend to employ targeted management and a value-add program at a majority of our properties in an attempt to improve rental rates and the net operating income (“NOI”) at our properties and achieve long-term capital appreciation for our stockholders. We are externally managed by the Adviser through the Advisory Agreement, by and among the OP, the Adviser and us. The Advisory Agreement was renewed on February 26, 2024 for a one-year term. The Adviser is wholly owned by NexPoint Advisors, L.P.

We have elected to be taxed as a REIT under Sections 856 through 860 of the Code, and expect to continue to qualify as a REIT. To qualify as a REIT, we must meet a number of organizational and operational requirements, including a requirement that we distribute at least 90% of our REIT taxable income to our stockholders. As a REIT, we will be subject to federal income tax on our undistributed REIT taxable income and net capital gain and to a 4% nondeductible excise tax on any amount by which distributions we pay with respect to any calendar year are less than the sum of (1) 85% of our ordinary income, (2) 95% of our capital gain net income and (3) 100% of our undistributed income from prior years. We believe we qualify for taxation as a REIT under the Code, and we intend to continue to operate in such a manner, but no assurance can be given that we will operate in a manner so as to qualify as a REIT. Taxable income from certain non-REIT activities is managed through a TRS and is subject to applicable federal, state, and local income and margin taxes. We had no significant taxes associated with our TRS for the six months ended June 30, 2024 and 2023.

The macroeconomic environment remains challenging as central banks have continued to rapidly raise interest rates. The rising rate environment, coupled with large bank failures in early 2023 and ongoing economic uncertainty, has limited credit availability to commercial real estate. Less available and more expensive debt capital has had pronounced effects on the capital markets, making property acquisitions and other investments harder to finance. Similar factors also impact the timing of and proceeds generated from asset sales and our ability to obtain debt capital.

On October 16, 2019, Highland, a former affiliate of our Sponsor, filed for Chapter 11 bankruptcy protection with the United States Bankruptcy Court for the District of Delaware (the “Highland Bankruptcy”). On October 15, 2021, Marc S. Kirschner, as litigation trustee of a litigation subtrust formed pursuant to Highland’s plan of reorganization and disclosure statement which became effective on August 11, 2021, filed a lawsuit (the “Bankruptcy Trust Lawsuit”) against various persons and entities, including our Sponsor and James Dondero. In addition, on February 8, 2023, UBS Securities LLC and its affiliate (collectively, “UBS”) filed a lawsuit in the Supreme Court of the State of New York, County of New York against Mr. Dondero and a number of other persons and entities seeking to collect on $1.3 billion in judgments UBS obtained against entities that were managed indirectly by Highland (the “UBS Lawsuit”). Neither the Bankruptcy Trust Lawsuit nor the UBS Lawsuit include claims related to our business or our assets. Our Sponsor and Mr. Dondero have informed us they believe the Bankruptcy Trust Lawsuit has no merit, and Mr. Dondero has informed us he believes the UBS Lawsuit has no merit; we have been advised that the defendants named in each of the lawsuits intend to vigorously defend against the claims. We do not expect the Bankruptcy Trust Lawsuit or the UBS Lawsuit will have a material effect on our business, results of operations or financial condition.

Components of Our Revenues and Expenses

Revenues

Rental income. Our earnings are primarily attributable to the rental revenue from our multifamily properties. We anticipate that the leases we enter into for our multifamily properties will typically be for one year or less on average. Also included are utility reimbursements, late fees, pet fees, and other rental fees charged to tenants.

Other income. Other income includes ancillary income earned from tenants such as non-refundable fees, application fees, laundry fees, cable TV income, and other miscellaneous fees charged to tenants.

Expenses

Property operating expenses. Property operating expenses include property maintenance costs, salary and employee benefit costs, utilities, casualty-related expenses and recoveries and other property operating costs.

Real estate taxes and insurance. Real estate taxes include the property taxes assessed by local and state authorities depending on the location of each property. Insurance includes the cost of commercial, general liability, and other needed insurance for each property.

Property management fees. Property management fees include fees paid to BH, our property manager, or other third party management companies for managing each property (see Note 8 to our consolidated financial statements).

Advisory and administrative fees. Advisory and administrative fees include the fees paid to our Adviser pursuant to the Advisory Agreement (see Note 9 to our consolidated financial statements).

Corporate general and administrative expenses. Corporate general and administrative expenses include, but are not limited to, audit fees, legal fees, listing fees, board of director fees, equity-based compensation expense, investor relations costs and payments of reimbursements to our Adviser for operating expenses. Corporate general and administrative expenses and the advisory and administrative fees paid to our Adviser (including advisory and administrative fees on properties defined in the Advisory Agreement as New Assets) will not exceed 1.5% of Average Real Estate Assets per calendar year (or part thereof that the Advisory Agreement is in effect), calculated in accordance with the Advisory Agreement, or the Expense Cap. The Expense Cap does not limit the reimbursement by us of expenses related to securities offerings paid by our Adviser. The Expense Cap also does not apply to legal, accounting, financial, due diligence, and other service fees incurred in connection with mergers and acquisitions, extraordinary litigation, or other events outside our ordinary course of business or any out-of-pocket acquisition or due diligence expenses incurred in connection with the acquisition or disposition of real estate assets. Additionally, in the sole discretion of the Adviser, the Adviser may elect to waive certain advisory and administrative fees otherwise due. If advisory and administrative fees are waived in a period, the waived fees for that period are considered to be waived permanently and the Adviser may not be reimbursed in the future.

Property general and administrative expenses. Property general and administrative expenses include the costs of marketing, professional fees, general office supplies, and other administrative related costs of each property.

Depreciation and amortization. Depreciation and amortization costs primarily include depreciation of our multifamily properties and amortization of acquired in-place leases.

Other Income and Expense

Interest expense. Interest expense primarily includes the cost of interest expense on debt, the amortization of deferred financing costs and the related impact of interest rate derivatives used to manage our interest rate risk.

Gain (loss) on extinguishment of debt and modification costs. Gain (loss) on extinguishment of debt and modification costs includes prepayment penalties and defeasance costs, the write-off of unamortized deferred financing costs and fair market value adjustments of assumed debt related to the early repayment of debt, costs incurred in a debt modification that are not capitalized as deferred financing costs and other costs incurred in a debt extinguishment.

Casualty gain (loss). Casualty gain (loss) include expenses resulting from damages from an unexpected and unusual event such as a natural disaster. Expenses can include additional payments on insurance premiums, impairment recognized on a property, and other abnormal expenses arising from the related event.

Miscellaneous income. Miscellaneous income includes proceeds received from insurance for business interruption involving the loss of rental income at a property that has temporarily suspended operations due to an unexpected and unusual event.

Gain on sales of real estate. Gain on sales of real estate includes the gain recognized upon sales of properties. Gain on sales of real estate is calculated by deducting the carrying value of the real estate and costs incurred to sell the properties from the sales prices of the properties.

Results of Operations for the Three and Six Months Ended June 30, 2024 and 2023

The three months ended June 30, 2024 as compared to the three months ended June 30, 2023

The following table sets forth a summary of our operating results for the three months ended June 30, 2024 and 2023 (in thousands):

The change in our net income for the three months ended June 30, 2024 as compared to our net loss for the three months ended June 30, 2023 primarily relates to our gain on sales of real estate of $18.7 million.

Revenues

Rental income. Rental income was $62.4 million for the three months ended June 30, 2024 compared to $67.8 million for the three months ended June 30, 2023, which was a decrease of approximately $5.4 million. The decrease between the periods was primarily due our disposition activity in 2024 and in the later half of 2023, partially offset by a 1.3% increase in the weighted average monthly effective rent per occupied apartment unit in our Portfolio to $1,517 as of June 30, 2024 from $1,497 as of June 30, 2023. The increase in effective rent was primarily driven by the value-add program that we have implemented and organic growth in rents in the markets where our properties are located.

