Inland Real Estate Income Trust, Inc.: Form 10-Q for the period ended Jun 30, 2024

Certain statements in this Quarterly Report on Form 10-Q constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Words such as “may,” “could,” “should,” “expect,” “intend,” “plan,” “goal,” “seek,” “anticipate,” “believe,” “estimate,” “predict,” “variables,” “potential,” “continue,” “expand,” “maintain,” “create,” “strategies,” “likely,” “will,” “would” and variations of these terms and similar expressions, or the negative of these terms or similar expressions, are intended to identify forward-looking statements.

These forward-looking statements are not historical facts but reflect the intent, belief or current expectations of the management of Inland Real Estate Income Trust, Inc. (which we refer to herein as the “Company,” “we,” “our” or “us”) based on their knowledge and understanding of the business and industry, the economy and other future conditions. These statements are not guarantees of future performance, and we caution stockholders not to place undue reliance on forward-looking statements. Actual results may differ materially from those expressed or forecasted in the forward-looking statements due to a variety of risks, uncertainties and other factors, including but not limited to the factors listed and described under “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2023, as filed with the Securities and Exchange Commission on March 13, 2024, some of which are summarized below:

• Our strategic plan, which is discussed further below, may continue to evolve or change over time, and there is no assurance we will be able to successfully achieve our board’s objectives under the strategic plan as it exists at any given time, including making strategic sales or purchases of properties, redeveloping properties or completing a liquidity event, within any timeframe we might expect or would prefer or at all;
• The use of the internet by consumers to shop continues to expand which could result in a further downturn in the businesses of certain of our current tenants in their “brick and mortar” locations and could affect their ability to pay rent and their demand for space at our retail properties;
• We may pursue redevelopment activities, which are subject to a number of risks, including, but not limited to: expending resources to determine the feasibility of the project or projects that are then not pursued or completed; construction delays or cost overruns; failure to meet anticipated occupancy or rent levels within the projected time frame, if at all; exposure to fluctuations in the general economy due to the significant time lag between commencing and completing the project; and reduced rental income during the period of time we are redeveloping an asset or assets;
• Our Business Manager and its affiliates face conflicts of interest caused by, among other things, their compensation arrangements with us, and the simultaneous overlapping leadership roles certain of our executive officers have at the Business Manager and its affiliates, which could result in actions that are not in the long-term best interests of our stockholders;
• Market disruptions resulting from any future disruptions from a global pandemic, the war in Ukraine and the Israeli-Hamas war, high inflation, increases in interest rates, banking crises, supply chain shortages that affect our tenants or other disruptions caused by events beyond our control may adversely impact our results and financial condition, including our ability to service our debt obligations, borrow additional monies or pay distributions;
• We have incurred net losses on a GAAP basis for the three and six months ended June 30, 2024 and 2023, and for the year ended December 31, 2023, and future net losses could have a material adverse impact on our financial condition, operations, cash flow, and our ability to service our indebtedness or pay distributions to our stockholders;
• Our Sponsor may face a conflict of interest in allocating personnel and resources between its affiliates, our Business Manager and our Real Estate Manager;
• We do not have arm’s-length agreements with our Business Manager, our Real Estate Manager or any other affiliates of our Sponsor;
• We pay fees, which may be significant, to our Business Manager, Real Estate Manager and other affiliates of our Sponsor;
• Our properties may compete with the properties owned by other programs sponsored by our Sponsor or Inland Private Capital Corporation for, among other things, tenants;
• Our Business Manager is under no obligation, and may not agree, to forgo or defer its business management fee; and
• If we fail to continue to qualify as a REIT, our operations and distributions to stockholders, if any, will be adversely affected.

Forward-looking statements in this Quarterly Report on Form 10-Q reflect our management’s view only as of the date of this Quarterly Report, and may ultimately prove to be incorrect or false. We undertake no obligation to update or revise forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events or changes to future operating results except as required by applicable law. We intend for these forward-looking statements to be covered by the applicable safe harbor provisions created by Section 27A of the Securities Act and Section 21E of the Exchange Act.

