TRANSCONTINENTAL REALTY INVESTORS INC

1. Organization

As used herein, the terms “the Company”, “we”, “our”, or “us” refer to Transcontinental Realty Investors, Inc., a Nevada corporation, which was formed in 1984. Our common stock is listed on the New York Stock Exchange (“NYSE”) under the symbol “TCI”. Weare owned approximately 78% by American Realty Investors, Inc. (“ARL”), whose common stock is listed on the NYSE under the symbol “ARL”, and 8% by the controlling shareholder of ARL.

Our primary business is the acquisition, development and ownership of income-producing residential and commercial real estate properties. In addition, we opportunistically acquire land for future development in in-fill or high-growth suburban markets. From time to time, and when we believe it appropriate to do so, we will also sell land and income-producing properties. We generate revenues by leasing apartment units to residents, and leasing office, industrial and retail space to various for-profit businesses as well as certain local, state and federal agencies. We also generate income from the sales of income-producing properties and land.

At September 30, 2024, our portfolio of properties consisted of:

●Four office buildings comprising in aggregate of approximately 1,056,793 square feet;

●Fourteen multifamily properties, owned directly by us, comprising of 2,328 units; and

● Approx imately 1,843 acres of devel oped and undeveloped land.

Our day to day operations are managed by Pillar Income Asset Management, Inc. (“Pillar”). Pillar's duties include, but are not limited to, locating, evaluating and recommending real estate and real estate-related investment opportunities, asset management, property development, construction management and arranging debt and equity financing with third party lenders and investors. We have no employees; all of our services are performed by Pillar employees. Three of our commercial properties are managed by Regis Realty Prime, LLC (“Regis”). Regis provides leasing and brokerage services. Our multifamily properties andone of our commercial properties are managed by outside management companies. Pillar and Regis are considered to be related parties (See Note 12 – Related Party Transactions).

2. Summary of Significant Accounting Policies

Short-Term Investments

We account for our investment in corporate bonds and demand notes (collectively "debt securities") as held-to-maturity securities as we have the intent and the ability to hold these securities until maturity. Accordingly, our debt securities are carried at their amortized cost. The discount on these debt securities is amortized into interest income on a straight-line basis over the term of the underlying notes, which approximate the effective interest method.

Basis of Presentation

The accompanying unaudited consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q and Article 10 of Regulation S-X. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) have been condensed or omitted in accordance with such rules and regulations, although management believes the disclosures are adequate to prevent the information presented from being misleading. In the opinion of management, all adjustments (consisting of normal recurring matters) considered necessary for a fair presentation have been included.

Certain prior year amounts have been reclassified to conform with the current year presentation. These reclassifications had no effect on the reported results of operation. An adjustment has been made to reclassify$555 from investment in joint venture to other assets as December 31, 2023 on the consolidated balance sheets.

The consolidated balance sheet at December 31, 2023 was derived from the audited consolidated financial statements at that date, but does not include all of the information and disclosures required by GAAP for complete financial statements. For further information, refer to the consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2023.

We consolidate entities in which we are considered to be the primary beneficiary of a variable interest entity (“VIE”) or have a majority of the voting interest of the entity. We have determined that we are a primary beneficiary of the VIE when we have (i) the power to direct the activities of a VIE that most significantly impacts its economic performance, and (ii) the obligations to absorb losses or the right to receive benefits that could potentially be significant to the VIE. In determining whether we are the primary beneficiary, we consider qualitative and quantitative factors, including ownership interest, management representation, ability to control decision and other contractual rights.

We account for entities in which we have less than a controlling financial interest or entities where we are not deemed to be the primary beneficiary under the equity method of accounting. Accordingly, we include our share of the net earnings or losses of these entities in our results of operations.

3. Earnings Per Share

Earnings per share (“EPS”) is computed by dividing net income attributable to the Company by the weighted-average number of common shares outstanding during the period.