Other income. Other income was $1.9 million for the three months ended June 30, 2024 compared to $1.8 million for the three months ended June 30, 2023, which was an increase of approximately $0.1 million. The increase between the periods was primarily due to an increase in interest income on deposits.

Expenses

Property operating expenses. Property operating expenses were $13.8 million for the three months ended June 30, 2024 compared to $15.5 million for the three months ended June 30, 2023, which was a decrease of approximately $1.7 million. The decrease between periods was primarily due to a decrease our disposition activity in 2023 and 2024.

Real estate taxes and insurance. Real estate taxes and insurance costs were $8.2 million for the three months ended June 30, 2024 compared to $9.3 million for the three months ended June 30, 2023, which was a decrease of approximately $1.1 million. The decrease between the periods was primarily due to our acquisition and disposition activity in 2023 and 2024 and the timing of the transactions.

Property management fees. Property management fees were $1.9 million for the three months ended June 30, 2024 compared to $2.0 million for the three months ended June 30, 2023 which was a decrease of $0.1 million. Property management fees are primarily based on total revenues.

Advisory and administrative fees. Advisory and administrative fees were $1.7 million for the three months ended June 30, 2024 compared to $1.9 million for the three months ended June 30, 2023. For the three months ended June 30, 2024 and 2023, our Adviser elected to voluntarily waive the advisory and administrative fees of approximately $5.2 million and $5.4 million and are considered permanently waived. Our Adviser is not contractually obligated to waive fees on New Assets in the future and may cease waiving fees on New Assets at its discretion. Advisory and administrative fees may increase in future periods as we acquire additional properties, which will be classified as New Assets.

Corporate general and administrative expenses. Corporate general and administrative expenses were $4.8 million for the three months ended June 30, 2024 compared to $4.6 million for the three months ended June 30, 2023, which was an increase of approximately $0.2 million. The increase between the periods was primarily due to increases of $0.2 million in stock compensation expense.

Property general and administrative expenses. Property general and administrative expenses were $2.7 million for the three months ended June 30, 2024 compared to $2.2 million for the three months ended June 30, 2023, which was an increase of $0.5 million. The increase between periods primarily relates to an increase in franchise taxes of $0.3 million.

Depreciation and amortization. Depreciation and amortization costs were $24.4 million for the three months ended June 30, 2024 compared to $23.9 million for the three months ended June 30, 2023, which was an increase of approximately $0.5 million. The increase between the periods was primarily due to an increase in depreciation expense of approximately $0.6 million, which was primarily due to our value-add activities in 2023 and 2024.

Other Income and Expense

Interest expense. Interest expense was $14.0 million for the three months ended June 30, 2024 compared to $14.5 million for the three months ended June 30, 2023, which was a decrease of approximately $0.5 million. There was a decrease in interest on debt of approximately $1.8 million and increase in effective interest rate swap expense of $0.9 million, partially offset by mark-to-market on interest rate caps of $1.9 million. The following table details the various costs included in interest expense for the three months ended June 30, 2024 and 2023 (in thousands):

Casualty (loss). Casualty loss was $0.7 million compared to a $0.1 million for the three months ended June 30, 2024 and 2023, respectively. The increase in casualty loss between periods of $0.6 million is attributable to the Company's casualty events and the timing.

Miscellaneous income. Miscellaneous income was $0.1 million compared to $0.3 million for the three months ended June 30, 2024 and 2023, respectively. The decrease between periods is attributable to a decrease in business interruption proceeds.

Gain on sale of real estate. Gain on sale of real estate was $18.7 million compared to $0.0 million for the three months ended June 30, 2024 and 2023, respectively. The increase between periods is attributable to one disposition during the three months ended June 30, 2024 compared to none during the three months ended June 30, 2023.

The six months ended June 30, 2024 as compared to the six months ended June 30, 2023

The following table sets forth a summary of our operating results for the six months ended June 30, 2024 and 2023 (in thousands):

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The change in our net income for the six months ended June 30, 2024 as compared to the net loss for the six months ended June 30, 2023 primarily relates our gain on sales of real estate of $50.4 million.

Revenues

Rental income. Rental income was $128.0 million for the six months ended June 30, 2024 compared to $135.3 million for the six months ended June 30, 2023, which was a decrease of approximately $7.3 million. The decrease between the periods was primarily due to our disposition activity in 2023 and 2024, partially offset by a 1.3% increase in the weighted average monthly effective rent per occupied apartment unit in our Portfolio to $1,517 as of June 30, 2024 from $1,497 as of June 30, 2023. The increase in effective rent was primarily driven by the value-add program that we have implemented and organic growth in rents in the markets where our properties are located.

Other income. Other income was $3.8 million for the six months ended June 30, 2024 compared to $3.4 million for the six months ended June 30, 2023, which was an increase of approximately $0.4 million. The increase between the periods was primarily due to a $0.1 million increase in internet and tech income.

Expenses

Property operating expenses. Property operating expenses were $27.5 million for the six months ended June 30, 2024 compared to $28.8 million for the six months ended June 30, 2023, which was a decrease of approximately $1.3 million. The decrease between the periods was primarily due to our disposition activity in 2024 and the last half of 2023.

Real estate taxes and insurance. Real estate taxes and insurance costs were $17.5 million for the six months ended June 30, 2024 compared to $19.4 million for the six months ended June 30, 2023, which was a decrease of approximately $1.9 million. The decrease between the periods was primarily due to our disposition activity in 2024 and the last half of 2023.

Property management fees. Property management fees were $3.8 million for the six months ended June 30, 2024 and $4.1 million for the six months ended June 30, 2023. Property management fees are primarily based on total revenues.

Advisory and administrative fees. Advisory and administrative fees were $3.5 million for the six months ended June 30, 2024 and $3.8 million for the six months ended June 30, 2023 which was a decrease of approximately $0.3 million. For the six months ended June 30, 2024 and 2023, our Adviser elected to voluntarily waive the advisory and administrative fees of approximately $10.7 million and $10.7 million and are considered permanently waived. Our Adviser is not contractually obligated to waive fees on New Assets in the future and may cease waiving fees on New Assets at its discretion. Advisory and administrative fees may increase in future periods as we acquire additional properties, which will be classified as New Assets.

Corporate general and administrative expenses. Corporate general and administrative expenses were $9.7 million for the six months ended June 30, 2024 compared to $8.0 million for the six months ended June 30, 2023, which was an increase of approximately $1.7 million. The increase was primarily due to an increase in stock compensation expense of $0.8 million.

Property general and administrative expenses. Property general and administrative expenses were $4.9 million for the six months ended June 30, 2024 compared to $4.5 million for the six months ended June 30, 2023, which was an increase of approximately $0.4 million. The increase was primarily due to an increase in centralized services.

Depreciation and amortization. Depreciation and amortization costs were $48.8 million for the six months ended June 30, 2024 compared to $47.1 million for the six months ended June 30, 2023, which was an increase of approximately $1.7 million. The increase between the periods was primarily due to an increase of $1.6 million in depreciation expense, which was primarily due to our value-add activities.

Other Income and Expense

Interest expense. Interest expense was $28.4 million for the six months ended June 30, 2024 compared to $31.3 million for the six months ended June 30, 2023, which was a decrease of approximately $2.9 million. The decrease between the periods was primarily due to an increase in benefit from interest rate swaps of $3.7 million. The following table details the various costs included in interest expense for the six months ended June 30, 2024 and 2023 (in thousands):

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Casualty (loss). Casualty loss was $0.5 million compared to a $0.9 million for the six months ended June 30, 2024 and 2023, respectively. The decrease in casualty loss between periods of $0.4 million is attributable to the Company's casualty events and the timing.

