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CALCULATION OF REGISTRATION FEE

Title of Securities to be Registered		Amount to Be Registered				Proposed Maximum Offering Price per Share				Proposed Maximum Aggregate Offering Price				Amount of Registration Fee
Common Stock, $0.01 par value per share			30,000,000 shares			$	10.00			$	300,000,000			$	0	(2)
Common Stock, $0.01 par value per share			2,500,000 shares (1)			$	9.50			$	23,750,000			$	0	(3)

(1)

Represents shares to be issued pursuant to our distribution reinvestment program. The offering price per share issuable pursuant to the distribution reinvestment program is estimated for purposes of calculating the registration fee at $9.50 per share.

(2)

Pursuant to Rule 415(a)(6), this Registration Statement includes $300,000,000 of unsold securities previously registered on Registration Statement No. 333-151532 with respect to which the Registrant paid filing fees of $11,790.00. The filing fees previously paid with respect to shares being carried forward to this Registration Statement reduce the filing fees currently due to $0.

(3)

Pursuant to Rule 415(a)(6), this Registration Statement includes $23,750,000 of unsold securities previously registered on Registration Statement No. 333-151532 with respect to which the Registrant paid filing fees of $933.37. The filing fees previously paid with respect to shares being carried forward to this Registration Statement reduce the filing fees currently due to $0.

 

Pursuant to Rule 429 under the Securities Act of 1933, as amended, the prospectus included in this registration statement is a combined prospectus and relates to Registration Statement No. 333-151532, previously filed by the registrant and initially declared effective on February 17, 2009. Upon effectiveness, this registration statement, which is a new registration statement, will also constitute a post-effective amendment to Registration Statement No. 333-151532.

The Registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file a further amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until the Registration Statement shall become effective on such date as the Securities and Exchange Commission, acting pursuant to said Section 8(a), may determine.

 

 

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The information in this prospectus is not complete and may be changed. We may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. The prospectus is not an offer to sell the securities and it is not soliciting an offer to buy these securities in any state where the offer or sale is not permitted.

PRELIMINARY PROSPECTUS DATED SEPTEMBER 4, 2012		SUBJECT TO COMPLETION

30,000,000 shares of common stock — maximum offering

LIGHTSTONE VALUE PLUS REAL ESTATE
INVESTMENT TRUST II, INC.

$10.00 PER SHARE
Minimum Initial Purchase — 100 Shares

Lightstone Value Plus Real Estate Investment Trust II, Inc. is a Maryland corporation incorporated on April 28, 2008 that qualifies as a real estate investment trust, for U.S. federal income tax purposes, or REIT. We are sponsored by The Lightstone Group, LLC, or the Lightstone Group, together with its affiliates. The Lightstone Group is one of the largest private residential and commercial real estate owners in the United States. In this follow-on offering, we are offering up to 30,000,000 shares of common stock to investors who meet our suitability standards and up to 2,500,000 shares of common stock to participants in our distribution reinvestment program, or DRIP. The dealer manager of the offering, Orchard Securities, LLC, or Orchard Securities, is not required to sell a specific number or dollar amount of shares but will use its best efforts to sell 30,000,000 of our shares. The dealer manager may engage third-party soliciting dealers in connection with this offering.

We commenced our initial public offering of shares of our common stock on February 17, 2009. Our initial public offering terminated on August 15, 2012 and had gross offering proceeds of approximately $49.0 million from the sale of approximately 4.9 million shares of our common stock. In addition, through August 15, 2012 (the termination date of our initial public offering), we have issued approximately 0.3 million shares associated with our DRIP, which represents approximately $2.9 million of additional proceeds. As of June 30, 2012, we owned interests in, options to acquire, or mortgages secured by, three retail properties comprising approximately 0.9 million square feet of gross leasable area, two hotel properties comprising 265 rooms, and one residential property comprising 417 apartment units, located in five states.

We will sell shares under this follow-on offering until the earlier of the date on which all of the shares under this follow-on offering have been sold or       , 2014, two years from the date of this prospectus. We reserve the right to reallocate the shares of our common stock we are offering between the primary offering and the DRIP. We may terminate this offering at any time.

Investing in our common stock involves a high degree of risk. See “Risk Factors” beginning on page 25 for a discussion of the risks which should be considered in connection with your investment in our common stock. Some of these risks include:

•

We may be considered a “blind pool” because we own a limited number of properties and real estate-related investments and have not identified most of the investments we will make with the offering proceeds and we have a limited operating history and financing sources;

•

No public market currently exists for our shares of common stock, no public market for those shares may ever exist and our shares are illiquid;

•

We have in the past, and may in the future, pay distributions from sources other than from our cash flow from operations.

•

There are substantial conflicts between the interests of our investors, our interests and the interests of our advisor, sponsor and our respective affiliates regarding affiliate compensation, investment opportunities and management resources because David Lichtenstein, the Chairman of the board of directors of our company, or our Board of Directors, is the majority owner of our sponsor and our advisor; our sponsor and advisor may compete with us and acquire properties that suit our investment objectives; we have no employees that do not also work for our sponsor or advisor and our advisor is not obligated to devote any fixed, minimum amount of time or effort to management of our operations;

•

We may maintain a level of leverage as high as 75% of the aggregate fair market value of our properties;

•

Federal income tax law limits ownership and transferability of our shares that prohibit five or fewer individuals from beneficially owning more than 50% of our outstanding shares during the last half of each taxable year and, subject to exceptions, we restrict any person from beneficially owning more than 9.8% in value of our aggregate outstanding stock or more than 9.8% of our common stock;

•

Our investment objectives and strategies may be changed without stockholder consent;

•

We are obligated to pay substantial fees to our advisor and its affiliates, including fees payable upon the sale of properties, and our incentive advisor fee structure may result in our advisor recommending riskier or more speculative investments;

•

We may make distributions that include a return of principal and may borrow to make these distributions;

•

If we fail to maintain our qualification as a REIT, it may reduce the amount of income available for distribution and limit our ability to make distributions to our stockholders; and

•

Disruptions in the financial markets and deteriorating economic conditions could adversely affect the values of our investments and our ongoing results of operations.

Neither the Securities and Exchange Commission, the Attorney General of the State of New York nor any other state securities regulator has approved or disapproved of our common stock, determined if this prospectus is truthful or complete or passed on or endorsed the merits of this offering. Any representation to the contrary is a criminal offense.

These are speculative securities and this investment involves a high degree of risk. You should purchase these securities only if you can afford a complete loss of your investment.

The use of forecasts in this offering is prohibited. Any representation to the contrary and any predictions, written or oral, as to the amount or certainty of any present or future cash benefit or tax consequence which may flow from an investment in us is not permitted.

		Per Share				Maximum Offering
Public offering price		$	10.00	(1)		$	300,000,000
Selling commissions (2)		$	—				—
Dealer manager fee (2)		$	—				—
Proceeds, before expenses, to us		$	10.00	(1)		$	300,000,000

(1)

The offering price per share of common stock issuable pursuant to our DRIP is initially $9.50.

(2)

Dealer manager fees and selling commissions will be paid for with the proceeds from our sale to Lightstone SLP II LLC, which is wholly owned and controlled by our sponsor, of associate general partner interests in Lightstone Value Plus REIT II LP, or our Operating Partnership, which we refer to as “subordinated profits interests”. Distributions with respect to these subordinated profits interests will be made only after stockholders have received a stated preferred return.

Prospectus dated          , 2012

 

 

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SUITABILITY STANDARDS

Because an investment in our common stock is risky and is a long-term investment, it is suitable and appropriate for you only if you have adequate financial means to make this investment, you have no immediate need for liquidity in your investment and you can bear the loss of your investment.

Therefore, we have established financial suitability standards for investors who purchase shares of our common stock, which we sometimes refer to as the “shares.” In addition, residents of some states must meet higher suitability standards under state law. These standards require you to meet the applicable criteria below. In determining your net worth, do not include your home, home furnishings or your automobile.

General Standards for all Investors

•

Investors must have either (a) a net worth of at least $250,000 or (b) an annual gross income of $70,000 and a minimum net worth of $70,000.

Nebraska

•

Investors must have either (a) a minimum net worth of $100,000 and an annual income of $70,000 or (b) a net worth of $350,000. The investor’s maximum investment in the issuer and its affiliates cannot exceed 10% of the investor’s net worth.

Maine

•

The Main Office of Securities recommends that an investor’s aggregate investment in this offering and similar direct participation investments not exceed 10% of the investor’s liquid net worth. For this purpose, “liquid net worth” is defined as that portion of net worth that consists of cash, cash equivalents and readily marketable securities.

North Dakota

•

Shares will only be sold to residents of North Dakota representing that they have a net worth of at least ten times their investment in us and our affiliates and that they meet one of the general suitability standards described above.

Arkansas

•

Investors must have either (a) a net worth of at least $350,000 or (b) an annual gross income of at least $70,000 and a minimum net worth of at least $100,000. In addition, shares will only be sold to Arkansas residents that have a combined liquid net worth of at least ten (10) times the amount of their investments in us and other similar programs.