The following discussion and analysis relates to the three and six months ended June 30, 2024 and 2023 and as of June 30, 2024 and December 31, 2023. Our stockholders should read the following discussion and analysis along with our consolidated financial statements and the related notes included in this Quarterly Report on Form 10-Q.

We routinely post important information about us and our business, including financial and other information for investors, on our website. We encourage investors to visit our website at inland-investments.com/inland-income-trust from time to time, as information is updated and new information is posted.

Overview

We were formed as a Maryland corporation on August 24, 2011 and elected to be taxed as a real estate investment trust for U.S. federal income tax purposes (“REIT”) under Sections 856 through 860 of the Internal Revenue Code of 1986, as amended, commencing with the year ended December 31, 2013. We have no employees. We are managed by our business manager, IREIT Business Manager & Advisor, Inc., referred to herein as our “Business Manager.” We have also entered into an agreement with Mark Zalatoris (the “CEO Agreement”) to, among other things, compensate him for performing services as our president and chief executive officer. In connection with entering into the CEO Agreement, we entered into the Fourth Amended and Restated Business Management Agreement, dated January 19, 2024 (“Fourth Business Management Agreement”) with the Business Manager to, among other things, reduce the business management fee payable to the Business Manager by the amount of any payments made to Mr. Zalatoris under the CEO Agreement. Mr. Zalatoris is not an employee of the Company and is not an officer or director of the Business Manager but has the authority under the CEO Agreement and the Fourth Business Management Agreement to direct the day-to day operations of the Business Manager.

We are primarily focused on acquiring and owning retail properties and intend to target a portfolio substantially all of which would be comprised of grocery-anchored properties as described below. We have invested in joint ventures and, to the extent we have available capital, may invest again in additional joint ventures or acquire other real estate assets such as office and medical office buildings, multi-family properties and industrial/distribution and warehouse facilities if management believes the expected returns from those investments exceed that of retail properties. We also may invest in real estate-related equity securities of both publicly traded and private real estate companies, as well as commercial mortgage-backed securities. There were no acquisitions or dispositions in the three and six months ended June 30, 2024.

On March 4, 2024, our board of directors determined an estimated per share net asset value of our common stock of $19.17 as of December 31, 2023, compared to the previous estimated value of $19.86 as of December 31, 2022. As of June 30, 2024, we had total assets of $1.3 billion on our balance sheet and owned 52 properties located in 24 states containing 7.2 million square feet. A majority of our properties are multi-tenant, necessity-based retail shopping centers primarily located in major regional markets and growing secondary markets throughout the United States. As of June 30, 2024, grocery-anchored or grocery shadow-anchored shopping center properties represented 87% of our annualized base rent. A grocery shadow-anchored shopping center is a shopping center which we own that is located near a grocery store that we do not own but that we believe generates traffic for the shopping center. As of June 30, 2024, the portfolio properties have an economic occupancy of 92.8% and staggered lease maturity dates. Grocery tenants accounted for 17% of our annualized base rent (“ABR”) as of June 30, 2024.

Inflation and Interest Rates

Inflationary pressures and high interest rates could result in reductions in consumer spending and retailer profitability that impacts our ability to grow rents and tenant demand for new and existing store locations. Regardless of high inflation levels, base rent under most of our long-term anchor leases will remain constant (subject to tenants’ exercise of renewal options at pre-negotiated rent increases) until the expiration of their lease terms. While many of these leases require tenants to pay their share of shopping center operating expenses (including common area maintenance, real estate tax and insurance expenses), our ability to collect the expense increases passed through to tenants is dependent on their ability to absorb and pay these increases. Inflation may also impact other aspects of our operating costs, including fees paid to service providers, the cost to complete redevelopments and build-outs of recently leased vacancies and interest rate costs relating to variable rate loans and refinancing of lower fixed-rate indebtedness. While we have not been significantly impacted by any of these items to date, no assurances can be provided that these inflationary pressures will not have a material adverse effect on our business in the future.