Miscellaneous income. Miscellaneous income was $0.2 million compared to $0.7 million for the six months ended June 30, 2024 and 2023, respectively. The decrease between periods is attributable to a decrease in business interruption proceeds.

Gain on sale of real estate. Gain on sale of real estate was $50.4 million compared to $0.0 million for the six months ended June 30, 2024 and 2023, respectively. The increase between periods is attributable to our two dispositions during the six months ended June 30, 2024 compared to none during the six months ended June 30, 2023.

Non-GAAP Measurements

Net Operating Income and Same Store Net Operating Income

NOI is a non-GAAP financial measure of performance. NOI is used by investors and our management to evaluate and compare the performance of our properties to other comparable properties, to determine trends in earnings and to compute the fair value of our properties as NOI is calculated by adjusting net income (loss) to add back (1) interest expense (2) advisory and administrative fees, (3) the impact of: (a) depreciation and amortization expenses and (b) gains or losses from the sale of operating real estate assets that are included in net income (loss) computed in accordance with GAAP, (4) corporate general and administrative expenses, (5) corporate income that is not reflective of operations of the properties, (6) other gains and losses that are specific to us including loss on extinguishment of debt and modification costs, (7) casualty-related expenses/(recoveries) and casualty gains (losses), (8) gain (loss) on extinguishment of debt and modification costs that are not reflective of continuing operations of the properties, (9) gain on forfeited deposits, (10) property general and administrative expenses that are not reflective of the continuing operations of the properties or are incurred on behalf of the Company at the property for expenses such as legal, professional, centralized leasing service and franchise tax fees and (11) equity in earnings of affiliates.

The cost of funds is eliminated from net income (loss) because it is specific to our particular financing capabilities and constraints. The cost of funds is also eliminated because it is dependent on historical interest rates and other costs of capital as well as past decisions made by us regarding the appropriate mix of capital, which may have changed or may change in the future. Corporate general and administrative expenses, and non-operating fees to affiliates and equity in earnings of affiliates are eliminated because they do not reflect continuing operating costs of the property owner. Depreciation and amortization expenses as well as gains or losses from the sale of operating real estate assets are eliminated because they may not accurately represent the actual change in value in our multifamily properties that result from use of the properties or changes in market conditions. While certain aspects of real property do decline in value over time in a manner that is reasonably captured by depreciation and amortization, the value of the properties as a whole have historically increased or decreased as a result of changes in overall economic conditions instead of from actual use of the property or the passage of time. Gains and losses from the sale of real property vary from property to property and are affected by market conditions at the time of sale, which will usually change from period to period. Casualty-related expenses and recoveries are excluded because they do not reflect continuing operating costs of the property owner. Entity level general and administrative expenses incurred at the properties are eliminated as they are specific to the way in which we have chosen to hold our properties and are the result of our ownership structuring. Gain on forfeited deposits is excluded as it does not reflect the ongoing operations of the properties. Corporate income is excluded as it does not pertain to the performance of the operating properties. Also, expenses that are incurred upon acquisition of a property do not reflect continuing operating costs of the property owner. These gains and losses can create distortions when comparing one period to another or when comparing our operating results to the operating results of other real estate companies that have not made similarly timed purchases or sales. We believe that eliminating these items from net income (loss) is useful because the resulting measure captures the actual ongoing revenue generated and actual expenses incurred in operating our properties as well as trends in occupancy rates, rental rates and operating costs.

However, the usefulness of NOI is limited because it excludes corporate general and administrative expenses, interest expense, loss on extinguishment of debt and modification costs, certain fees to affiliates such as advisory and administrative fees, depreciation and amortization expense and gains or losses from the sale of properties, and other gains and losses as determined under GAAP, the level of capital expenditures and leasing costs necessary to maintain the operating performance of our properties, all of which are significant economic costs. NOI may fail to capture significant trends in these components of net income, which further limits its usefulness.

NOI is a measure of the operating performance of our properties but does not measure our performance as a whole. NOI is therefore not a substitute for net income (loss) as computed in accordance with GAAP. This measure should be analyzed in conjunction with net income (loss) computed in accordance with GAAP and discussions elsewhere in “—Results of Operations” regarding the components of net income (loss) that are eliminated in the calculation of NOI. Other companies may use different methods for calculating NOI or similarly entitled measures and, accordingly, our NOI may not be comparable to similarly entitled measures reported by other companies that do not define the measure exactly as we do.

We define “Same Store NOI” as NOI for our properties that are comparable between periods. We view Same Store NOI as an important measure of the operating performance of our properties because it allows us to compare operating results of properties owned for the entirety of the current and comparable periods and therefore eliminates variations caused by acquisitions or dispositions during the periods.

NOI and Same Store NOI for the Three and Six Months Ended June 30, 2024 and 2023

The following table, which has not been adjusted for the effects of noncontrolling interests, reconciles our NOI and our Same Store NOI for the three and six months ended June 30, 2024 and 2023 to net loss, the most directly comparable GAAP financial measure (in thousands):

(1) Adjustment to net income (loss) to exclude certain property operating expenses that are casualty-related expenses/(recoveries).

(2) Adjustment to net income (loss) to exclude certain property general and administrative expenses that are not reflective of the continuing operations of the properties or are incurred on our behalf at the property for expenses such as legal, professional, centralized leasing service and franchise tax fees.

Net Operating Income for Our Q2 Same Store and Non-Same Store Properties for the Three Months Ended June 30, 2024 and 2023

There are 35 properties encompassing 12,963 units of apartment space in our same store pool for the three months ended June 30, 2024 and 2023 (our “Q2 Same Store” properties). Our Q2 Same Store properties exclude the following property in our Portfolio as of June 30, 2024: Stone Creek at Old Farm, as well as the 21 units that are currently down (see Note 3).

The following table reflects the revenues, property operating expenses and NOI for the three months ended June 30, 2024 and 2023 for our Q2 Same Store and Non-Same Store properties (dollars in thousands):

(1) For the three months ended June 30, 2024 and 2023, excludes approximately $231,000 and $360,000, respectively, of casualty-related expenses.

(2) Fees incurred to an affiliate of the noncontrolling limited partner of the OP.

(3) For the three months ended June 30, 2024 and 2023, excludes approximately $1,151,000 and $664,000, respectively, of expenses that are not reflective of the continuing operations of the properties or are incurred on our behalf at the property for expenses such as legal, professional, centralized leasing service and franchise tax fees.

(4) For the three months ended June 30, 2024 and 2023, excludes approximately $0 and $38,000, respectively, of casualty-related expenses.

(5) For the three months ended June 30, 2024 and 2023, excludes approximately $183,000 and $112,000, respectively, of expenses that are not reflective of the continuing operations of the properties or are incurred on our behalf at the property for expenses such as legal, professional, centralized leasing service and franchise tax fees.

See reconciliation of net income (loss) to NOI above under “NOI and Same Store NOI for the Three and Six Months Ended June 30, 2024 and 2023.”

Q2 Same Store Results of Operations for the Three Months Ended June 30, 2024 and 2023

As of June 30, 2024, our Q2 Same Store properties were approximately 94.1% leased with a weighted average monthly effective rent per occupied apartment unit of $1,520. As of June 30, 2023, our Q2 Same Store properties were approximately 94.1% leased with a weighted average monthly effective rent per occupied apartment unit of $1,535. For our Q2 Same Store properties, we recorded the following operating results for the three months ended June 30, 2024 as compared to the three months ended June 30, 2023:

Revenues

Rental income. Rental income was $61.6 million for the three months ended June 30, 2024 compared to $60.1 million for the three months ended June 30, 2023, which was an increase of approximately $1.5 million, or 2.6%. The increase is attributable to an increase in weighted average occupancy during the three months ended June 30, 2024 compared to the three months ended June 30, 2023.