New York

•

Shares of our common stock will only be sold to investors who initially purchase a minimum of 250 shares of common stock for a total purchase price of $2,500. However a minimum of 100 shares of common stock for a total purchase price of $1,000 shall apply to a purchase by an individual retirement account. Subsequent transfers of such interest shall be in units of not less than $2,500, except for transfers by an individual retirement account, transfers by gift, inheritance, intrafamily transfers, transfers subsequent to the preceding, and transfers to affiliates.

Kentucky

•

Investors must have either (a) a net worth of at least $250,000 or (b) an annual gross income of at least $70,000 and a minimum net worth of at least $70,000, with the amount invested in this offering not to exceed 10% of the Kentucky investor’s liquid net worth.

Iowa

•

Investors must have either (a) a minimum net worth of at least $250,000 or (b) an annual gross income of at least $70,000 and a net worth of at least $70,000. The investor’s maximum investment in the issuer and its affiliates cannot exceed 10% of the resident’s liquid net worth. With respect to Iowa investors, liquid net worth is that portion of net worth (total assets exclusive of home, home furnishings and automobiles minus total liabilities) that is composed of cash, cash equivalents and readily marketable securities.

 

 

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Michigan, New Mexico, Oregon, Pennsylvania and Washington

•

Investors must have either (a) a net worth of at least $250,000 or (b) an annual gross income of at least $70,000 and a minimum net worth of at least $70,000. The investor’s maximum investment in the issuer and its affiliates cannot exceed 10% of the Michigan, New Mexico, Oregon, Pennsylvania or Washington resident’s net worth.

Kansas

•

In addition to the general suitability requirements described above, it is recommended that investors should invest no more than 10% of their liquid net worth, in the aggregate, in our shares and securities of other REITs. “Liquid net worth” is defined as that portion of net worth (total assets minus total liabilities) that is comprised of cash, cash equivalents and readily marketable securities.

Missouri

•

In addition to the general suitability requirements described above, no more than ten percent (10%) of any Missouri investor’s liquid net worth shall be invested in the securities registered by us for this offering with the Securities Division.

California

•

In addition to the general suitability requirements described above, an investor’s maximum investment in our shares will be limited to 10% of the investor’s net worth (exclusive of home, home furnishings and automobile).

Alabama

•

Investors must have either (a) a net worth of at least $250,000 or (b) an annual gross income of $70,000 and a minimum net worth of $70,000, and shares will only be sold to Alabama residents that represent that they have a liquid net worth of at least 10 times the amount of their investment in this real estate investment program and other similar programs.

Tennessee

•

Investors must have either (a) a net worth of at least $250,000 or (b) an annual gross income of $70,000 and a minimum net worth of $70,000, and Tennessee residents’ maximum investment in us and our affiliates must not exceed ten percent (10%) of their liquid net worth. Shares of our common stock will only be sold to investors who initially purchase a minimum of 250 shares of common stock for a total purchase price of $2,500.

Massachusetts

•

Investors must have either (a) a minimum net worth of at least $250,000 or (b) an annual gross income of at least $70,000 and a net worth of at least $70,000. A Massachusetts investor’s aggregate investment in our shares, shares of our affiliates, and in other non-traded real estate investment programs may not exceed 10% of his or her liquid net worth. “Liquid net worth” is defined as that portion of net worth (total assets exclusive of home, home furnishings, and automobiles minus total liabilities) that is comprised of cash, cash equivalents, and readily marketable securities.

New Jersey

•

Investors who reside in the state of New Jersey must have either (i) a liquid net worth of $100,000 and annual gross income of $85,000 or (ii) a minimum liquid net worth of $350,000. Additionally, a New Jersey investor’s total investment in this offering and other non-traded business development companies shall not exceed 10% of his or her liquid net worth. “Liquid net worth” is defined as that portion of net worth (total assets exclusive of home, home furnishings, and automobiles minus total liabilities) that is comprised of cash, cash equivalents, and readily marketable securities.

The foregoing suitability standards must be met by the investor who purchases the shares. In the case of sales to fiduciary accounts, these minimum standards must be met by the beneficiary, the fiduciary account or by the donor or grantor who directly or indirectly supplies the funds to purchase the common stock if the

 

 

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donor or the grantor is the fiduciary. Investors with investment discretion over assets of an employee benefit plan covered by the Employee Retirement Income Security Act of 1974, as amended, or ERISA, should carefully review the information in the section entitled “ERISA Considerations.”

In the case of gifts to minors, the suitability standards must be met by the custodian of the account or by the donor.

In order to ensure adherence to the suitability standards described above, requisite criteria must be met, as set forth in the subscription agreement in the form attached hereto as Appendix C. In addition, our sponsor, our dealer manager and the unaffiliated participating broker-dealers, as our agents, must make every reasonable effort to determine that the purchase of our shares is a suitable and appropriate investment for an investor. In making this determination, the unaffiliated participating broker-dealers will rely on relevant information provided by the investor, including information as to the investor’s age, investment objectives, investment experience, income, net worth, financial situation, other investments, and any other pertinent information. Executed subscription agreements will be maintained in our records for six years.

 

 

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RESTRICTIONS IMPOSED BY THE USA PATRIOT ACT AND RELATED ACTS

In accordance with the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001, as amended, or the USA PATRIOT Act, the shares offered hereby may not be offered, sold, transferred or delivered, directly or indirectly, to any “Prohibited Shareholder,” which means anyone who is:

•

a “designated national,” “specially designated national,” “specially designated terrorist,” “specially designated global terrorist,” “foreign terrorist organization,” or “blocked person” within the definitions set forth in the Foreign Assets Control Regulations of the U.S. Treasury Department;

•

acting on behalf of, or an entity owned or controlled by, any government against whom the U.S. maintains economic sanctions or embargoes under the Regulations of the U.S. Treasury Department;

•

within the scope of Executive Order 13224 — Blocking Property and Prohibiting Transactions with Persons who Commit, Threaten to Commit, or Support Terrorism, effective September 24, 2001;

•

subject to additional restrictions imposed by the following statutes or regulations, and executive orders issued thereunder: the Trading with the Enemy Act, the Iraq Sanctions Act, the National Emergencies Act, the Antiterrorism and Effective Death Penalty Act of 1996, the International Emergency Economic Powers Act, the United Nations Participation Act, the International Security and Development Cooperation Act, the Nuclear Proliferation Prevention Act of 1994, the Foreign Narcotics Kingpin Designation Act, the Iran and Libya Sanctions Act of 1996, the Cuban Democracy Act, the Cuban Liberty and Democratic Solidarity Act and the Foreign Operations, Export Financing and Related Programs Appropriation Act or any other law of similar import as to any non-U.S. country, as each such act or law has been or may be amended, adjusted, modified or reviewed from time to time; or

•

designated or blocked, associated or involved in terrorism, or subject to restrictions under laws, regulations, or executive orders as may apply in the future similar to those set forth above.

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

This prospectus includes forward-looking statements. We base these forward-looking statements on our current expectations and projections about future events. Our actual results could differ materially from those discussed in, or implied by, these forward-looking statements. Forward-looking statements are identified by words such as “believe,” “anticipate,” “expect,” “intend,” “plan,” “will,” “may,” “estimate,” “continue,” and other similar expressions. In addition, any statements that refer to expectations, projections or other characterizations of future events or circumstances are forward-looking statements. The following factors could cause our actual results to differ from those implied by the forward-looking statements in this prospectus:

•

changes in economic conditions generally and the real estate market specifically;

•

legislative/regulatory changes (including changes to laws governing the taxation of REITs);

•

availability of capital, changes in interest rates and interest rate spreads; and

•

changes in generally accepted accounting principles in the United States and policies and guidelines applicable to REITs.

Other factors that could cause actual results to differ from those implied by the forward-looking statements in this prospectus are more fully described in the “Risk Factors” section and elsewhere in this prospectus.

Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. We are under no duty to update any of the forward-looking statements after the date of this prospectus to conform these statements to actual results.

 

 

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LIGHTSTONE VALUE PLUS REAL ESTATE INVESTMENT TRUST II, INC.
  
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PROSPECTUS SUMMARY

This prospectus summary highlights material information contained in this prospectus. Because it is a summary, it does not contain all the information that may be important to you. You should read this entire prospectus, including the “Risk Factors” section, the financial statements incorporated by reference herein, and the appendices carefully before making a decision to invest in our common stock.

Lightstone Value Plus Real Estate Investment Trust II, Inc.

We are a Maryland corporation formed on April 28, 2008. We have qualified as a REIT for U.S. federal income tax purposes since our taxable year ending December 31, 2009. We were formed primarily for the purpose of engaging in the business of investing in and owning commercial and residential real estate properties located throughout North America, as well as other real estate-related investments. We are structured as an umbrella partnership REIT, or UPREIT, and substantially all of our current and future business is and will be conducted through Lightstone Value Plus REIT II LP, a Delaware limited partnership formed on April 30, 2008, or our Operating Partnership, in which we, as the general partner, held a 99.9% general partnership interest as of June 30, 2012.

We were formed as a corporation with perpetual existence; however, our corporate existence may be terminated upon our dissolution and the liquidation of our assets in accordance with the terms of our charter. Because we own a limited number of properties and other real estate-related investments and have not yet identified most of the investments we will make with proceeds from this follow-on offering, we are considered to be a “blind pool”.