Company Update – Strategic Plan

We have a strategic plan that includes the goals of providing a future liquidity event to investors and creating long-term stockholder value. The strategic plan centers around owning a portfolio of grocery-anchored properties with lower exposure to big box retailers. As part of this strategy, our management team continually evaluates possibilities for the opportunistic sale of certain assets with the goal of redeploying capital into the acquisition of strategically located grocery-anchored centers. We are not actively marketing any properties for sale as of the date of this Quarterly Report on Form 10-Q. We believe increasing our size and profitability would enhance our ability to complete a successful liquidity event. Although we are not actively pursuing any new acquisitions as of the date of this Quarterly Report on Form 10-Q, we may seek and evaluate potential acquisitions and, if we have the requisite capital and financing available to us, opportunistically acquire retail properties that we believe complement our existing portfolio in terms of relevant characteristics such as tenant mix, demographics and geography and are consistent with our plan to try to own a portfolio substantially all of which is comprised of grocery-anchored or shadow-anchored properties. We have considered and may in the future consider other transactions, such as redeveloping certain of our properties or portions of certain of our properties, for example, big-box spaces, to repurpose them for alternative uses. The board has considered and will continue to consider liquidity events, such as listing our common stock on a national securities exchange or merging or selling our portfolio. There is no assurance if or when we will complete such liquidity event. Our consideration of a liquidity event is influenced by our intention to opportunistically grow the portfolio and execute strategic sales and acquisitions. Likewise, we are continually impacted by (i) evolving retail market conditions and other complex factors such as (ii) competition for our tenants from evolving internet businesses, (iii) the state of the commercial real estate market and financial markets, (iv) our ability to raise capital or borrow on terms that are acceptable to us in light of the use of the proceeds and (v) changes in general economic conditions such as high interest rates, among other factors. The timing of the completion of the strategic plan has already extended beyond our original expectations and cannot be predicted with certainty. There is no assurance that we will be able to successfully implement our strategic plan, for example by listing our common stock or merging or selling our portfolio, within the timeframe we would prefer or at all.

SELECT PROPERTY INFORMATION (All dollar amounts in thousands, except per square foot amounts)

Investment Properties

(a) Weighted average remaining lease term is based on a weighting by ABR as of June 30, 2024.

The table below presents information for each of our investment properties as of June 30, 2024.

(a) Property is included in the pool of unencumbered properties under our Credit Facility.

(b) Portfolio total is equal to the weighted average interest rate.

Tenancy Highlights

The following table presents information regarding the top ten tenants in our portfolio based on annualized base rent for leases in-place as of June 30, 2024.

The following table sets forth a summary of our tenant diversity for our entire portfolio and is based on leases in-place as of June 30, 2024.

The following table sets forth a summary, as of June 30, 2024, of the percent of total annualized base rent and the weighted average lease expiration by size of tenant.

23

With respect to our locations affected by the Bed Bath and Beyond bankruptcy, we have executed a lease for three out of our four locations that closed and are in active lease negotiations with a national tenant to re-lease the last remaining space.

With respect to our locations affected by the Rite Aid bankruptcy, one of our two locations has closed and that lease was rejected. We are in possession of this space and are currently in active lease negotiations with a national tenant to re-lease this space. Our other location is still open and operating and was not included on the most recent closing list announcement.

Lease Expirations

The following table sets forth a summary, as of June 30, 2024, of lease expirations scheduled to occur during the remainder of 2024 and each of the calendar years from 2025 to 2033 and thereafter, assuming no exercise of renewal options or early termination rights for leases commenced on or prior to June 30, 2024. Annualized base rent represents the rent in-place of the applicable property as of June 30, 2024. The table below includes ground leases. If ground leases are excluded, annualized base rent would equal $102,213 or $19.65 per square foot for total expiring leases.

Refer to “Part I. Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations – Leasing Activity” for details regarding the leasing activity during the six months ended June 30, 2024.