Other income. Other income was $1.3 million for the three months ended June 30, 2024, compared to $1.5 million for the three months ended June 30, 2023, which was a decrease of $0.2 million. The majority of the decrease is related to a $0.1 million decrease in cable income.

Expenses

Property operating expenses. Property operating expenses were $13.2 million for the three months ended June 30, 2024 compared to $13.0 million for the three months ended June 30, 2023, which was an increase of $0.2 million, or 1.1%. The majority of the increase is related to repairs and maintenance and utilities increases of $0.1 million and $0.1 million, respectively.

Real estate taxes and insurance. Real estate taxes and insurance costs were $8.3 million for the three months ended June 30, 2024 compared to $8.2 million for the three months ended June 30, 2023, which is an increase of $0.1 million.

Property management fees. Property management fees were $1.8 million for the three months ended June 30, 2024 compared to $1.8 million for the three months ended June 30, 2023, which was flat.

Property general and administrative expenses. Property general and administrative expenses were $1.3 million for the three months ended June 30, 2024 compared to $1.2 million for the three months ended June 30, 2023, which was an increase of approximately $0.1 million. The increase between periods was primarily due to an increase in marketing expense.

Net Operating Income for Our Same Store and Non-Same Store Properties for the Six Months Ended June 30, 2024 and 2023

There are 35 properties encompassing 12,963 units of apartment space in our same store pool for the six months ended June 30, 2024 and 2023 (our “Same Store” properties). Our Same Store properties exclude the following property in our Portfolio as of June 30, 2024: Stone Creek at Old Farm, as well as the 21 units that are currently down (see Note 3).

The following table reflects the revenues, property operating expenses and NOI for the six months ended June 30, 2024 and 2023 for our Same Store and Non-Same Store properties (dollars in thousands):

(1) For the six months ended June 30, 2024 and 2023, excludes approximately $263,000 and $(1,495,000), respectively, of casualty-related expenses/(recoveries).

(2) Fees incurred to an unaffiliated third party that is an affiliate of the noncontrolling limited partner of the OP.

(3) For the six months ended June 30, 2024 and 2023, excludes approximately $2,064,000 and $1,301,000, respectively, of expenses that are not reflective of the continuing operations of the properties or are incurred on our behalf at the property for expenses such as legal, professional and franchise tax fees.

(4) For the six months ended June 30, 2024 and 2023, excludes approximately $3,000 and $186,000, respectively, of casualty-related expenses.

(5) For the six months ended June 30, 2024 and 2023, excludes approximately $253,000 and $257,000, respectively, of expenses that are not reflective of the continuing operations of the properties or are incurred on our behalf at the property for expenses such as legal, professional, centralized leasing service and franchise tax fees.

See reconciliation of net loss to NOI above under “NOI and Same Store NOI for the Three and Six Months Ended June 30, 2024 and 2023.”

Same Store Results of Operations for the Six Months Ended June 30, 2024 and 2023

As of June 30, 2024, our Same Store properties were approximately 94.1% leased with a weighted average monthly effective rent per occupied apartment unit of $1,520. As of June 30, 2023, our Same Store properties were approximately 94.1% leased with a weighted average monthly effective rent per occupied apartment unit of $1,535. For our Same Store properties, we recorded the following operating results for the six months ended June 30, 2024 as compared to the six months ended June 30, 2023:

Revenues

Rental income. Rental income was $123.5 million for the six months ended June 30, 2024 compared to $119.8 million for the six months ended June 30, 2023, which was an increase of approximately $3.7 million, or 3.1%.

Other income. Other income was $2.8 million for the six months ended June 30, 2024 compared to $2.9 million for the six months ended June 30, 2023, which was a decrease of approximately $0.1 million, or 3.4%. The majority of the decrease is related to a $0.1 million decrease in laundry income.

Expenses

Property operating expenses. Property operating expenses were $25.9 million for the six months ended June 30, 2024 compared to $25.6 million for the six months ended June 30, 2023, which was an increase of approximately $0.3 million, or 1.0%. The majority of the increase is related to an increase of approximately $0.2 million in repairs and maintenance.

Real estate taxes and insurance. Real estate taxes and insurance costs were $16.8 million for the six months ended June 30, 2024 compared to $16.5 million for the six months ended June 30, 2023, which was an increase of approximately $0.3 million. The majority of the increase is related to a $1.0 million, or 5.4%, increase in property tax. Additionally, insurance expense increased by $0.2 million, or 6.0%.

Property management fees. Property management fees were $3.7 million for the six months ended June 30, 2024 compared to $3.6 million for the six months ended June 30, 2023, which was an increase of approximately $0.1 million. The majority of the increase is related to a $3.7 million, or 3.1%, increase in rental income, which the fee is primarily based on.

Property general and administrative expenses. Property general and administrative expenses were $2.5 million for the six months ended June 30, 2024 compared to $2.5 million for the six months ended June 30, 2023, which was an flat.

FFO, Core FFO and AFFO

We believe that net income (loss), as defined by GAAP, is the most appropriate earnings measure. We also believe that funds from operations (“FFO”), as defined by the National Association of Real Estate Investment Trusts (“NAREIT”), core funds from operations (“Core FFO”) and adjusted funds from operations (“AFFO”) are important non-GAAP supplemental measures of operating performance for a REIT.

Since the historical cost accounting convention used for real estate assets requires depreciation except on land, such accounting presentation implies that the value of real estate assets diminishes predictably over time. However, since real estate values have historically risen or fallen with market and other conditions, presentations of operating results for a REIT that use historical cost accounting for depreciation could be less informative. Thus, NAREIT created FFO as a supplemental measure of operating performance for REITs that excludes historical cost depreciation and amortization, among other items, from net income (loss), as defined by GAAP. FFO is defined by NAREIT as net income (loss) computed in accordance with GAAP, excluding gains or losses from real estate dispositions, plus real estate depreciation and amortization. We compute FFO attributable to common stockholders in accordance with NAREIT’s definition. Our presentation differs slightly in that we begin with net income (loss) before adjusting for amounts attributable to redeemable noncontrolling interests in the OP and we show the combined amounts attributable to such noncontrolling interests as an adjustment to arrive at FFO attributable to common stockholders.

Core FFO makes certain adjustments to FFO, which are either not likely to occur on a regular basis or are otherwise not representative of the ongoing operating performance of our Portfolio. Core FFO adjusts FFO to remove items such casualty-related expenses and recoveries and gains or losses, gain (loss) on extinguishment of debt and modification costs that are not reflective of continuing operations of the properties, gain on forfeited deposits, the amortization of deferred financing costs incurred in connection with obtaining short-term debt financing, and the noncontrolling interests (as described above) related to these items. We believe Core FFO is useful to investors as a supplemental gauge of our operating performance and is useful in comparing our operating performance with other REITs that are not as involved in the aforementioned activities.

AFFO makes certain adjustments to Core FFO in order to arrive at a more refined measure of the operating performance of our Portfolio. There is no industry standard definition of AFFO and practice is divergent across the industry. AFFO adjusts Core FFO to remove items such as equity-based compensation expense and the amortization of deferred financing costs incurred in connection with obtaining long-term debt financing, and the noncontrolling interests (as described above) related to these items. We believe AFFO is useful to investors as a supplemental gauge of our operating performance and is useful in comparing our operating performance with other REITs that are not as involved in the aforementioned activities.