REIT Status

If we remain qualified as a REIT, we generally will not be subject to U.S. federal income tax on our net taxable income that we distribute currently to our stockholders. To maintain our REIT qualification under the Internal Revenue Code of 1986, as amended, or the Code, we must meet a number of organizational and operational requirements, including a requirement that we annually distribute to our stockholders at least 90% of our REIT taxable income (which does not equal net income, as calculated in accordance with accounting principles generally accepted in the United States of America, or GAAP), determined without regard to the deduction for dividends paid and excluding any net capital gain. If we fail to remain qualified for taxation as a REIT in any subsequent year and do not qualify for certain statutory relief provisions, our income for that year will be taxed at regular corporate rates, and we may be precluded from qualifying for treatment as a REIT for the four-year period following our failure to qualify as a REIT. Even if we qualify as a REIT, we may still be subject to some U.S. federal, state and local taxes on our income and property and to U.S. federal income taxes and excise taxes on our undistributed income. See “Material U.S. Federal Income Tax Considerations.”

Terms of the Offering

In this follow-on offering, we are offering up to 30,000,000 shares of our common stock for $10.00 per share, subject to volume discounts in some cases. We also are offering up to 2,500,000 shares pursuant to our DRIP at an initial purchase price of $9.50 per share. We will sell shares under this follow-on offering until the earlier of the date on which all of the shares under this follow-on offering have been sold or         , 2014, two years from the date of this prospectus. We reserve the right to reallocate the shares of our common stock we are offering between the primary offering and the DRIP. We may terminate this follow-on offering at any time.

We are offering these shares through Orchard Securities, the dealer manager, on a best efforts basis, pursuant to which neither Orchard Securities nor the securities dealers participating in the offering are under any obligation to purchase any of the securities being offered. Therefore, no specified number of securities are guaranteed to be sold and no specified amount of money is guaranteed to be raised from the offering.

We have sold and will continue to sell subordinated profits interests to Lightstone SLP II LLC, an affiliate of our sponsor. Our sponsor may elect to purchase subordinated profits interests with either cash or an interest in real property of equivalent value. The proceeds received from the cash sale of subordinated profits interests, if any, will be used to pay the dealer manager fees and selling commissions. If our sponsor elects to

 

 

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purchase subordinated profits interests with interests in properties, a majority of our Board of Directors (including a majority of our independent directors) will determine the value of the interest based on an appraisal obtained by a qualified independent real estate appraiser concerning the underlying property.

On June 30, 2010, December 29, 2010, December 28, 2011, and June 11, 2012, respectively, through our Operating Partnership, we entered into contribution agreements with Lightstone Holdings LLC, or LGH, a majority-owned subsidiary of our sponsor, pursuant to which LGH contributed to our Operating Partnership 26.25%, 8.163%, 5.587% and 5.102%, respectively, of the equity interests in Brownmill LLC, or Brownmill, in order to fulfill our sponsor’s commitment as described above. As a result, we have an approximate aggregate 45.1% equity interest in Brownmill as of June 30, 2012.

Any subordinated profits interests purchased with our sponsor’s interest in real property may have property-level secured indebtedness to which our purchase may be subject. In determining the value of such interests, our Board of Directors will consider our individual and portfolio leverage limitations, the maturity date and interest rate of any such indebtedness and the current state of the real estate debt markets at the time of such purchase in determining the value of such property.

Assuming we sell 30,000,000 shares in this offering, the organization and other offering expenses, including selling commissions and the dealer manager fee, are expected to be approximately $35.5 million. We will pay all organization and other offering expenses in connection with this offering, except that we will use (i) the portion of the dealer manager fee that is not reallowed to participating broker-dealers and (ii) the remaining proceeds from the sale of our subordinated profits interests to pay such expenses to the extent that we do not pay dealer manager fees and selling commissions up to 10% of our gross offering proceeds. Although not assured, Lightstone SLP II LLC may receive distributions (including from sources other than operating cash flow) after stockholders receive a 7% cumulative return, including up to 40% of proceeds upon sale or other disposition of our properties after stockholders have received their initial capital and a 12% cumulative return. Sponsors of other REITs typically receive up to 15% of proceeds after their stockholders receive a 6% or more cumulative return. Although Lightstone SLP II LLC will not receive any distributions until our stockholders receive a 7% cumulative return, any distributions it does receive will lower distributions that would otherwise be made to our stockholders. The cumulative non-compounded return thresholds are based on the distributions (including from sources other than operating cash flow) paid, and therefore do not take into account any decrease in the value of our assets. As a result, our sponsor may have an incentive to increase the amount of distributions even if the value of our assets has decreased. See “Compensation Table.”

Certain of our affiliates, including our sponsor, promoters, advisor and our two affiliated property managers, or our Property Managers, will receive substantial fees and profits in connection with this offering. Such compensation is described more fully below under the heading “Compensation Table” and includes: acquisition fees, asset management fees, regular and liquidation distributions with respect to the subordinated profits interests, reimbursement of certain expenses, and property management fees payable to our Property Managers.

Status of the Initial Public Offering

We commenced our initial public offering of shares of our common stock on February 17, 2009. Our initial public offering terminated on August 15, 2012 and had gross offering proceeds of approximately $49.0 million from the sale of approximately 4.9 million shares of our common stock. In addition, through August 15, 2012 (the termination date of our initial public offering), we have issued approximately 0.3 million shares associated with our DRIP, which represents approximately $2.9 million of additional proceeds.

After allowing for the payment of approximately $5.2 million in selling commissions and dealer manager fees and $4.5 million in organization and other offering expenses through August 15, 2012 (the termination date of our initial public offering), the Company has raised aggregate net offering proceeds of approximately $39.3 million.

Our Sponsor

Our sponsor, David Lichtenstein, who does business as The Lightstone Group and wholly owns the limited liability company of that name, is one of the largest private residential and commercial real estate owners and operators in the United States today, with a diversified portfolio of over 100 properties containing

 

 

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approximately 11,000 multifamily units, 1.3 million square feet of office space, 2.3 million square feet of industrial space, 4 hotels, and 4.5 million square feet of retail space. These residential, office, industrial, hospitality and retail properties are located in 20 states, the District of Columbia and Puerto Rico. Based in New York, and supported by regional offices in New Jersey, Maryland and Illinois, our sponsor employs approximately 450 staff and professionals. Our sponsor has extensive experience in the areas of investment selection, underwriting, due diligence, portfolio management, asset management, property management, leasing, disposition, finance, accounting and investor relations. Our sponsor is also the sponsor of Lightstone Value Plus Real Estate Investment Trust, Inc., or Lightstone I, a non-traded REIT with similar investment objectives to ours. For a description of the recent adverse developments that have affected and may continue to affect some of our sponsor’s properties, see the section of this prospectus captioned “Prior Performance of Affiliates of Our Sponsor — Recent Adverse Business Developments.”

Certain officers and directors of The Lightstone Group and its affiliates also have senior management positions with us. The positions and biographical information for these directors and executive officers can be found in the section “Management” under the heading “Our Directors and Executive Officers” appearing elsewhere in this prospectus.

Our Advisor and our Property Managers

Our advisor is wholly owned by our sponsor. Our advisor, together with our Board of Directors, is and will continue to be primarily responsible for making investment decisions and managing our day-to-day operations. Through his ownership and control of The Lightstone Group, Mr. Lichtenstein is the indirect owner of our advisor and of Lightstone SLP II LLC. Mr. Lichtenstein also acts as our Chairman and Chief Executive Officer. As a result, he controls both the general partner and associate general partner of our Operating Partnership and is the decision-maker of our Operating Partnership.

We do not have and will not have any employees that are not also employed by our sponsor or its affiliates. We depend substantially on our advisor, which generally has responsibility for our day-to-day operations. Under the terms of the advisory agreement, our advisor also undertakes to use its commercially reasonable best efforts to present to us investment opportunities consistent with our investment policies and objectives as adopted by our Board of Directors.

Our Property Managers may manage the properties we acquire. We also use other unaffiliated third-party property managers. Our Property Managers are Paragon Retail Property Management LLC, or Paragon, and Beacon Property Management LLC, or Beacon, both of which are majority-owned and controlled by our sponsor. Paragon manages, leases, develops and redevelops all the factory outlet malls and certain other retail properties controlled by our sponsor. Beacon is a significant manager in the multi-family residential housing sector and oversees the management of approximately 11,000 multifamily units.

Our Operating Partnership

Our structure is generally referred to as an “UPREIT” structure. Substantially all of our assets are or are expected to be held through our Operating Partnership. This structure enables us to acquire assets from other partnerships and individual owners in a manner that will defer the recognition of gain to the partners of the acquired partnerships or the individual owners, assuming certain conditions are met. We provide our stockholders with appropriate tax information including an Internal Revenue Service, or IRS, Form 1099.