Liquidity and Capital Resources

General

Our primary uses and sources of cash are as follows:

*We cannot provide any assurance that we will be able to sell properties or issue new securities to raise capital when we would like, for example, to increase the proportion of grocery-anchored or shadow-anchored properties or increase the size of our portfolio of properties, or under terms that would be acceptable to us considering factors such as the anticipated use of the proceeds. Because our common stock is not listed on a national securities exchange, our ability to access the public or private market, particularly for equity capital, is limited.

As of June 30, 2024, we had $130 million outstanding under the Revolving Credit Facility and $575 million outstanding under the Term Loan. As of June 30, 2024, the interest rates on the Revolving Credit Facility and the Term Loan were 7.34% and 4.39%, respectively. As of June 30, 2023, the interest rates on the Revolving Credit Facility and the Term Loan were 7.17% and 4.38%, respectively. The Revolving Credit Facility matures on February 3, 2026 subject to a twelve month extension, at the Company’s option. The Term Loan matures on February 3, 2027. As of August 13, 2024, we had $70 million available for borrowing under the Revolving Credit Facility, subject to the terms and conditions, including compliance with the covenants which could further limit the amount available, of the Credit Agreement that governs the Credit Facility. Although $70 million is the maximum available, covenant limitations affect what we can actually draw, and we expect to have substantially less than $70 million actually available to draw or otherwise undertake as additional debt. By “additional debt,” we mean debt in addition to existing debt such as existing mortgages. The properties comprising the borrowing base for the Credit Facility are not available to be used as collateral for other debt unless removed from the borrowing base, which would shrink availability under the Credit Facility.

As of June 30, 2024, we had total debt outstanding of $843 million, excluding unamortized debt issuance costs, which bore interest at a weighted average interest rate of 4.78% per annum. As of June 30, 2024, the weighted average years to maturity for our debt was 2.3 years. As of both June 30, 2024 and December 31, 2023, our borrowings were 52% of the purchase price of our investment properties. As of June 30, 2024, our cash and cash equivalents balance was $10.7 million.

As of August 13, 2024, in the next twelve months, we do not have any mortgage loans maturing.

During the six months ended June 30, 2024, we repurchased an aggregate of $3.4 million of shares of common stock.

During the six months ended June 30, 2024, we invested $7.1 million on capital expenditures and tenant improvements, which is approximately $3.5 million more than we did in the six months ended June 30, 2023. We expect to materially increase spending on tenant improvements in connection with new or renewed leases and capital expenditures in 2024 compared to 2023 but do not anticipate a material effect on our liquidity from this increase, assuming the businesses of our tenants, including those that were negatively affected by the COVID-19 pandemic, remain steady or improve or they otherwise continue to pay their rent and fulfill their lease obligations.

As of June 30, 2024, we have paid all interest and principal amounts when due, and were in compliance with all financial covenants under the Credit Facility as amended.

During the six months ended June 30, 2024, distributions reinvested through the DRP were approximately $3.4 million. The SRP is funded by the proceeds from the DRP.

Cash Flow Analysis

(Dollar amounts in thousands)

Operating activities

The increase in cash from operating activities during the six months ended June 30, 2024 compared to the six months ended June 30, 2023 was primarily due to a decrease in cash paid for interest due to lower average debt outstanding and a decrease in business management fees in 2024 resulting from a change in the fee that became effective April 1, 2023 as well as the amendment entered into in connection with the CEO Agreement with Mr. Zalatoris.

Investing activities

(Dollar amounts in thousands)

The increase in cash used in investing activities during the six months ended June 30, 2024 compared to the six months ended June 30, 2023 was primarily due to an increase in capital expenditures.

Financing activities

(Dollar amounts in thousands)

During the six months ended June 30, 2024, changes in total debt decreased $1.3 million from the six months ended June 30, 2023 primarily due to lower amounts of draws and repayments on the Credit Facility and mortgages payable in 2024 compared to 2023. During the six months ended June 30, 2024, we generated proceeds from the sale of shares pursuant to the DRP of $3.4 million. For the six months ended June 30, 2024, share repurchases were $3.4 million. During the six months ended June 30, 2024, we paid $9.8 million in distributions.