The effect of the conversion of OP Units held by noncontrolling limited partners is not reflected in the computation of basic and diluted FFO, Core FFO and AFFO per share, as they are exchangeable for common stock on a one-for-one basis. The FFO, Core FFO and AFFO allocable to such units is allocated on this same basis and reflected in the adjustments for noncontrolling interests in the table below. As such, the assumed conversion of these units would have no net impact on the determination of diluted FFO, Core FFO and AFFO per share. See Note 8 to our consolidated financial statements for additional information.

We believe that the use of FFO, Core FFO and AFFO, combined with the required GAAP presentations, improves the understanding of operating results of REITs among investors and makes comparisons of operating results among such companies more meaningful. While FFO, Core FFO and AFFO are relevant and widely used measures of operating performance of REITs, they do not represent cash flows from operations or net income (loss) as defined by GAAP and should not be considered as an alternative or substitute to those measures in evaluating our liquidity or operating performance. FFO, Core FFO and AFFO do not purport to be indicative of cash available to fund our future cash requirements. Further, our computation of FFO, Core FFO and AFFO may not be comparable to FFO, Core FFO and AFFO reported by other REITs that do not define FFO in accordance with the current NAREIT definition or that interpret the current NAREIT definition or define Core FFO or AFFO differently than we do.

The following table reconciles our calculations of FFO, Core FFO and AFFO to net loss, the most directly comparable GAAP financial measure, for the three and six months ended June 30, 2024 and 2023 (in thousands, except per share amounts):

(1) The Company uses actual diluted weighted average common shares outstanding when in a dilutive position for FFO, Core FFO and AFFO.

(2) Indicates coverage ratio of Net loss/FFO/Core FFO/AFFO per common share (diluted) over dividends declared per common share during the period.

The three months ended June 30, 2024 as compared to the three months ended June 30, 2023

FFO was $16.3 million for the three months ended June 30, 2024 compared to $19.8 million for the three months ended June 30, 2023, which was a decrease of approximately $3.5 million. The change in our FFO between the periods primarily relates to a decrease in total revenues of $5.3 million, partially offset by decreases in interest expense and property operating expenses of $0.8 million and $1.7 million, respectively.

Core FFO was $17.9 million for the three months ended June 30, 2024 compared to $20.4 million for the three months ended June 30, 2023, which was a decrease of approximately $2.5 million. The change in our Core FFO between the periods primarily relates to a decrease in FFO, partially offset by an increase in casualty losses of $0.7 million

AFFO was $20.9 million for the three months ended June 30, 2024 compared to $23.2 million for the three months ended June 30, 2023, which was a decrease of approximately $2.3 million. The change in our AFFO between the periods primarily relates to an decrease in Core FFO partially offset by an increase in equity-based compensation expense of $0.2 million.

The six months ended June 30, 2024 as compared to the six months ended June 30, 2023

FFO was $35.3 million for the six months ended June 30, 2024 compared to $39.1 million for the six months ended June 30, 2023, which was a decrease of approximately $3.8 million. The change in our FFO between the periods primarily relates to a decrease in total revenues of $7.0 million, offset by a decrease in interest expense of $3.1 million.

Core FFO was $37.5 million for the six months ended June 30, 2024 compared to $39.0 million for the six months ended June 30, 2023, which was a decrease of approximately $1.5 million. The change in our Core FFO between the periods primarily relates to a decrease in FFO, partially offset by increases in loss on extinguishment of debt and modification costs and casualty-related expenses of $0.9 million and $1.6 million, respectively.

AFFO was $43.5 million for the six months ended June 30, 2024 compared to $44.2 million for the six months ended June 30, 2023, which was a decrease of approximately $0.7 million. The change in our AFFO between the periods primarily relates to a decrease in Core FFO partially offset by an increase of equity-based compensation expense of $0.8 million.

Liquidity and Capital Resources

Our short-term liquidity requirements consist primarily of funds necessary to pay for debt maturities, operating expenses and other expenditures directly associated with our multifamily properties, including:

• capital expenditures to continue our value-add program and to improve the quality and performance of our multifamily properties;
• interest expense and scheduled principal payments on outstanding indebtedness (see “—Obligations and Commitments” below);
• recurring maintenance necessary to maintain our multifamily properties;
• distributions necessary to qualify for taxation as a REIT;
• acquisition of additional properties;
• advisory and administrative fees payable to our Adviser;
• general and administrative expenses;
• reimbursements to our Adviser; and
• property management fees payable to BH.

We expect to meet our short-term liquidity requirements generally through net cash provided by operations and existing cash balances and any unused capacity on the Corporate Credit Facility. As of June 30, 2024, we had approximately $4.2 million of renovation value-add reserves for our planned capital expenditures to implement our value-add program. Renovation value-add reserves are not required to be held in escrow by a third party. We may reallocate these funds, at our discretion, to pursue other investment opportunities or meet our short-term liquidity requirements.

Our long-term liquidity requirements consist primarily of funds necessary to pay for the costs of acquiring additional multifamily properties, renovations and other capital expenditures to improve our multifamily properties and scheduled debt payments and distributions. We expect to meet our long-term liquidity requirements through various sources of capital, which may include a revolving credit facility and future debt or equity issuances, existing working capital, net cash provided by operations, long-term mortgage indebtedness and other secured and unsecured borrowings, and property dispositions. However, there are a number of factors that may have a material adverse effect on our ability to access these capital sources, including the state of overall equity and credit markets, our degree of leverage, our unencumbered asset base and borrowing restrictions imposed by lenders (including as a result of any failure to comply with financial covenants in our existing and future indebtedness), general market conditions for REITs, our operating performance and liquidity, market perceptions about us and restrictions on sales of properties under the Code. The success of our business strategy will depend, in part, on our ability to access these various capital sources.

In addition to our value-add program, our multifamily properties will require periodic capital expenditures and renovation to remain competitive. Also, acquisitions, redevelopments, or expansions of our multifamily properties will require significant capital outlays. Long-term, we may not be able to fund such capital improvements solely from net cash provided by operations because we must distribute annually at least 90% of our REIT taxable income, determined without regard to the deductions for dividends paid and excluding net capital gains, to qualify and maintain our qualification as a REIT, and we are subject to tax on any retained income and gains. As a result, our ability to fund capital expenditures, acquisitions, or redevelopment through retained earnings long-term is limited. Consequently, we expect to rely heavily upon the availability of debt or equity capital for these purposes. If we are unable to obtain the necessary capital on favorable terms, or at all, our financial condition, liquidity, results of operations, and prospects could be materially and adversely affected.

On March 4, 2020, the Company, the OP and the Adviser entered into separate equity distribution agreements with each of the ATM Sales Agents, pursuant to which the Company could issue and sell from time to time when an effective registration statement was available shares of the Company’s common stock, par value $0.01 per share, having an aggregate sales price of up to $225,000,000 (the “2020 ATM Program”). The 2020 ATM Program may be terminated by the Company at any time and expires automatically once aggregate sales under the 2020 ATM Program reach $225,000,000 (see Note 6 to our consolidated financial statements).

We believe that our available cash, expected operating cash flows, and potential debt or equity financings will provide sufficient funds for our operations, anticipated scheduled debt service payments and dividend requirements for the twelve-month period following June 30, 2024.

Cash Flows

The following table presents selected data from our consolidated statements of cash flows for the six months ended June 30, 2024 and 2023 (in thousands):

Cash flows from operating activities. During the six months ended June 30, 2024, net cash provided by operating activities was $39.3 million compared to net cash provided by operating activities of $53.9 million for the six months ended June 30, 2023. The change in cash flows from operating activities was mainly due to decreases in operating liabilities and real estate taxes payable of $11.0 million and $6.4 million, respectively.