 

 

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Summary Risk Factors

An investment in shares of our common stock involves risks, which are described in detail under the heading “Risk Factors.” If we are unable to effectively manage the impact of these risks, we may not meet our investment objectives and, therefore, you may lose some or all of your investment. The most significant risks relating to this offering and an investment in our shares include the following:

•

Because this is considered a “blind pool” offering, you may not have the opportunity to evaluate most of our investments before you make your purchase of our common stock, making your investment more speculative;

•

There are numerous conflicts of interest between our interests or the interests of our advisor, our sponsor, and their respective affiliates;

•

The subordinated profits interests will entitle a wholly owned subsidiary of our sponsor to certain payments and distributions that will significantly reduce the distributions available to stockholders after they receive a 7% cumulative return on their net investment;

•

We currently own a limited number of properties and other real estate-related investments and have not identified most of the investments we will make with the offering proceeds;

•

We may not be able to continue to make distributions and we may borrow to make distributions, which could reduce the cash available to us, and these distributions made with borrowed funds may constitute a return of capital to stockholders;

•

The profitability of our acquisitions is uncertain;

•

The bankruptcy or insolvency of a major commercial tenant would adversely impact us;

•

We are subject to risks associated with the significant dislocations and liquidity disruptions in the United States credit markets;

•

If lenders are not willing to make loans to our sponsor because of defaults on some of our sponsor’s properties, lenders may be less inclined to make loans to us and we may not be able to obtain financing for our acquisitions;

•

There are limitations on ownership and transferability of our shares;

•

Our sponsor’s other public program, Lightstone I, may be engaged in competitive activities;

•

We are a relatively newly formed company with limited operating history upon which to evaluate our likely performance;

•

Stockholders have limited control over changes in our investment objectives and strategies;

•

If our advisor loses or is unable to obtain key personnel, our ability to implement our investment strategies could be hindered, which could adversely affect our ability to make distributions and the value of your investment;

•

Certain of our affiliates will receive substantial fees prior to the payment of dividends to our stockholders;

•

The incentive advisor fee structure may result in our advisor recommending riskier or more speculative investments;

•

No public market currently exists for our shares of common stock, no public market for our shares may ever exist and our shares are, and may continue to be, illiquid;

•

There are significant risks associated with maintaining as high level of leverage as permitted under our charter (which permits leverage of up to 75% of the fair market value of all of our properties);

•

Our advisor may have an incentive to incur high levels of leverage due to the fact that asset management fees payable to our advisor are based on total assets, including assets purchased with indebtedness;

 

 

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•

Our advisor has no direct experience as a property manager and relies on affiliated and unaffiliated, fully established management companies to provide all property management services to our properties;

•

Our ability to diversify our investments may be limited by the number of shares sold in this offering;

•

We may fail to continue to qualify as a REIT for U.S. federal income tax purposes;

•

Our share repurchase program is subject to numerous restrictions, may be suspended at any time and should not be relied upon as a means of liquidity;

•

We may be deemed to be an investment company under the Investment Company Act of 1940, as amended, or the Investment Company Act, and thus subject to regulation under the Investment Company Act; and

•

Changes in applicable laws may adversely affect the income and value of our properties and our investments.

Types of Real Estate We Have Acquired and Plan to Acquire and Manage

We have acquired and intend to continue to acquire residential and commercial properties principally in North America. Our acquisitions may include both portfolios and individual properties. Unlike other REITs, which typically specialize in one sector of the real estate market, we invest and intend to continue to invest in both residential and commercial properties to create a diverse portfolio of property types and take advantage of our sponsor’s expertise in acquiring larger properties and portfolios of both residential and commercial properties. We generally intend to hold each property for seven to ten years.

We are not limited in the number, size or geographical location of any real estate assets. The number and mix of assets we acquire depends, in part, upon real estate and market conditions and other circumstances existing at the time we acquire our assets and, in part, on the net proceeds raised in this offering. We may expand our focus to include properties located outside the United States. If we invest in properties outside of the United States, we intend to focus on properties which we believe to have similar characteristics as those properties in which we have previous investment and management expertise. We do not anticipate that these international investments would comprise more than 10% of our portfolio. Investment in areas outside of the United States may be subject to risks different than those impacting properties in the United States. See “Risk Factors — Risks Associated with Our Properties and the Market — Your investment may be subject to additional risks if we make international investments.”

We have made and/or expect that we will make the following types of real estate investments:

•

Fee interests in market-rate, multifamily properties located either in or near major metropolitan areas. We will attempt to identify those sub-markets with job growth opportunities and demand demographics which support potential long-term value appreciation for multifamily properties.

•

Fee interests in power shopping centers and malls located in highly trafficked retail corridors, in selected high-barrier to entry markets and sub-markets. “Power” shopping centers are large retail complexes that are generally unenclosed and located in suburban areas that typically contain one or more large brand name retailers rather than a department store anchor tenant. We will attempt to identify those sub-markets with constraints on the amount of additional property supply, which will make future competition less likely.

•

Fee interests in improved, multi-tenanted, industrial properties and properties that contain industrial and office space, or industrial flex, located near major transportation arteries and distribution corridors with limited management responsibilities.

•

Fee interests in improved, multi-tenanted, office properties located near major transportation arteries in urban and suburban areas.

•

Fee interests in lodging properties located near major transportation arteries in urban and suburban areas.

 

 

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•

Preferred equity interests in entities that own the property types listed above.

•

Mezzanine loans secured by the pledges of equity interests in entities that own the property types listed above.

•

Commercial mortgage-backed securities secured by mortgages on real property.

•

Collateralized debt obligations.

•

Investments in equity securities issued by public or private real estate companies.

In addition, we further diversify and intend to continue to diversify our portfolio by investing up to 20% of our net assets in collateralized debt obligations, commercial mortgage-backed securities and mortgage and mezzanine loans secured, directly or indirectly, by the same types of properties which we may acquire directly. We may also acquire majority or minority interests in other entities (or business units of such entities) with investment objectives similar to ours or with management, investment or development capabilities that our Board of Directors deems desirable or advantageous to acquire.

Primary Business Objectives and Strategies

Our primary objective is to achieve capital appreciation with a secondary objective of income without subjecting principal to undue risk. We intend to achieve this goal primarily through investments in real estate properties. We intend to use substantially all of the net proceeds from this offering to acquire and operate a diversified portfolio of real estate investments.

If we have not provided some form of liquidity for our stockholders or if our company is not liquidated, generally within seven to ten years after the proceeds from the offering are fully invested, we will cease reinvesting our capital and sell the properties and other assets, either on a portfolio basis or individually, or engage in another transaction approved by our Board of Directors (market conditions permitting) unless our directors, including a majority of our independent directors, determine that, in light of our expected life at any given time, it is deemed to be in the best interest of the stockholders to reinvest proceeds from property sales or refinancings. Alternatively, we may merge with, or otherwise be acquired by, an unaffiliated entity, our sponsor or affiliates of our sponsor.

See the “Investment Objectives and Strategies” section of this prospectus for a more complete description of our business and objectives.

 

 

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Selected Financial Data

As of June 30, 2012, there were approximately 5.1 million shares of our common stock outstanding.

The following selected consolidated and combined financial data are qualified by reference to and should be read in conjunction with our Consolidated Financial Statements and Notes thereto and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” incorporated by reference in this prospectus.

		As of and for the Quarter Ended								As of and for the Six Months Ended								As of and for the Years Ended December 31,												As of December 31, 2008 and for the Period April 28, 2008 (date of inception) through December 31,
Amounts in thousands, except per share data.		June 30, 2012				June 30, 2011				June 30, 2012				June 30, 2011				2011				2010				2009				2008
Operating Data:
Revenues		$	952			$	934			$	1,909			$	1,628			$	2,978			$	—			$	—			$	—
Net income/(loss)			248				108				1,309				(438	)			430				(780	)			(248	)			—
Less: net (income)/loss attributable to noncontrolling interest			(13	)			(15	)			(30	)			(13	)			(28	)			—				—				—
Net income/(loss) applicable to Company’s common shares			235				93				1,279				(451	)			402				(780	)			(248	)			—
Basic and diluted income/(loss) per Company’s common share			0.05				0.02				0.27				(0.12	)			0.10				(0.31	)			(0.98	)			—
Total distributions declared			805				618				1,562				1,195				2,587				1,631				157				—
Weighted average common shares outstanding – basic and diluted			4,971				3,820				4,823				3,710				3,978				2,540				255				—
Balance Sheet Data:
Total assets		$	49,874			$	33,032			$	49,874			$	33,032			$	38,072			$	29,535			$	10,395			$	202
Long-term obligations			5,977				—				5,977				—				—				—				—				—
Company’s stockholder’s equity			34,201				27,121				34,201				27,121				28,547				24,919				7,557				200
Other financial data:
Funds from operations (FFO) attributable to Company’s common shares (1)		$	492			$	347			$	1,044			$	(18	)		$	1,279			$	(391	)		$	(248	)		$	—

(1)

For more information about FFO and MFFO, please see “Investment Objectives and Strategies — Funds from Operations and Modified Funds from Operations.”

For additional information, including financial statements, please see our Annual Report on Form 10-K for the fiscal year ended December 31, 2011, filed with the SEC on March 30, 2012, our Quarterly Report on Form 10-Q for the quarter ended March 31, 2012, filed with the SEC on May 14, 2012, and our Quarterly Report on Form 10-Q for the quarter ended June 30, 2012, filed with the SEC on August 14, 2012.