The following table details our basic and diluted earnings per common share calculation:

4. Supplemental Cash Flow Information

The following presents the schedule of interest paid and other supplemental cash flow information:

The following is a schedule of noncash investing activity:

5. Operating Segments

Our segments are based on the internal reporting that we review for operational decision-making purposes. We operate intwo reportable segments: (i) the acquisition, development, ownership and management of multifamily properties and (ii) the acquisition, ownership and management of commercial properties. The services for our multifamily segment include rental of apartments and other tenant services, including parking and storage space rental. Asset information by segment is not reported because we do not use this measure to assess performance or make decisions to allocate resources. Therefore, depreciation and amortization expense is not allocated among segments. General and administrative expenses, advisory fees, interest income and interest expense are not included in segment profit as our internal reporting addresses these items on a corporate level.

The following table presents our reportable segments for the three and nine months ended September 30, 2024 and 2023:

The table below reflects the reconciliation of total profit from segments to net income for the three and nine months ended September 30, 2024 and 2023:

6. Lease Revenue

We lease our multifamily properties and commercial properties under agreements that are classified as operating leases. Our multifamily property leases generally include minimum rents and charges for ancillary services. Our commercial property leases generally include minimum rents and recoveries for property taxes and common area maintenance. Minimum rental revenues are recognized on a straight-line basis over the terms of the related leases.

The following table summarizes the components of our rental revenue for the three and nine months ended September 30, 2024 and 2023:

The following table summarizes the future rental payments that are payable to us from non-cancelable leases. The table excludes multifamily leases, which typically have a term ofone-year or less:

7. Real Estate Activity

Below is a summary of our real estate as of September 30, 2024 and December 31, 2023:

We incurred depreciation expense of $2,966 and $3,313 for the three months ended September 30, 2024 and 2023, respectively, and $8,970 and $9,615 for the nine months ended September 30, 2024 and 2023, respectively.

Construction Activities

Construction in progress includes the cost of development of Windmill Farms and the costs associated with our multifamily projects.

On March 15, 2023, we entered into a development agreement with Pillar to build a 240 unit multifamily property in Lake Wales, Florida ("Alera") that is expected to be completed in 2025 for a total cost of approximately$55,330. The cost of construction will be funded in part by a $33,000 construction loan (See Note 11 – Mortgages and Other Notes Payable). The development agreement provides for a $1,637 fee that will be paid to Pillar over the construction period. As of September 30, 2024, we have incurred a total of $31,878 in development costs, including $1,005 in development fees.

On November 6, 2023, we entered into a development agreement with Pillar to build a 216 unit multifamily property in McKinney, Texas ("Merano") that is expected to be completed in 2025 for a total cost of approximately$51,910. The cost of construction will be funded in part by a$25,407 construction loan (See Note 11 –Mortgages and Other Notes Payable). The development agreement provides for a$1,551 fee that will be paid to Pillar over the construction period. As of September 30, 2024, we have incurred a total of $15,588 in development costs, including $809 in development fees.

On December 15, 2023, we entered into a development agreement with Pillar to build a 216 unit multifamily property in Temple, Texas ("Bandera Ridge") that is expected to be completed in 2025 for a total cost of approximately$49,603. The cost of construction will be funded in part by a$23,500 construction loan (See Note 11 –Mortgages and Other Notes Payable). The development agreement provides for a$1,607 fee that will be paid to Pillar over the construction period. As of September 30, 2024, we have incurred a total of $11,087 in development costs, including $336 in development fees.

8. Short-term Investments

The following is a summary of our short term investment as of September 30, 2024 and December 31, 2023:

The average interest rate on the investments was 5.50% and 5.65% at September 30, 2024 and December 31, 2023, respectively.

9. Notes Receivable

The following table summarizes our notes receivable as of September 30, 2024 and December 31, 2023:

(1)The note is convertible, at our option, into a 100% ownership interest in the underlying property, and is collateralized by the underlying property.

(2) The borrower is determined to be a related party due to our significant investment in the performance of the collateral secured by the notes receivable.

(3) Principal and interest payments on the notes from Unified Housing Foundation, Inc. (“UHF”) are funded from surplus cash flow from operations, sale or refinancing of the underlying properties and are cross collateralized to the extent that any surplus cash available from any of the properties underlying the notes. On October 1, 2023, the interest rate on the notes was amended from a fixed rate of 12.0% to a floating rate indexed to the Secured Overnight Financing Rate ("SOFR") in effect on the last day of the preceding calendar quarter. In connection with the amendment, accrued interest of$3,601 was forgiven in exchange for participation in the proceeds from any future sale or refinancing of the underlying property.