Cash flows from investing activities. During the six months ended June 30, 2024, net cash provided by investing activities was $124.5 million compared to net cash used in investing activities of $36.4 million for the six months ended June 30, 2023. The change in cash flows from investing activities was mainly due to two dispositions during the six months ended June 30, 2024 compared to no dispositions during the six months ended June 30, 2023 and a decrease in additions to real estate investments.

Cash flows from financing activities. During the six months ended June 30, 2024, net cash used in financing activities was $154.5 million compared to net cash used in financing activities of $26.4 million for the six months ended June 30, 2023. The change in cash flows from financing activities was mainly due to a net decrease in net debt of approximately $102.8 million and stock repurchases of $14.6 million.

Real Estate Investments Statistics

As of June 30, 2024, the Company was invested in a total of 36 multifamily properties, as listed below:

(1) Average effective monthly rent per unit is equal to the average of the contractual rent for commenced leases as of June 30, 2024 and December 31, 2023, respectively, minus any tenant concessions over the term of the lease, divided by the number of units under commenced leases as of June 30, 2024 and December 31, 2023, respectively.

(2) Percent occupied is calculated as the number of units occupied as of June 30, 2024 and December 31, 2023, divided by the total number of units, expressed as a percentage.

(3) Includes 21 down units due to casualty events as of June 30, 2024 (see Note 3).

(4) Property classified as held for sale as of June 30, 2024.

Debt, Derivatives and Hedging Activity

Mortgage Debt

As of June 30, 2024, our subsidiaries had aggregate mortgage debt outstanding to third parties of approximately $1.5 billion at a weighted average interest rate of 6.887% and an adjusted weighted average interest rate of 3.63%. For purposes of calculating the adjusted weighted average interest rate of our mortgage debt outstanding, we have included the weighted average fixed rate of 0.98% Adjusted SOFR on our combined $1.1 billion notional amount of interest rate swap agreements, which effectively fixes the interest rate on $1.1 billion of our floating rate debt. See Notes 4 and 5 to our consolidated financial statements for additional information.

We have entered into and expect to continue to enter into interest rate swap and cap agreements with various third parties to fix or cap the floating interest rates on a majority of our floating rate mortgage debt outstanding. The interest rate swap agreements generally have a term of four to five years and effectively establish a fixed interest rate on debt on the underlying notional amounts. The interest rate swap agreements involve the receipt of variable-rate amounts from a counterparty in exchange for us making fixed-rate payments over the life of the agreements without exchange of the underlying notional amount. As of June 30, 2024, interest rate swap agreements effectively covered 75% of our $1.4 billion of floating rate debt outstanding.

The interest rate cap agreements generally have a term of three to four years, cover the outstanding principal amount of the underlying debt and are generally required by our lenders. Under the interest rate cap agreements, we pay a fixed fee in exchange for the counterparty to pay any interest above a maximum rate. As of June 30, 2024, interest rate cap agreements covered $1.3 billion of our $1.4 billion of floating rate mortgage debt outstanding. These interest rate cap agreements effectively cap SOFR on $1.3 billion of our floating rate mortgage debt at a weighted average rate of 5.90%.

LIBOR ceased publication on June 30, 2023. On July 1, 2023, LIBOR rates were replaced with SOFR as the reference rate for most LIBOR debt and derivative instruments. For the Company's interest rate swaps, the reference transitioned from one-month LIBOR to Adjusted SOFR.

We intend to invest in additional multifamily properties as suitable opportunities arise and adequate sources of equity and debt financing are available. We expect that future investments in properties, including any improvements or renovations of current or newly acquired properties, will depend on and will be financed by, in whole or in part, our existing cash, future borrowings and the proceeds from additional issuances of common stock or other securities or property dispositions.

Although we expect to be subject to restrictions on our ability to incur indebtedness, we expect that we will be able to refinance existing indebtedness or incur additional indebtedness for acquisitions or other purposes, if needed. However, there can be no assurance that we will be able to refinance our indebtedness, incur additional indebtedness or access additional sources of capital, such as by issuing common stock or other debt or equity securities, on terms that are acceptable to us or at all.

Furthermore, following the completion of our value-add and capital expenditures programs and depending on the interest rate environment at the applicable time, we may seek to refinance our floating rate debt into longer-term fixed rate debt at lower leverage levels.

Corporate Credit Facility

On March 25, 2022, the Company entered into a loan modification agreement by and among the Company, the OP, Truist Bank and the Lenders party thereto, which modified the Company’s existing credit agreement, dated as of June 30, 2021 (as amended and supplemented, the “Corporate Credit Facility”). As of June 30, 2024, there was $350.0 million available for borrowing under the Corporate Credit Facility. Subject to conditions provided in the Corporate Credit Facility, the commitments under Corporate Credit Facility may be increased up to an additional $150.0 million if the lenders agree to increase their commitments or if the lenders agree for the increase to be funded by any additional lender proposed by the Company, through the OP. The Corporate Credit Facility will mature on June 30, 2025 with respect to the revolving commitments, unless the Company exercises its option to voluntarily and permanently reduce all of the revolving commitments before the maturity date or elects to exercise its right and option to extend the facility with respect to the revolving commitments for a single one-year term. As of June 30, 2024, there was $0.0 million in aggregate principal outstanding under the Corporate Credit Facility.

The Corporate Credit Facility is a non-recourse obligation and contains customary events of default, including defaults in the payment of principal or interest, defaults in compliance with the covenants contained in the document evidencing the loan, defaults in payments under any other security instrument, and bankruptcy or other insolvency events. As of June 30, 2024, the Company believes it is compliant with all provisions. For additional information regarding our Corporate Credit Facility, see Note 4.

Interest Rate Swap Agreements

In order to fix a portion of, and mitigate the risk associated with, our floating rate indebtedness (without incurring substantial prepayment penalties or defeasance costs typically associated with fixed rate indebtedness when repaid early or refinanced), we, through the OP, have entered into six interest rate swap transactions with KeyBank and four with SunTrust Bank (collectively the “Counterparties”) with a combined notional amount of $1.1 billion. As of June 30, 2024, the interest rate swaps we have entered into effectively replace the floating interest rate (SOFR) with respect to $1.1 billion of our floating rate debt outstanding with a weighted average fixed rate of 0.98%. During the term of these interest rate swap agreements, we are required to make monthly fixed rate payments of 0.98%, on a weighted average basis, on the notional amounts, while the Counterparties are obligated to make monthly floating rate payments based on Adjusted SOFR to us referencing the same notional amounts. For purposes of hedge accounting under FASB ASC 815, Derivatives and Hedging, we have designated these interest rate swaps as cash flow hedges of interest rate risk. See Notes 4 and 5 to our consolidated financial statements for additional information.

The following table contains summary information regarding our outstanding interest rate swaps (dollars in thousands):

(1) The floating rate option for the interest rate swaps is Adjusted SOFR. As of June 30, 2024, Adjusted SOFR was 5.45%.

(2) Represents the weighted average fixed rate of the interest rate swaps.

Obligations and Commitments

The following table summarizes our contractual obligations and commitments as of June 30, 2024 for the next five calendar years subsequent to June 30, 2024. We used Adjusted SOFR as of June 30, 2024 to calculate interest expense due by period on our floating rate debt and net interest expense due by period on our interest rate swaps.