 

 

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Our Structure

The following chart depicts our structure and the services that affiliates of our sponsor will render to us:

(1)

Our Property Managers are Paragon and Beacon. For more information on our Property Managers, please see the section of this prospectus captioned “Management — Our Advisor and Our Property Managers and the Management Agreements.”

Conflicts of Interest

Conflicts of interest may exist between us and some of our affiliates, including our sponsor and advisor. Some of these potential conflicts include:

•

the possibility that our affiliates may invest in properties that meet our investment profile;

•

competition for the time and services of personnel that work for us and our affiliates;

•

substantial compensation payable by us to our advisor, Property Managers and affiliates for their various services, which may not be on market terms and is payable, in some cases, whether or not our stockholders receive distributions; and

•

the possibility that we may do business with entities that have pre-existing relationships with our affiliates which may result in a conflict between our business and the ongoing business relationships our affiliates have with each other.

 

 

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Conflicts of interest may also arise in connection with the potential sale or refinancing of our properties or the enforcement of agreements.

See “Conflicts of Interest” for more details of these and other conflicts of interest.

Status of Fees Paid and Deferred

From our inception through December 31, 2009, we did not reimburse our advisor for any organization and other offering expenses. For the years ended December 31, 2011 and 2010, we reimbursed our advisor approximately zero and $1.7 million for organization and other offering expenses, respectively. For the six months ended June 30, 2012, we did not reimburse our advisor for any organization and other offering expenses.

The following table shows the other amounts paid and/or accrued to our advisor and its affiliates from inception through June 30, 2012.

						For the Year Ended December 31, 2011				For the Year Ended December 31, 2010				For the Year Ended December 31, 2009				For the Period April 28, 2008 (date of inception) through December 31, 2008
		For the Six Months Ended June 30, 2012
Organization and other offering expenses		$	—			$	—			$	—			$	—			$	—
Acquisition fees			—				141,509				74,642				16,055			$	—
Asset management fees			144,969				267,370				95,786				2,676				—
Property management fees			—				—				—				—				—
Acquisition expenses reimbursed to advisor			—				—				—				—				—
Development fees			—				—				—				—				—
Leasing commissions			—				—				—				—				—
Total		$	144,969			$	408,879			$	170,428			$	18,731			$	—

Through June 30, 2012, no fees have been deferred.

Actual Use of Proceeds of the Initial Public Offering and Estimated Use of the Proceeds of This Follow-On Offering

The amounts listed in the table below represent the use of the offering proceeds under two scenarios. The table does not give effect to the sale of any shares of common stock under our DRIP.

The first scenario, “Initial Public Offering Amount,” is based on the actual receipt and application of offering proceeds through June 30, 2012. The second scenario, “Maximum Follow-on Offering Amount,” is based on estimates assuming that we sell the maximum of 30,000,000 shares in this offering at $10 per share. Our current estimates may not accurately reflect the actual receipt or application of the offering proceeds.

We will pay all organization and other offering expenses in connection with this offering, except that we will use (i) the portion of the dealer manager fee that is not reallowed to participating broker-dealers and (ii) the remaining proceeds from the sale of our subordinated profits interests to pay such expenses to the extent that we do not pay dealer manager fees and selling commissions up to 10% of our gross offering proceeds.

 

 

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Additionally, for the estimated scenario presented in the following table we have not given effect to the following:

•

any special sales or volume discounts which could reduce selling commissions; and

•

that our sponsor may continue to elect to contribute interests in real property in lieu of cash in exchange for subordinated profits interests.

		Initial Public Offering Amount				Percent				Maximum Follow-On Offering Amount				Percent
Gross offering proceeds from investors		$	48,639,060							$	300,000,000
Add proceeds from cash sale of subordinated profits interests to sponsor and contributions of property to our Operating Partnership		$	4,600,000							$	30,000,000
Gross offering proceeds		$	53,239,060				100.00	%		$	330,000,000				100	%
Less offering expenses
Selling commissions and dealer manager fee		$	5,096,003				9.57	%		$	30,000,000				9.09	%
Organization and other offering expenses		$	5,024,303				9.44	%		$	5,450,000				1.65	%
Total proceeds after offering expenses		$	43,118,754				80.99	%		$	294,550,000				89.26	%
Less acquisition costs
Acquisition fees		$	232,206				0.44	%		$	2,832,000				0.86	%
Acquisition expenses		$	219,975				0.41	%		$	1,341,000				0.41	%
Less initial working capital reserves		$	—				—			$	1,500,000				0.45	%
Total proceeds available for investment		$	42,666,573				80.14	%		$	288,877,000				87.54	%

From our inception date through June 30, 2012, we have used the cumulative total proceeds available for investment from our initial public offering as follows:

(Dollars in thousands)
Purchase of investment property, net of mortgage financings		$	6,587
Purchase of investments in unconsolidated affiliated entities			3,993
Contributions of investments in unconsolidated affiliated entities received in exchange for issuance of subordinated profits interests			4,400
Purchase of mortgage loan receivable, net of collections			7,029
Purchase of marketable securities, net of margin loan			4,886
Cash and cash equivalents (as of June 30, 2012)			12,826
Cash distributions not funded by operations (1)			1,523
Deposits for investments in real estate			1,875
Other uses (primarily timing of payables)			(452	)
Total uses		$	42,667

(1)

We have paid and may continue to pay distributions from offering proceeds if we have not generated sufficient cash flow from our operations to fund distributions. Our ability to pay regular distributions and the size of these distributions will depend upon a variety of factors. If we pay such distributions from offering proceeds then we will have less offering proceeds available for investment. From our inception through June 30, 2012, we have paid approximately $1.5 million out of offering proceeds to fund cash distributions to our stockholders. As we invest the offering proceeds, we believe that we will, over time, generate excess funds from operations, or FFO, to cover these distributions paid out of offering proceeds.

Distribution Reinvestment and Share Repurchase Programs

Our DRIP provides our stockholders with an opportunity to purchase additional shares of our common stock at a discount by reinvesting distributions.

 

 

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Our share repurchase program may provide our stockholders with limited interim liquidity by enabling them to sell their shares back to us, subject to restrictions.

From our inception through December 31, 2009, we did not receive any requests to repurchase shares under our share repurchase program. For the years ended December 31, 2011 and 2010, we received requests to repurchase 48,154, and 2,675 shares of our common stock, respectively, and for the six months ended June 30, 2012 we received requests to repurchase 28,013 shares of our common stock, pursuant to our share repurchase program. We redeemed 100% of the repurchase requests at an average price per share of $9.00 per share. We funded share repurchases for the periods noted above from the cumulative proceeds of the sale of our shares pursuant to our DRIP.

However, our Board of Directors reserves the right to terminate either program for any reason without cause by providing written notice of termination of the DRIP to all participants or written notice of termination of the share repurchase program to all stockholders. Both programs are described in greater detail under the heading “Distribution Reinvestment and Share Repurchase Programs” below.

Financing Strategy

We have utilized and intend to continue to utilize leverage to make our investments. The number of different investments we will acquire will be affected by numerous factors, including, the amount of funds available to us. When interest rates on mortgage loans are high or financing is otherwise unavailable on terms that are satisfactory to us, we may purchase certain investments for cash with the intention of obtaining a mortgage loan for a portion of the purchase price at a later time. There is no limitation on the amount we may invest in any single investment or on the amount we can borrow for the purchase of any investment.

We believe our aggregate borrowings, secured and unsecured, will be reasonable in relation to our net assets and will be reviewed by our Board of Directors at least quarterly. The maximum amount of these borrowings in relation to net assets will not exceed 300% of net assets in the absence of a satisfactory showing that a higher level of borrowing is appropriate, approval by a majority of our independent directors and disclosure to our stockholders. Net assets means our total assets, other than intangibles, at cost before deducting depreciation, reserves for bad debts or other non-cash reserves less our total liabilities, calculated at least quarterly on a basis consistently applied. Any excess in borrowing over this 300% level will be approved by a majority of independent directors and disclosed to our stockholders in our next quarterly report, along with justification for such excess.

Further, our charter limits our aggregate long-term permanent borrowings to 75% of the aggregate fair market value of all properties unless any excess borrowing is approved by a majority of our independent directors and is disclosed to our stockholders.

In addition, our charter prohibits us from making or investing in mortgage loans, including construction loans, on any one property if the aggregate amount of all mortgage loans outstanding on the property, including our loans, would exceed 85% of the property’s appraised value, unless substantial justification exists and the loans would not exceed the property’s appraised value.

By operating on a leveraged basis, we will have more funds available for our investments. This will allow us to make more investments than would otherwise be possible, resulting in a more diversified portfolio. Although our liability for the repayment of indebtedness is expected to be limited to the value of the property securing the liability and the rents or profits derived therefrom, our use of leveraging increases the risk of default on the mortgage payments and a resulting foreclosure of a particular property. To the extent that we do not obtain mortgage loans on our properties, our ability to acquire additional properties will be restricted. We will endeavor to obtain financing on the most favorable terms available. We expect that our loans will be non-recourse mortgage loans; however, our lenders may have recourse to assets not securing the repayment of the indebtedness if we determine that it is beneficial for us to make a recourse loan. Our sponsor may refinance properties during the term of a loan, such as when a decline in interest rates makes it beneficial to prepay an existing mortgage or when an existing mortgage matures. The benefits of the refinancing may include an increased cash flow resulting from reduced debt service requirements or an increase in distributions from proceeds of the refinancing.