Distributions

Distributions when declared are paid quarterly in arrears. A summary of the distributions declared, distributions paid and cash flows provided by operations for the six months ended June 30, 2024 and 2023 follows (dollar amounts in thousands except per share amounts):

(1) Distributions were funded by cash flows from operating activities during the six months ended June 30, 2024 and 2023.

Share Repurchases

Refer to “Part II. Item 2. Unregistered Sales of Equity Securities, Use of Proceeds and Issuer Repurchases of Securities – Share Repurchase Program” for details regarding our SRP. The SRP is funded by the proceeds from the DRP.

Results of Operations

This section describes and compares our results of operations for the three and six months ended June 30, 2024 and 2023. Dollar amounts are stated in thousands.

We generate primarily all of our net operating income from property operations. All 52 investment properties we currently own were held for the entirety of both the three and six months ended June 30, 2024 and 2023.

Net operating income is a supplemental non-GAAP performance measure that we believe is useful to investors in measuring the operating performance of our property portfolio because our primary business is the ownership of real estate, and net operating income excludes various items included in GAAP net income that do not relate to, or are not indicative of, our property operating performance, such as depreciation and amortization and parent-level corporate expenses (including general and administrative expenses).

The following tables present the property net operating income prior to straight-line income (expense), net, amortization of intangibles, interest, and depreciation and amortization for the three and six months ended June 30, 2024 and 2023, along with a reconciliation to net loss, calculated in accordance with GAAP.

Comparison of the three months ended June 30, 2024 and 2023

(Dollar amounts in thousands)

Net loss. Net loss was $3,203 and $2,313 for the three months ended June 30, 2024 and 2023, respectively.

Total property net operating income. During the three months ended June 30, 2024, property net operating income increased $379, total property income increased $1,141, and total property operating expenses including real estate tax expense increased $762.

The increase in total property income is primarily due to an increase in base rent in new leases and step-up rent on existing leases and an increase in percentage rent. The increase in property operating expenses is primarily due to an increase in insurance premiums and repairs and maintenance costs in 2024. The increase in real estate tax expense is due to an increase in estimates for 2024 taxes.

Straight-line income (expense), net. Straight-line income (expense), net increased $151 in 2024 compared to 2023. The increase is primarily due to lower straight-line write-offs in 2024 compared to 2023.

Amortization of intangibles and lease incentives. Income from the amortization of intangibles and lease incentives decreased $2,357 in 2024 compared to 2023. The decrease is primarily due to fully amortized intangibles and fewer write-offs for early terminations.

General and administrative expenses. General and administrative expenses increased $203 in 2024 compared to 2023. The increase is primarily due to the amount paid to Mr. Zalatoris under the CEO Agreement and an increase in professional fees.

Business management fee. Business management fees decreased $69 in 2024 compared to 2023. The decrease is primarily due to the amount we pay Mr. Zalatoris under the CEO Agreement, which reduces our payment under the Business Management Agreement on a dollar-for-dollar basis. During the three months ended June 30, 2024, total costs incurred under the CEO Agreement were $88, which are included in general and administrative expenses.

Depreciation and amortization. Depreciation and amortization decreased $634 in 2024 compared to 2023. The decrease is primarily due to a larger amount of fully amortized assets in 2024 compared to 2023.

Interest expense. Interest expense decreased $420 in 2024 compared to 2023. The decrease is primarily due to lower average debt outstanding and a decrease in interest rate swap amortization.

Interest and other income. Interest and other income increased $17 in 2024 compared to 2023.

Comparison of the six months ended June 30, 2024 and 2023

Net loss. Net loss was $6,541 and $7,564 for the six months ended June 30, 2024 and 2023, respectively.

Total property net operating income. During the six months ended June 30, 2024, property net operating income increased $1,227, total property income increased $1,871, and total property operating expenses including real estate tax expense increased $644.