(1) Interest expense obligations includes the impact of expected settlements on interest rate swaps which have been entered into in order to fix the interest rate on the hedged portion of our floating rate debt obligations. As of June 30, 2024, we had entered into eight interest rate swap transactions with a combined notional amount of $1.1 billion. We have allocated the total impact of expected settlements on the $1.1 billion notional amount of interest rate swaps to ‘Operating Properties Mortgage Debt.’ We used Adjusted SOFR as of June 30, 2024 to determine our expected settlements through the terms of the interest rate swaps.

Corporate Credit Facility

The Corporate Credit Facility will mature on June 30, 2025 with respect to the revolving commitments, unless the Company exercises its option to voluntarily and permanently reduce all of the revolving commitments before the maturity date.

Advisory Agreement

Our Advisory Agreement requires that we pay our Adviser an annual advisory and administrative fee of 1.2%. The advisory and administrative fees paid to the Adviser on the Contributed Assets (as defined in the Advisory Agreement) are subject to an annual cap of approximately $5.4 million. For the three months ended June 30, 2024 and 2023, the Company incurred advisory and administrative fees of $1.7 million and $1.9 million, respectively. For the six months ended June 30, 2024 and 2023, advisory and administrative fees were $3.5 million and $3.8 million, respectively.

NLMF Holdco, LLC

The Company’s agreement with NLMF Holdco, LLC may result in additional funding requirements to cover future project costs. The maximum exposure of potential commitments is expected to be no more than $4.0 million. We expect that these actions will provide faster, more reliable and lower cost internet to our residents. We expect to roll out this service to our other properties in the future.

Capital Expenditures and Value-Add Program

We anticipate incurring average annual repairs and maintenance expense of $575 to $725 per apartment unit in connection with the ongoing operations of our business. These expenditures are expensed as incurred. In addition, we reserve, on average, approximately $250 to $350 per apartment unit for non-recurring capital expenditures and/or lender required replacement reserves. When incurred, these expenditures are either capitalized or expensed, in accordance with GAAP, depending on the type of the expenditure. Although we will continuously monitor the adequacy of this average, we believe these figures to be sufficient to maintain the properties at a high level in the markets in which we operate. A majority of the properties in our Portfolio were underwritten and acquired with the premise that we would invest $4,000 to $10,000 per unit in the first 36 months of ownership, in an effort to add value to the asset’s exterior and interiors. In many cases, we reserve cash at the closing of each acquisition to fund these planned capital expenditures and value-add improvements. As of June 30, 2024, we had approximately $4.2 million of renovation value-add reserves for our planned capital expenditures and other expenses to implement our value-add program, which will provide further funding for our interior and exterior rehab initiatives at several properties. The following table sets forth a summary of our capital expenditures related to our value-add program for the three and six months ended June 30, 2024 and 2023 (in thousands):

(1) Includes total capital expenditures during the period on completed and in-progress interior rehabs. For the six months ended June 30, 2024 and 2023, we completed full and partial interior rehabs on 240 and 1,357 units, respectively.

Income Taxes

We anticipate that we will continue to qualify to be taxed as a REIT for U.S. federal income tax purposes, and we intend to continue to be organized and to operate in a manner that will permit us to qualify as a REIT. To qualify as a REIT, we must meet certain organizational and operational requirements, including a requirement to distribute at least 90% of our annual REIT taxable income to stockholders. As a REIT, we will be subject to federal income tax on our undistributed REIT taxable income and net capital gain and to a 4% nondeductible excise tax on any amount by which distributions we pay with respect to any calendar year are less than the sum of (1) 85% of our ordinary income, (2) 95% of our capital gain net income and (3) 100% of our undistributed income from prior years. Taxable income from certain non-REIT activities is managed through a TRS and is subject to applicable federal, state, and local income and margin taxes. We had no significant taxes associated with our TRS for the six months ended June 30, 2024 and 2023.

If we fail to qualify as a REIT in any taxable year, we will be subject to U.S. federal income tax on our taxable income at regular corporate income tax rates, and dividends paid to our stockholders would not be deductible by us in computing taxable income. Any resulting corporate liability could be substantial and could materially and adversely affect our net income and net cash available for distribution to stockholders. Unless we were entitled to relief under certain Code provisions, we also would be disqualified from re-electing to be taxed as a REIT for the four taxable years following the year in which we failed to qualify to be taxed as a REIT.

We evaluate the accounting and disclosure of tax positions taken or expected to be taken in the course of preparing our tax returns to determine whether the tax positions are “more-likely-than-not” (greater than 50 percent probability) of being sustained by the applicable tax authority. Tax positions not deemed to meet the more-likely-than-not threshold would be recorded as a tax benefit or expense in the current year. Our management is required to analyze all open tax years, as defined by the statute of limitations, for all major jurisdictions, which include federal and certain states. We have no examinations in progress and none are expected at this time.

We recognize our tax positions and evaluate them using a two-step process. First, we determine whether a tax position is more likely than not to be sustained upon examination, including resolution of any related appeals or litigation processes, based on the technical merits of the position. Second, we will determine the amount of benefit to recognize and record the amount that is more likely than not to be realized upon ultimate settlement.

We had no material unrecognized tax benefit or expense, accrued interest or penalties as of June 30, 2024. We and our subsidiaries are subject to federal income tax as well as income tax of various state and local jurisdictions. The 2023, 2022 and 2021 tax years remain open to examination by tax jurisdictions to which our subsidiaries and we are subject. When applicable, we recognize interest and/or penalties related to uncertain tax positions on our consolidated statements of operations and comprehensive income (loss).

Dividends

We intend to make regular quarterly dividend payments to holders of our common stock. U.S. federal income tax law generally requires that a REIT distribute annually at least 90% of its REIT taxable income, without regard to the deduction for dividends paid and excluding net capital gains. As a REIT, we will be subject to federal income tax on our undistributed REIT taxable income and net capital gain and to a 4% nondeductible excise tax on any amount by which distributions we pay with respect to any calendar year are less than the sum of (1) 85% of our ordinary income, (2) 95% of our capital gain net income and (3) 100% of our undistributed income from prior years. We intend to make regular quarterly dividend payments of all or substantially all of our taxable income to holders of our common stock out of assets legally available for this purpose, if and to the extent authorized by our Board. Before we make any dividend payments, whether for U.S. federal income tax purposes or otherwise, we must first meet both our operating requirements and debt service on our debt payable. If our cash available for distribution is less than our taxable income, we could be required to sell assets, borrow funds or raise additional capital to make cash dividends or we may make a portion of the required dividend in the form of a taxable distribution of stock or debt securities.

We will make dividend payments based on our estimate of taxable earnings per share of common stock, but not earnings calculated pursuant to GAAP. Our dividends and taxable income and GAAP earnings will typically differ due to items such as depreciation and amortization, fair value adjustments, differences in premium amortization and discount accretion, and non-deductible general and administrative expenses. Our quarterly dividends per share may be substantially different than our quarterly taxable earnings and GAAP earnings per share. Our Board declared our second quarterly dividend of 2024 of $0.46242 per share on April 29, 2024 which was paid on June 28, 2024 and funded out of cash flows from operations.

Off-Balance Sheet Arrangements

As of June 30, 2024 and December 31, 2023, we had no off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.

Critical Accounting Policies and Estimates

Management’s discussion and analysis of financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with GAAP. The preparation of these financial statements requires our management to make judgments, assumptions and estimates that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. We evaluate these judgments, assumptions and estimates for changes that would affect the reported amounts. These estimates are based on management’s historical industry experience and on various other judgments and assumptions that are believed to be reasonable under the circumstances. Actual results may differ from these judgments, assumptions and estimates. Below is a discussion of the accounting policies that we consider critical to understanding our financial condition or results of operations where there is uncertainty or where significant judgment is required. A discussion of recent accounting pronouncements and our significant accounting policies, including further discussion of the accounting policies described below, can be found in Note 2 “Summary of Significant Accounting Policies” to our consolidated financial statements included in this quarterly report.