 

 

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Suitability Standards

In order to purchase shares, you must meet the financial suitability standards we have established for this offering. In general you must have either $70,000 in annual gross income and a minimum net worth of $70,000 or a minimum net worth of $250,000. However, residents of some states must meet higher suitability standards under state law. See “Suitability Standards” elsewhere in this prospectus. Employee benefit plans covered by ERISA must consider additional factors before investing. See “ERISA Considerations” elsewhere in this prospectus. To invest in this offering, you must complete a subscription agreement which, in part, provides that you meet these standards.

Distributions

U.S. federal income tax law requires that a REIT distribute annually at least 90% of its REIT taxable income (which does not equal net income, as calculated in accordance with GAAP) determined without regard to the deduction for dividends paid and excluding net capital gain. In order to continue to qualify for REIT status, we may be required to make distributions in excess of cash available. For a discussion of the tax treatment of distributions to you, see “Material U.S. Federal Income Tax Considerations.”

Distributions will be authorized at the discretion of our Board of Directors. We commenced quarterly distributions beginning with the fourth quarter of 2009 and we have generally paid such distributions from cash proceeds from the sale of our common stock. We may continue to pay such distributions from the sale of our common stock or borrowings if we have not generated sufficient cash flow from our operations to fund distributions. Our ability to pay regular distributions and the size of these distributions will depend upon a variety of factors. For example, our borrowing policy permits us to incur short-term indebtedness, having a maturity of two years or less, and we may have to borrow funds on a short-term basis to meet the distribution requirements that are necessary to achieve the U.S. federal income tax benefits associated with qualifying as a REIT. We cannot assure that regular distributions will continue to be made or that we will maintain any particular level of distributions that we have established or may establish.

We are an accrual basis taxpayer, and as such our REIT taxable income could be higher than the cash available to us. We may therefore borrow to make distributions, which could reduce the cash available to us, in order to distribute 90% of our REIT taxable income as a condition to our election to be taxed as a REIT. These distributions made with borrowed funds may constitute a return of capital to stockholders. “Return of capital” refers to distributions to investors in excess of net income. To the extent that distributions to stockholders exceed earnings and profits, such amounts constitute a return of capital for U.S. federal income tax purposes, although such distributions might not reduce stockholders’ aggregate invested capital. Because our earnings and profits are reduced for depreciation and other non-cash items, it is likely that a portion of each distribution will constitute a tax-deferred return of capital for U.S. federal income tax purposes.

 

 

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Distributions Authorized by our Board of Directors and Source of Distributions

On March 30, 2009, our Board of Directors authorized, and we declared, an annualized distribution rate, or the Annualized Distribution Rate, for each quarterly period commencing 30 days subsequent to our achieving the minimum offering of 500,000 shares. The distribution is calculated based on stockholders of record each day during the applicable period at a rate of $0.00178082191 per share per day, and equals a daily amount that, if paid each day for a 365-day period, would equal a 6.5% annualized rate based on the share price of $10.00.

At the beginning of October 2009, we achieved the minimum offering of 500,000 shares and on November 3, 2009, our Board of Directors authorized, and we declared, our first quarterly distribution at the Annualized Distribution Rate for the three-month period ending December 31, 2009. Subsequently, our Board of Directors authorized, and we declared, regular quarterly distributions at the Annualized Distribution Rate. The following tables provides a summary of our quarterly distributions declared for the quarters ended June 30, 2012 and 2011, the quarters ended March 31, 2012 and 2011 and the year ended December 31, 2011, respectively. Our stockholders have the option to elect the receipt of shares in lieu of cash under our DRIP.

Amounts in thousands.		Six Months Ended June 30, 2012								Quarter Ended June 30, 2012								Quarter Ended March 31, 2012
Distribution period							Percentage of Distributions				Q2 2012				Percentage of Distributions				Q1 2012				Percentage of Distributions
Date distribution declared											May 14, 2012								March 30, 2012
Date distribution paid											July 13, 2012								April 13, 2012
Distributions paid		$	840							$	433							$	407
Distributions reinvested			722								372								350
Total distributions		$	1,562							$	805							$	757
Source of distributions:
Cash flows provided by operations		$	585				37	%		$	200				25	%		$	385				51	%
Offering proceeds			255				16	%			233				29	%			22				3	%
Proceeds from issuance of common stock through DRIP			722				47	%			372				46	%			350				46	%
Total sources		$	1,562				100	%		$	805				100	%		$	757				100	%
Cash flows provided by operations (GAAP basis)		$	585							$	200							$	385
Number of shares (in thousands) of common stock issued pursuant to DRIP			75								39								36

Amounts in thousands.		Six Months Ended June 30, 2011								Quarter Ended June 30, 2011								Quarter Ended March 31, 2011
Distribution period							Percentage of Distributions				Q2 2011				Percentage of Distributions				Q1 2011				Percentage of Distributions
Date distribution declared											May 13, 2011								March 4, 2011
Date distribution paid											July 15, 2011								April 15, 2011
Distributions paid		$	609							$	319							$	290
Distributions reinvested			588								300								288
Total distributions		$	1,197							$	619							$	578
Source of distributions:
Cash flows provided by operations		$	319				27	%		$	319				52	%		$	—				0	%
Offering proceeds			290				24	%			—				0	%			290				50	%
Proceeds from issuance of common stock through DRIP			588				49	%			300				48	%			288				50	%
Total sources		$	1,197				100	%		$	619				100	%		$	578				100	%
Cash flows (used in)/provided by operations (GAAP basis)		$	(376	)						$	556							$	(932	)
Number of shares (in thousands) of common stock issued pursuant to DRIP			62								32								30

 

 

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		2011
Amounts in thousands		Year ended December 31,								Quarter ended December 31,								Quarter ended September 30,								Quarter ended June 30,								Quarter ended March 31,
Distribution period			2011 Year				Percentage of Distributions				Q4 2011				Percentage of Distributions				Q3 2011				Percentage of Distributions				Q2 2011				Percentage of Distributions				Q1 2011				Percentage of Distributions
Date distribution declared											November 11, 2011								August 12, 2011								May 13, 2011								March 4, 2011
Date distribution paid											January 13, 2012								October 14, 2011								July 15, 2011								April 15, 2011
Distribution paid		$	1,331							$	375							$	347							$	319							$	290
Distribution reinvested			1,256								342								326								300								288
Total distribution		$	2,587							$	717							$	673							$	619							$	578
Source of distributions
Cash flows provided by operations		$	976				38	%		$	310				43	%		$	347				52	%		$	319				52	%		$	—				0	%
Offering proceeds, investment in affiliates and excess cash			355				14	%			65				9	%			—				0	%			—				0	%			290				50	%
Proceeds from issuance of common stock through DRIP			1,256				48	%			342				48	%			326				48	%			300				48	%			288				50	%
Total sources		$	2,587				100	%		$	717				100	%		$	673				100	%		$	619				100	%		$	578				100	%
Cash flows provided by (used in) operations (GAAP basis)		$	1,405							$	310							$	1,471							$	556							$	(932	)
Number of shares of common stock issued pursuant to DRIP			132								36								34								32								30

On August 10, 2012, our Board of Directors authorized, and we declared, the quarterly distributions for the three-month period ended September 30, 2012 in the amount of $0.00178082191 per share per day payable to stockholders of record on the close of business each day during the quarter, which will be paid on October 15, 2012.

We are an accrual basis taxpayer and, as such, our REIT taxable income could be higher than the cash available to us. We may therefore borrow to make distributions, which could reduce the cash available to us, in order to distribute 90% of our REIT taxable income as a condition to our election to be taxed as a REIT. These distributions made with borrowed funds may constitute a tax-deferred return of capital for U.S. federal income tax purposes. “Return of capital” refers to distributions to investors in excess of net income. Because our earnings and profits are reduced for depreciation and other non-cash items, it is likely that a portion of each distribution will constitute a return of capital. Because each investor’s tax considerations are different, we recommend that each investor consults with its own tax advisor.

Information Regarding Dilution

In connection with the intial public offering of shares of our common stock and this follow-on offering, we are providing information about our net tangible book value per share. Our net tangible book value per share is a mechanical calculation using amounts from our audited balance sheet, and is calculated as (1) total book value of our assets (2) minus total liabilities, (3) divided by the total number of shares of common stock outstanding. It assumes that the value of real estate, and real estate-related assets and liabilities diminish predictably over time as shown through the depreciation and amortization of real estate investments. Real estate values have historically risen or fallen with market conditions. Net tangible book value is used generally as a conservative measure of net worth that we do not believe reflects our estimated fair value per share. It is not intended to reflect the value of our assets upon an orderly liquidation of the company in accordance with our investment objectives. Our net tangible book value reflects dilution in the value of our common stock from the issue price as a result of (i) operating losses, which reflect accumulated depreciation and amortization of real estate investments, (ii) the funding of distributions from sources other than our cash flow from operations, and (iii) fees paid in connection with our public offering, including commissions, dealer manager fees and organization and other offering expenses. As of June 30, 2012, our net tangible book value

 

 

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per share was $7.75. The offering price of shares (ignoring purchase price discounts for certain categories of purchasers) in this follow-on offering is $10.00.