The increase in total property income is primarily due to an increase in base rent in new leases and step-up rent on existing leases, an increase in percentage rent and an increase in tenant recovery income. The increase in property operating expenses is primarily due to an increase in snow removal costs, higher repairs and maintenance costs due to the timing of projects and an increase in insurance premium costs compared to 2023.

Straight-line income (expense), net. Straight-line income (expense), net increased $459 in 2024 compared to 2023. The increase is primarily due to lower straight-line write-offs in 2024 compared to 2023.

Amortization of intangibles and lease incentives. Income from the amortization of intangibles and lease incentives decreased $2,439 in 2024 compared to 2023. The decrease is primarily due to fully amortized intangibles and fewer write-offs for early terminations.

General and administrative expenses. General and administrative expenses increased $219 in 2024 compared to 2023. The increase is primarily due to the amount paid to Mr. Zalatoris under the CEO Agreement and an increase in professional fees. Amounts paid to Mr. Zalatoris reduce the amount paid by the Company to the Business Manager under the Business Management Agreement on a dollar-for-dollar basis.

Business management fee. Business management fees decreased $530 in 2024 compared to 2023. The decrease is primarily due to an amendment to the Business Management Agreement that reduced the base fee. As noted herein, the amount we pay Mr. Zalatoris under the CEO Agreement reduces our payment under the Business Management Agreement on a dollar-for-dollar basis. During the six months ended June 30, 2024, total costs incurred under the CEO Agreement were $147, which are included in general and administrative expenses.

Depreciation and amortization. Depreciation and amortization decreased $987 in 2024 compared to 2023. The decrease is primarily due to a larger amount of fully amortized assets in 2024 compared to 2023.

Interest expense. Interest expense decreased $399 in 2024 compared to 2023. The decrease is primarily due to lower average debt outstanding and a decrease in interest rate swap amortization.

Interest and other income. Interest and other income increased $79 in 2024 compared to 2023.

Off-Balance Sheet Arrangements

We currently have no off-balance sheet arrangements that are reasonably likely to have a material current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.

Leasing Activity

The following table sets forth leasing activity during the six months ended June 30, 2024. Leases with terms of less than 12 months have been excluded from the table.

(a) Includes leases signed on units that were vacant for over 12 months, leases signed without fixed rent amounts and leases signed where the previous and current lease do not have similar lease structures.

Non-GAAP Financial Measures

Accounting for real estate assets in accordance with GAAP assumes the value of real estate assets is reduced over time due primarily to non-cash depreciation and amortization expense. Because real estate values may rise and fall with market conditions, operating results from real estate companies that use GAAP accounting may not present a complete view of their performance. We use Funds from Operations, or “FFO”, a widely accepted metric to evaluate our performance. FFO provides a supplemental measure to compare our performance and operations to other REITs. Due to certain unique operating characteristics of real estate companies, the National Association of Real Estate Investment Trusts, or “NAREIT”, has promulgated a standard known as FFO, which it believes more accurately reflects the operating performance of a REIT. On November 7, 2018, NAREIT’s Executive Board approved the White Paper restatement, effective December 15, 2018. The purpose of the restatement was not to change the fundamental definition of FFO but to clarify existing guidance. The restated definition of FFO by NAREIT is net income (loss) computed in accordance with GAAP, excluding depreciation and amortization related to real estate, excluding gains (or losses) from sales of certain real estate assets, excluding impairment write-downs of certain real estate assets and investments in entities when the impairment is directly attributable to decreases in the value of depreciable real estate and excluding gains and losses from change in control. We have adopted the restated NAREIT definition for computing FFO. Previously presented periods were not impacted.