Purchase Price Allocation

Upon acquisition of a property considered to be an asset acquisition, the purchase price and related acquisition costs (“total consideration”) are allocated to land, buildings, improvements, furniture, fixtures, and equipment, and intangible lease assets based on relative fair value in accordance with FASB ASC 805, Business Combinations. Acquisition costs are capitalized in accordance with FASB ASC 805.

The allocation of total consideration, which is determined using inputs that are classified within Level 3 of the fair value hierarchy established by FASB ASC 820, Fair Value Measurement and Disclosures (see Note 5 to our consolidated financial statements), is based on management’s estimate of the property’s “as-if” vacant fair value and is calculated by using all available information such as the replacement cost of such asset, appraisals, property condition reports, market data and other related information. If any debt is assumed in an acquisition, the difference between the fair value, which is estimated using inputs that are classified within Level 2 of the fair value hierarchy, and the face value of debt is recorded as a premium or discount and amortized as interest expense over the life of the debt assumed.

Impairment

Real estate assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. The key inputs into our impairment analysis include, but are not limited to, the holding period, net operating income, and capitalization rates. In such cases, we will evaluate the recoverability of such real estate assets based on estimated future cash flows and the estimated liquidation value of such real estate assets, and provide for impairment if such undiscounted cash flows are insufficient to recover the carrying amount of the real estate asset. If impaired, the real estate asset will be written down to its estimated fair value. The Company’s impairment analysis identifies and evaluates events or changes in circumstances that indicate the carrying amount of a real estate investment may not be recoverable, including determining the period the Company will hold the rental property, net operating income, and the estimated capitalization rate for each respective real estate investment.

Inflation

The real estate market has not been directly affected by inflation in the past several years due to increases in rents nationwide. The majority of our lease terms are for a period of one year or less and reset to market if renewed. The majority of our leases also contain protection provisions applicable to reimbursement billings for utilities. Due to the short-term nature of our leases, we do not believe our results will be materially affected.

Inflation may also affect the overall cost of debt, as the implied cost of capital increases. The Federal Reserve has raised interest rates in response to or in anticipation of continued inflation concerns. We intend to mitigate these risks through long-term fixed interest rate loans and interest rate hedges, which to date have included interest rate cap and interest rate swap agreements.

REIT Tax Election

We have elected to be taxed as a REIT under Sections 856 through 860 of the Code and expect to continue to qualify as a REIT. To qualify as a REIT, we must meet a number of organizational and operational requirements, including a requirement that we distribute at least 90% of our “REIT taxable income,” as defined by the Code, to our stockholders. Taxable income from certain non-REIT activities is managed through a TRS and is subject to applicable federal, state, and local income and margin taxes. We had no significant taxes associated with our TRS for the six months ended June 30, 2024 and 2023. We believe we qualify for taxation as a REIT under the Code, and we intend to continue to operate in such a manner, but no assurance can be given that we will operate in a manner so as to qualify as a REIT.

Market risk is the adverse effect on the value of assets and liabilities that results from a change in market conditions. Our primary market risk exposure is interest rate risk with respect to our indebtedness and counterparty credit risk with respect to our interest rate derivatives. In order to minimize counterparty credit risk, we enter into and expect to enter into hedging arrangements only with major financial institutions that have high credit ratings. As of June 30, 2024, we had total indebtedness of $1.5 billion at a weighted average interest rate of 6.89%, of which $1.4 billion was debt with a floating interest rate. As of June 30, 2024, interest rate swap agreements effectively covered 75% of our $1.4 billion of floating rate debt outstanding. For purposes of calculating the adjusted weighted average interest rate of the total indebtedness, we have included the weighted average fixed rate of 0.98% for Adjusted SOFR on the $1.1 billion notional amount of interest rate swap agreements that we have entered into as of June 30, 2024, which effectively fix the interest rate on $1.4 billion of our floating rate mortgage debt outstanding.

An increase in interest rates could make the financing of any acquisition by us more costly. Rising or high interest rates could also limit our ability to refinance our debt when it matures or cause us to pay higher interest rates upon refinancing and increase interest expense on refinanced indebtedness. We may manage, or hedge, interest rate risks related to our borrowings by means of interest rate cap and interest rate swap agreements. As of June 30, 2024, the interest rate cap agreements we have entered into effectively cap SOFR on $1.3 billion of our floating rate mortgage debt at a weighted average rate of 5.90% for the term of the agreements, which is generally three to four years. We also expect to manage our exposure to interest rate risk by maintaining a mix of fixed and floating rates for our indebtedness.

In order to fix a portion of, and mitigate the risk associated with, our floating rate indebtedness (without incurring substantial prepayment penalties or defeasance costs typically associated with fixed rate indebtedness when repaid early or refinanced), we, through the OP, have entered into ten interest rate swap transactions with the Counterparties with a combined notional amount of $1.1 billion. The interest rate swaps we have entered into effectively replace the floating interest rate (SOFR) with respect to that amount with a weighted average fixed rate of 0.98%. During the term of these interest rate swap agreements, we are required to make monthly fixed rate payments of 0.98%, on a weighted average basis, on the notional amounts, while the Counterparties are obligated to make monthly floating rate payments based on Adjusted SOFR to us referencing the same notional amounts. We have designated these interest rate swaps as cash flow hedges of interest rate risk.

Until our interest rates reach the caps provided by our interest rate cap agreements, each quarter point change in SOFR would result in an approximate increase to annual interest expense costs on our floating rate indebtedness, reduced by any payments due from the Counterparties under the terms of the interest rate swap agreements we had entered into as of June 30, 2024, of the amounts illustrated in the table below for our indebtedness as of June 30, 2024 (dollars in thousands):

There is no assurance that we would realize such expense as such changes in interest rates could alter our liability positions or strategies in response to such changes.

We may also be exposed to credit risk in the derivative financial instruments we use. Credit risk is the failure of the Counterparties to perform under the terms of the derivative financial instruments. If the fair value of a derivative financial instrument is positive, the Counterparties will owe us, which creates credit risk for us. If the fair value of a derivative financial instrument is negative, we will owe the Counterparties and, therefore, do not have credit risk. We seek to minimize the credit risk in derivative financial instruments by entering into transactions with major financial institutions that have high credit ratings.

LIBOR ceased publication on June 30, 2023. The Company held debt and derivatives that used LIBOR as the reference rate as of June 30, 2023. On July 1, 2023, LIBOR rates were replaced with Adjusted SOFR as the reference rate for the remaining LIBOR debt and derivative instruments.

Evaluation of Disclosure Controls and Procedures

As required by Rule 13a-15(b) and Rule 15d-15(b) under the Exchange Act, our management, including our President and Chief Financial Officer, evaluated, as of June 30, 2024, the effectiveness of our disclosure controls and procedures as defined in Exchange Act Rule 13a-15(e) and Rule 15d-15(e). Based on that evaluation, our President and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of June 30, 2024, to provide reasonable assurance that information required to be disclosed by us in reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified by the rules and forms of the Exchange Act and is accumulated and communicated to management, including the President and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosures.

We believe, however, that a controls system, no matter how well designed and operated, cannot provide absolute assurance that the objectives of the controls systems are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud or error, if any, within a company have been detected.

Changes in Internal Control over Financial Reporting

There has been no change in internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the quarter ended June 30, 2024 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

There have been no material changes to the risk factors previously disclosed under Part I, Item 1A, “Risk Factors” in our Annual Report, filed with the SEC on February 27, 2024.