Our offering price was not established on an independent basis and bears no relationship to the net value of our assets. Further, even without depreciation in the value of our assets, the other factors described above with respect to the dilution in the value of our common stock are likely to cause our offering price to be higher than the amount you would receive per share if we were to liquidate at this time.

Appropriateness of an Investment in Us

An investment in us might be appropriate as part of your investment portfolio if you are looking for regular distributions. Our primary goal is achieve capital appreciation with a secondary objective of income without subjecting principal to undue risk. We plan to achieve our primary goal by acquiring and managing a portfolio of commercial and residential properties. We cannot guarantee that we will achieve this goal. Moreover, while we intend to continue to make regular quarterly distributions to our stockholders, distributions will be made at the discretion of our Board of Directors, and we cannot assure you that regular distributions will continue to be made or that any particular level of distributions will be maintained. In order to be qualified as a REIT, we are required under U.S. federal income tax law to annually distribute to our stockholders at least 90% of our REIT taxable income (which does not equal net income, as calculated in accordance with GAAP) determined without regard to the deduction for dividends paid and excluding any net capital gain. If we fail to make such distributions, we will not be able to maintain our qualification as a REIT.

An investment in us will not be appropriate for you unless you are prepared to retain our shares for approximately seven to ten years. There is no public trading market for our shares and we do not expect a public trading market for our shares to develop in the near term. The absence of an active public market for our shares could impair your ability to sell our stock at a profit or at all. Within seven to ten years after the net proceeds of this offering are fully invested, our Board of Directors may determine that it is in our best interests to apply to have the shares listed on a national stock exchange or included for quotation on a national market system if we meet the applicable listing requirements at that time. Alternatively, our Board of Directors may decide that it is in our best interests to liquidate or to merge or otherwise consolidate with a publicly-traded REIT or merge with, or otherwise be acquired by, an unaffiliated third party, our sponsor or affiliates of our sponsor. Therefore, our shares should be purchased as a long-term investment only.

Compensation

We pay our advisor, our Property Managers, our dealer manager, The Lightstone Group and their affiliates fees and reimburse certain expenses for services rendered to us. Outlined below are the most significant items of compensation. For a more complete explanation of the fees and expenses, as well as the restrictions on compensation, see the sections captioned “Compensation Table” and “Compensation Restrictions.”

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Acquisition Fee :  Our advisor will be paid an acquisition fee in an amount equal to 0.95% of the gross contract purchase price (including any mortgage assumed) of the property purchased. Our advisor will also be reimbursed for expenses incurred in connection with purchase of the property. The acquisition fee and expenses for any particular property, including amounts payable to affiliates, will not exceed, in the aggregate, 5% of the gross contractual purchase price (including any mortgage assumed) of the property acquired. From our inception through June 30, 2012, we incurred and paid approximately $0.2 million of acquisition fees to our advisor. Assuming we achieve the maximum follow-on offering, we currently estimate that the acquisition fees paid to our advisor will be approximately $2.8 million, or $11.3 million with maximum leverage of 75%.

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Property Management Fees :  Our Property Managers and unaffiliated third-party property managers have been and will continue to be paid monthly management fees of 5% of the gross revenues from our residential and retail properties, up to 4.5% of gross revenues from our office and industrial properties and up to 5% of revenues from our hotel properties. Notwithstanding the foregoing, our Property Managers and unaffiliated third-party property managers may be entitled to receive higher fees in the event that they demonstrate to the satisfaction of a

 

 

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majority of our directors (including a majority of our independent directors) that a higher competitive fee is justified for the services rendered. In addition, we may pay our Property Managers and unaffiliated third-party property managers a separate fee for the one-time initial rent-up or leasing-up of newly constructed properties in an amount not to exceed the fee customarily charged in arm’s-length transactions by others rendering similar services in the same geographic area for similar properties as determined by a survey of brokers and agents in such area. From our date of inception through June 30, 2012, we incurred and paid approximately $0.1 million of property management fees to unaffiliated third-party property managers. The actual amounts of future property management fees are dependent upon results of operations and, therefore, cannot be determined at the present time.

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Asset Management Fee :  Our advisor will be paid an asset management fee of 0.95% of our average invested assets. Average invested assets means the average of the aggregate book value of our assets invested in equity interests in, and loans secured by, real estate before deducting reserves for depreciation, bad debts or other non-cash reserves. We will compute the average invested assets by taking the average of these book values at the end of each month during the quarter for which we are calculating the fee. From our date of inception through June 30, 2012, we incurred and paid approximately $0.5 million of asset management fees to our advisor. The actual amount of the future asset management fees depends on the amount of the average invested assets at the time and, therefore, cannot be determined at the present time.

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Distributions From Operating Cash Flow to Lightstone SLP II LLC :

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We cannot assure investors will receive the cumulative non-compounded returns discussed below, which we disclose solely as a measure for presenting the compensation of our sponsor and its affiliates. The cumulative non-compounded return thresholds are based on the distributions (including from sources other than operating cash flow) paid, and therefore do not take into account any decrease in the value of our assets. As a result, our sponsor may have an incentive to increase the amount of distributions even if the value of our assets has decreased.

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We will first distribute cash available for distribution to the holders of our common stock until these holders have received distributions equal to a cumulative non-compounded return of 7% per year on their net investment. “Net investment” refers to $10 per share, less a pro rata share of any proceeds received from the sale or refinancing of properties. Until this 7% threshold is reached, our Operating Partnership will not pay to Lightstone SLP II LLC any distributions with respect to the subordinated profits interests. After the first 7% threshold is reached, our Operating Partnership will make all of its distributions (including from sources other than operating cash flow) to Lightstone SLP II LLC until that entity receives an amount equal to a cumulative non-compounded return of 7% per year on the price of the subordinated profits interests. The amount of cash available for distribution to SLP II LLC is determined under the terms of our Operating Partnership’s limited partnership agreement, and may consist of offering proceeds and proceeds from borrowings. Commencing with the quarter ended December 31, 2009, our Board of Directors has authorized, and we declared, regular quarterly distributions at the Annualized Distribution Rate. Because the Annualized Distribution Rate equals a 6.5% annualized rate based on the share price of $10.00, no distributions have been made to Lightstone SLP II LLC with respect to subordinated profits interests.

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After this second 7% threshold is reached and until the holders of our common stock have received distributions in an amount equal to a cumulative non-compounded return of 12% per year on their net investment (including, for the purpose of the calculation of such amount, the amounts equaling a 7% return on their net investment, as defined above), 70% of the aggregate amount of any additional distributions by our Operating Partnership will be payable to us (and the limited partners entitled to such distributions under the terms of our Operating Partnership’s limited partnership agreement), which we will distribute to the holders of our common stock, and 30% of such amount will be payable by our Operating Partnership to Lightstone SLP II LLC. After this 12% threshold is reached, 60% of the aggregate amount of any additional

 

 

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distributions by our Operating Partnership will be payable to us (and the limited partners entitled to such distributions under the terms of our Operating Partnership’s limited partnership agreement), which we will distribute to the holders of our common stock, and 40% of such amount will be payable by our Operating Partnership to Lightstone SLP II LLC. The amount of cash available for distribution to SLP II LLC is determined under the terms of our Operating Partnership’s limited partnership agreement, and may consist of offering proceeds and proceeds from borrowings. Because the Annualized Distribution Rate equals a 6.5% annualized rate based on the share price of $10.00, no distributions have been made to Lightstone SLP II LLC with respect to subordinated profits interests. The actual amounts of any future distributions to Lightstone SLP II LLC depend on our results of operations and, therefore, cannot be determined at the present time.

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Liquidation Distributions to Lightstone SLP II LLC:

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Distributions in connection with our liquidation will be made initially to us, which we will distribute to holders of our common stock, until these holders have received liquidation distributions equal to their initial investment plus a cumulative non-compounded return of 7% per year on their net investment, as defined above. Until this initial 7% threshold is reached, our Operating Partnership will not pay to Lightstone SLP II LLC any special liquidation distribution in connection with our liquidation. After the first 7% threshold is reached, Lightstone SLP II LLC will receive special liquidation distributions with respect to the purchase price of the subordinated profits interests that it received in exchange for agreeing to pay dealer manager fees and selling commissions until it receives an amount equal to the purchase price of the subordinated profits interests plus a cumulative non-compounded return of 7% per year on the purchase price of those interests. The actual amounts to be received depend upon the net sale proceeds upon our liquidation and, therefore, cannot be determined at the present time.

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After this second 7% threshold is reached and until the holders of our common stock have received an amount equal to their initial investment plus a cumulative non-compounded return of 12% per year on their net investment (including, for the purpose of the calculation of such amount, the amounts described in the immediately preceding bullet point), 70% of the aggregate amount of any additional distributions by our Operating Partnership will be payable to us (and the limited partners entitled to such distributions under the terms of our Operating Partnership’s limited partnership agreement), which we will distribute to the holders of our common stock, and 30% of such amount will be payable by our Operating Partnership to Lightstone SLP II LLC. No distributions have been made to Lightstone SLP II LLC with respect to subordinated profits interests. The actual amounts to be received depend upon the net sale proceeds upon our liquidation and, therefore, cannot be determined at the present time.