Under GAAP, acquisition related costs are treated differently if the acquisition is a business combination or an asset acquisition. An acquisition of a single property will likely be treated as an asset acquisition as opposed to a business combination and acquisition related costs will be capitalized rather than expensed when incurred. Publicly registered, non-listed REITs typically engage in a significant amount of acquisition activity in the early years of their operations, and thus incur significant acquisition related costs, during these initial years. Although other start up entities may engage in significant acquisition activity during their initial years, publicly registered, non-listed REITs are unique in that they typically have a limited timeframe during which they acquire a significant number of properties and thus incur significant acquisition related costs. Due to the above factors and other unique features of publicly registered, non-listed REITs, the Institute for Portfolio Alternatives, or “IPA”, an industry trade group, published a standardized measure known as Modified Funds from Operations, or “MFFO”, which the IPA has promulgated as a supplemental measure for publicly registered non-listed REITs and which may be another appropriate supplemental measure to reflect the operating performance of a non-listed REIT. We believe it is appropriate to use MFFO as a supplemental measure of operating performance because we believe that, when compared year-over-year, it reflects the impact on our operations from trends in occupancy rates, rental rates, operating costs, general and administrative expenses, and interest costs, which may not be immediately apparent from net income.

MFFO excludes expensed costs associated with investing activities, some of which are acquisition related costs that affect our operations only in periods in which properties are acquired, and other non-operating items that are included in FFO, such as straight-lining of rents as required by GAAP. By excluding costs that we consider more reflective of acquisition activities and other non-operating items, the use of MFFO provides another measure of our operating performance once our portfolio is stabilized. Because MFFO may be a recognized measure of operating performance within the non-listed REIT industry, MFFO and the adjustments used to calculate it may be useful in order to evaluate our performance against other non-listed REITs. Like FFO, MFFO is not equivalent to our net income or loss as determined under GAAP, as detailed in the table below, and MFFO may not be a useful measure of the impact of long-term operating performance on value if we continue to acquire a significant amount of properties. MFFO should only be used as a measurement of our operating performance while we are acquiring a significant amount of properties because it excludes, among other things, acquisition costs incurred during the periods in which properties were acquired.

We believe our definition of MFFO, a non-GAAP measure, is consistent with the IPA’s Guideline 2010-01, Supplemental Performance Measure for Publicly Registered, Non-Listed REITs: Modified Funds from Operations, or the “Practice Guideline,” issued by the IPA in November 2010. The Practice Guideline defines MFFO as FFO further adjusted for the following items, as applicable, included in the determination of GAAP net income: acquisition fees and expenses; amounts relating to straight-line rents and amortization of above and below market lease assets and liabilities, accretion of discounts and amortization of premiums on debt investments; mark-to-market adjustments included in net income; nonrecurring gains or losses included in net income from the extinguishment or sale of debt, hedges, foreign exchange, derivatives or securities holdings where trading of such holdings is not a fundamental attribute of the business plan, unrealized gains or losses resulting from consolidation from, or deconsolidation to, equity accounting, and after adjustments for consolidated and unconsolidated partnerships and joint ventures, with such adjustments calculated to reflect MFFO on the same basis.

Our presentation of FFO and MFFO may not be comparable to other similarly titled measures presented by other REITs. We believe that the use of FFO and MFFO provides a more complete understanding of our operating performance to stockholders and to management, and when compared year over year, reflects the impact on our operations from trends in occupancy rates, rental rates, operating costs, general and administrative expenses, and interest costs. Neither FFO nor MFFO is intended to be an alternative to “net income” or to “cash flows from operating activities” as determined by GAAP as a measure of our capacity to pay distributions. Management uses FFO and MFFO to compare our operating performance to that of other REITs and to assess our operating performance.

Our FFO and MFFO for the six months ended June 30, 2024 and 2023 are calculated as follows:

(Dollar amounts in thousands)

Subsequent Events

For information related to subsequent events, reference is made to Note 14 – “Subsequent Events” which is included in our June 30, 2024 Notes to Consolidated Financial Statements in Item 1.

Market Risk

We are exposed to various market risks, including those caused by changes in interest rates and commodity prices. Market risk is the potential loss arising from adverse changes in market rates and prices, such as interest rates and commodity prices. We do not enter into derivatives or other financial instruments for trading or speculative purposes. We have entered into, and may continue to enter into, financial instruments to manage and reduce the impact of changes in interest rates. The counterparties are, and are expected to continue to be, major financial institutions.