(4) The note bears interest at prime plus 1.0%.

(5) We are working with the borrower to extend the maturity and/or exercise our conversion option.

10. Investment in Unconsolidated Joint Ventures

Other assets includes our joint venture investment in Victory Abode Apartments, LLC ("VAA"). VAA was formed as a result of our sale of a 50% ownership interest in a portfolio of multifamily properties to Macquarie in exchange for a 50% voting interest in VAA and a note payable.

On September 16, 2022, VAA sold 45 of its properties (“VAA Sale Portfolio”) for $1,810,700, resulting in a gain on sale of $738,444 to the joint venture. In connection with the sale, we received an initial distribution of $182,848 from VAA.

On November 1, 2022, we received an additional distribution from VAA, which included the full operational control of the remaining seven properties of VAA (“VAA Holdback Portfolio”) and a cash payment of $204,036.

On March 23, 2023, we received $17,976 from VAA, which represented the remaining distribution of the proceeds from the sale of the VAA Sale Portfolio. On April 27, 2023, we received an additional $2,940 liquidating distribution from the joint venture

We used our share of the proceeds from the sale of the VAA Sale Portfolio to investin short-term investments and real estate, pay down our debt and for general corporate purposes. We anticipate that the final liquidation of the joint venture will be completed prior to the end of 2024.

11. Mortgages and Other Notes Payable

The following table summarizes our mortgages and other notes payable as of September 30, 2024 and December 31, 2023:

(1) On March 15, 2023, we entered into a $33,000 construction loan to finance the development of Alera (See Note 7 - Real Estate Activity) that bears interest at SOFR plus 3% and matures on March 15, 2026, withtwo one-year extension options.

(2) On July 10, 2024, we replaced the existing loan on the property with a $6,558 loan that bears interest at SOFR plus 1.85% and matures on August 1, 2031.

(3) On November 1, 2022, we agreed to assume the mortgage note payable from our joint venture in connection with the acquisition of the underlying property (See Note 10 - Investment in Unconsolidated Joint Ventures) and obtained final lender approval of the assumption in 2024.

(4) On February 8, 2024, we extended the maturity to February 28, 2026 at an interest rate of 7.50%.

As of September 30, 2024, we were in compliance with all of our loan covenants except for the minimum debt service coverage ratio (“DSCR”) for the loan on 770 South Post Oak. As a result, the lender requires us to lock the surplus cash flow of the property into a designated deposit account controlled by them, until we are in compliance with the DSCR covenant for a period oftwo consecutive quarters.

On November 6, 2023, we entered into a $25,407 construction loan to finance the development of Merano (See Note 7 - Real Estate Activity) that bears interest at prime plus 0.25% and matures on November 6, 2028. As of September 30, 2024, no advances have been drawn on the loan.

On December 15, 2023, we entered into a $23,500 construction loan to finance the development of Bandera Ridge (See Note 7 - Real Estate Activity) that bears interest at SOFR plus 3% and matures on December 15, 2028. As of September 30, 2024, no advances have been drawn on the loan.

All of the above mortgages and other notes payable are collateralized by the underlying property. In addition, we have guaranteed the loans on Alera, Bandera Ridge, Merano, Villas at Bon Secour and Windmill Farms.

12. Related Party Transactions

We engage in certain business transactions with related parties, including but not limited to asset acquisition and dispositions of real estate. Transactions involving related parties cannot be presumed to be carried out on an arm’s length basis due to the absence of free market forces that naturally exist in business dealings between two or more unrelated entities. Related party transactions may not always be favorable to our business and may include terms, conditions and agreements that are not necessarily beneficial to or in our best interest.