Interest Rate Risk

We are exposed to interest rate changes primarily as a result of long-term debt and the Revolving Credit Facility used to purchase properties or other real estate assets and to fund capital expenditures.

As of June 30, 2024, we had outstanding debt of $842.9 million, excluding unamortized debt issuance costs, bearing interest rates ranging from 3.70% to 7.34% per annum. The weighted average interest rate was 4.78%, which includes the effect of interest rate swaps. As of June 30, 2024, the weighted average years to maturity for our mortgages and Credit Facility payable was 2.3 years.

As of June 30, 2024, our fixed-rate debt consisted of secured mortgage financings with a carrying value of $111.9 million and a fair value of $106.2 million. Changes in interest rates do not affect interest expense incurred on our fixed-rate debt until their maturity or earlier repayment, but interest rates do affect the fair value of our fixed rate debt obligations. If market interest rates were to increase by 1% (100 basis points), the fair market value of our fixed-rate debt would decrease by $1.5 million as of June 30, 2024. If market interest rates were to decrease by 1% (100 basis points), the fair market value of our fixed-rate debt would increase by $1.5 million as of June 30, 2024.

As of June 30, 2024, we had $180 million of debt or 21.4% of our total debt, excluding unamortized debt issuance costs, bearing interest at variable rates with a weighted average interest rate equal to 6.52% per annum. We had additional variable rate debt subject to swap agreements of $551 million, or 65.4% of our total debt, excluding unamortized debt issuance costs, as of June 30, 2024.

If interest rates on all debt which bears interest at variable rates as of June 30, 2024 increased by 1% (100 basis points), the increase in interest expense would decrease earnings and cash flows by $1.8 million annually. If interest rates on all debt which bears interest at variable rates as of June 30, 2024 decreased by 1% (100 basis points), the decrease in interest expense would increase earnings and cash flows by the same amount.

With regard to variable rate financing, our management assesses our interest rate cash flow risk by continually identifying and monitoring changes in interest rate exposures that may adversely impact expected future cash flows and by evaluating hedging opportunities. We utilize risk management control systems implemented by our Business Manager to monitor interest rate cash flow risk attributable to both of our outstanding or forecasted debt obligations as well as our potential offsetting hedge positions.

We use derivative financial instruments to hedge exposures to changes in interest rates on loans secured by our assets. Derivative instruments may include interest rate swap contracts, interest rate cap or floor contracts, futures or forward contracts, options or repurchase agreements. Our actual hedging decisions are determined in light of the facts and circumstances existing at the time of the hedge. We have used derivative financial instruments, specifically interest rate swap contracts, to hedge against interest rate fluctuations on variable rate debt, which exposes us to both credit risk and market risk. Credit risk is the failure of the counterparty to perform under the terms of the derivative contract. If the fair value of a derivative contract is positive, the counterparty will owe us, which creates credit risk for us because the counterparty may not perform. Market risk is the adverse effect on the value of a financial instrument that results from a change in interest rates. We seek to manage the market risk associated with interest-rate contracts by establishing and monitoring parameters that limit the types and degree of market risk that may be undertaken. There is no assurance we will be successful.

Derivatives

For information related to derivatives, reference is made to Note 6 – “Debt and Derivative Instruments” which is included in our June 30, 2024 Notes to Consolidated Financial Statements in Item 1.

Disclosure Controls and Procedures

Our management has evaluated, with the participation of our principal executive and principal financial officers, the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the period covered by this report. Based on that evaluation, the principal executive and principal financial officers have concluded that our disclosure controls and procedures were effective as of the end of the period covered by this report.

Changes in Internal Control over Financial Reporting

There were no changes to our internal control over financial reporting (as defined in Exchange Act Rule 13a-15(f) or Rule 15d-15(f)) during the three months ended June 30, 2024 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

There are no material changes to the risk factors set forth in our Annual Report on Form 10-K for the year ended December 31, 2023.