Pillar and Regis are wholly owned by a subsidiary of May Realty Holdings, Inc. ("MRHI"), which owns appro ximately 90.8% of ARL, which in turn owns approximately 78% of the Company. Pillar is compensated for advisory services in accordance with an advisory agreement and is compensated for development services in accordance with project specific agreements. Regis receives property management fees and leasing commissions in accordance with the terms of its property-level management agreement. In addition, Regis is entitled to receive real estate brokerage commissions in accordance with the terms of a non-exclusive brokerage agreement.

Rental income includes $159 and $232 for the three months ended September 30, 2024 and 2023, respectively, and $495 and $731 for thenine months ended September 30, 2024 and 2023, respectively, for office space leased to Pillar and Regis.

Property operating expense includes $87 and $97 for the three months ended September 30, 2024 and 2023, respectively, and$253 and $296 for thenine months ended September 30, 2024 and 2023, respectively, for management fees on commercial properties payable to Regis.

General and administrative expense includes $879 and $796 for the three months ended September 30, 2024 and 2023, respectively, and$2,688 and $2,854 for thenine months ended September 30, 2024 and 2023, respectively, for employee compensation and other reimbursable costs payable to Pillar.

Advisory fees paid to Pillar were $1,944 and $2,112 for the three months ended September 30, 2024 and 2023, respectively, and $5,789 and $6,282 for the nine months ended September 30, 2024 and 2023, respectively. Development fees paid to Pillar were $525 and $223 for the three months ended September 30, 2024 and 2023, respectively, and $1,501 and $335 for the nine months ended September 30, 2024 and 2023, respectively.

Notes receivable include amounts held by UHF (See Note 9 – Notes Receivable). UHF is deemed to be a related party due to our significant investment in the performance of the collateral secured by the notes receivable. In addition, we have a related party receivable from Pillar ("Pillar Receivable"), which represents amounts advanced to Pillar net of unreimbursed fees, expenses and costs as provided above. The Pillar Receivable bears interest in accordance with a cash management agreement. On January 1, 2024, an amendment to the cash management agreement changed the interest rate on the Pillar Receivable from prime plusone percent to SOFR. Interest income on the UHF notes and the Pillar Receivable was$2,711 and $5,521 for the three months ended September 30, 2024 and 2023, respectively, and $8,084 and $15,961 for the nine months ended September 30, 2024 and 2023, respectively.

13. Noncontrolling Interests

The noncontrolling interest represents the third party ownership interest in Income Opportunity Realty Investors, Inc. ("IOR"). Shares of IOR are listed on the NYSE American stock exchange under the symbol of IOR. We owned 83.2% and 82.3% of IOR at September 30, 2024 and December 31, 2023, respectively.

14. Deferred Income

In previous years, we sold properties to related parties at a gain, and therefore the sales criteria for the full accrual method was not met, and as such, we deferred the gain recognition and accounted for the sales by applying the finance, deposit, installment or cost recovery methods, as appropriate. The gain on these transactions is deferred until the properties are sold to a non-related third party. As of September 30, 2024 and December 31, 2023, we had deferred gain of $581.

15. Income Taxes

We are part of a tax sharing and compensating agreement with respect to federal income taxes with MRHI, ARL and IOR. In accordance with the agreement, our expense in each year is calculated based on the amount of losses absorbed by taxable income multiplied by the maximum statutory tax rate of 21%.

The following table summarizes our income tax provision:

16. Commitments and Contingencies

We believe that we will generate excess cash from property operations in the next twelve months; such excess, however, might not be sufficient to discharge all of our obligations as they become due. We intend to sell income-producing assets, refinance real estate and obtain additional borrowings primarily secured by real estate to meet our liquidity requirements.

17. Subsequent Events

The date to which events occurring after September 30, 2024, the date of the most recent balance sheet, have been evaluated for possible adjustment to the consolidated financial statements or disclosure is November 7, 2024, which is the date on which the consolidated financial statements were available to be issued.

On October 21, 2024, we entered into a development agreement with Pillar to build a 234 unit multifamily property in Dallas, Texas ("Mountain Creek") that is expected to be completed in 2026 for a total cost of approximately $49,791. The cost of construction will be funded in part by a $27,500 construction loan. The development agreement provides for a $1,574 fee that will be paid to Pillar over the construction period. As of September 30, 2024, we have incurred a total of $555 in development costs.