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After this 12% threshold is reached, 60% of the aggregate amount of any additional distributions by our Operating Partnership will be payable to us (and the limited partners entitled to such distributions under the terms of our Operating Partnership’s limited partnership agreement), which we will distribute to the holders of our common stock, and 40% of such amount will be payable by our Operating Partnership to Lightstone SLP II LLC. No distributions have been made to Lightstone SLP II LLC with respect to subordinated profits interests. The actual amounts to be received depend upon the net sale proceeds upon our liquidation and, therefore, cannot be determined at the present time.

There are also a number of other items of compensation and expense reimbursement that our advisor, our sponsor or any of our sponsor’s affiliates may receive. The table set forth below briefly outlines certain additional fees in connection with the offering, but should not be relied on as a complete description of all the terms of all of such fees. For a more complete explanation of the fees and expenses, please see the section of this prospectus captioned “Compensation Table.”

 

 

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Type of Compensation and Recipient		Method of Compensation		Actual and Estimated Maximum Dollar Amount
Organizational and Offering Stage
Selling commissions paid to participating broker-dealers and dealer manager fees paid to dealer manager.		Up to 7% of gross offering proceeds for commissions paid to participating broker-dealers.    Up to 3% of gross offering proceeds paid to our dealer manager before reallowance to participating broker-dealers. Orchard Securities, in its sole discretion, may reallow all or any portion of its dealer manager fee of up to 3% of the gross offering proceeds to be paid to such participating broker-dealers.    We have sold and will continue to sell subordinated profits interests of our Operating Partnership to Lightstone SLP II LLC and will use the proceeds to pay selling commissions and dealer manager fees.		We have incurred approximately $3.4 million of selling commissions from our inception through June 30, 2012 related to our initial public offering. We currently estimate selling commissions of approximately $21.0 million if the maximum follow-on offering is sold.    We have incurred approximately $1.7 million of dealer manager fees from our inception through June 30, 2012 related to our initial public offering. We currently estimate dealer manager fees of approximately $9.0 million if the maximum follow-on offering is sold.

 

 

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Type of Compensation and Recipient		Method of Compensation		Actual and Estimated Maximum Dollar Amount
Reimbursement to us by our advisor of certain operating expenses.		Our advisor must reimburse us for the amounts, if any, by which our total operating expenses, the sum of the asset management fee plus other operating expenses, paid during the previous fiscal year exceed the greater of:    2% of our average invested assets for that fiscal year; or    25% of our net income for that fiscal year;		The actual amounts of reimbursable expenses in connection with this offering are dependent upon results of operations and, therefore, cannot be determined at the present time. From our inception through June 30, 2012, we have not reimbursed our advisor for any expenses.
		Items such as interest payments, taxes, non-cash expenditures, the special liquidation distribution, organization and offering expenses, and acquisition fees and expenses are excluded from the definition of total operating expenses, which otherwise includes the aggregate expenses of any kind paid or incurred by us. Excess amounts relating to items listed above may not need to be reimbursed. See “Management — Our Advisory Agreement” for an explanation of circumstances where the excess amount specified above may not need to be reimbursed.
Reimbursable expenses to our advisor. These may include costs of goods and services, administrative services and non-supervisory services performed directly for us by independent parties.		We will reimburse some expenses of our advisor related to our organization and this offering. We will reimburse our advisor for acquisition expenses up to a maximum amount which, collectively with all acquisition expenses and fees, will not exceed, in the aggregate, 5% of the gross contractual price (including any mortgage assumed) of the property acquired. The compensation and reimbursements to our advisor will be approved by a majority of our directors and a majority of our independent directors as fair and reasonable for us.		The actual amounts of reimbursable expenses in connection with this offering are dependent upon results of operations and, therefore, cannot be determined at the present time. The reimbursable expenses are subject to aggregate limitations on our operating expenses referred to under “Non-Subordinated Payments — Operational Stage — Asset Management Fee Paid to our Advisor” above.

 

 

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Type of Compensation and Recipient		Method of Compensation		Actual and Estimated Maximum Dollar Amount
Organization and other offering expenses.		We will reimburse our advisor for all organization and other offering expenses in connection with this offering, other than the selling commissions and dealer manager fees, which we have paid for and will continue to pay for with the proceeds of sales to SLP II of subordinated profits interests in our operating partnership. We expect that such organization and other offering expenses, other than the selling commissions and dealer manager fees, will amount to approximately 1.1% of gross offering proceeds.		From our inception through June 30, 2012, we incurred and paid approximately $5.0 million of organization and other offering expenses, other than selling commissions and dealer manager fees, including approximately $1.7 million of reimbursements to our advisor related to our initial public offering. We currently estimate organization and other offering expenses, other than selling commissions and dealer manager fees, of approximately $3.3 million if the maximum follow-on offering is sold.

The selling commissions paid to unaffiliated broker-dealers and the dealer manager fee are unsubordinated payments that we are contractually obligated to make regardless of our sale of the subordinated profits interests. In a separate agreement, Lightstone SLP II LLC has committed to purchase subordinated profits interests semi-annually at a price of $100,000 for each $1,000,000 in subscriptions that we accept until the earlier of (i) the time we achieve the maximum follow-on offering or (ii) the termination of the follow-on offering. Our sponsor may elect to purchase subordinated profits interests for cash or may contribute interests in real property of equivalent value. The proceeds received from the cash sale of subordinated profits interests will be used to pay the dealer manager fees and selling commissions. If our sponsor elects to purchase subordinated profits interests with interests in real properties, a majority of our Board of Directors (including a majority of our independent directors) will determine the value of the interest based on an appraisal obtained by a qualified independent real estate appraiser concerning the underlying value of the property. If our sponsor elects to contribute interests in real property in exchange for the maximum number of subordinated profits interests, we would own real property interests valued at the time of contribution at $30,000,000 if we achieve the maximum follow-on offering in each case without paying any acquisition fees or acquisition expenses. Any subordinated profits interests purchased with our sponsor’s interest in real property may have property-level secured indebtedness to which our purchase may be subject. In determining the value of such interests, our Board of Directors will consider our individual and portfolio leverage limitations, the maturity date and interest rate of any such indebtedness and the current state of the real estate debt markets at the time of such purchase in determining the value of such property.

In consideration of its purchase of subordinated profits interests, Lightstone SLP II LLC will receive an interest in our regular and liquidation distributions. See “Compensation Table — Subordinated Payments.” These distributions to Lightstone SLP II LLC are always subordinated to our stockholders’ receipt of a stated preferred return and are unrelated to the payments to our dealer manager and unaffiliated participating broker-dealers discussed above.

Distribution Chart

We have made and intend to continue to make distributions to our stockholders. Since the period beginning October 1, 2009, our Board of Directors has authorized quarterly distributions in the amount of $0.00178082191 per share per day payable to stockholders of record at the close of business each during the applicable period. The annualized rate declared was equal to 6.5%, which represents the annualized rate of return on an investment of $10.00 per share attributable to these daily amounts, if paid for each day for a 365- day period. Total distributions declared for the six months ended June 30, 2012 and the years ended December 31, 2011, 2010 and 2009 were $1.6 million, $2.6 million, $1.6 million and $0.2 million, respectively. Additionally, for the quarter ended September 30, 2012, our Board of Directors authorized a distribution at an annualized rate of 6.5% on August 10, 2012, which will be paid on October 15, 2012. In

 

 

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addition, the subordinated profits interests will entitle Lightstone SLP II LLC to certain distributions from our Operating Partnership, but only after our stockholders have received a stated preferred return. The following table sets forth information with respect to the apportionment of any regular and liquidation distributions that our Operating Partnership may make among Lightstone SLP II LLC and us, which we will distribute to our stockholders. The return calculations outlined below account for all regular and liquidation distributions that our Operating Partnership has made to Lightstone SLP II LLC and to us, which we will distribute to our stockholders. For a more detailed discussion of distribution apportionment, see “Summary of Our Organizational Documents — Operating Partnership Agreement.”

Note that the chart reads chronologically from top to bottom, so that all distributions are initially made to stockholders in accordance with row (i), until the stockholders have received a return of 7% on their net investment. For purposes of the preceding sentence, “net investment” refers to $10 per share, less a pro rata share of any proceeds received from the sale or refinancing of properties. Then, all distributions (including from sources other than operating cash flow) will be made to Lightstone SLP II LLC in accordance with row (ii) until that entity has received 7% on its net investment. Row (iii) will then apply, and after that row (iv).

 

 

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We cannot assure investors of the cumulative non-compounded returns discussed below, which we disclose solely as a measure for the incentive compensation of our sponsor, advisor and affiliates.

Recipient(s) of Distribution (Listed Chronologically)

Apportionment of Distributions

Cumulative Non-Compounded Return Threshold (That Initiates Next Level of Distributions)

(i) Stockholders

100%

7% per year on stockholders’ net investment (and, in the case of liquidation, an amount equal to the stockholders’ initial investment)

(ii) Lightstone SLP II LLC

100%

7% per year on subordinated profits interest purchase price (and, in case of liquidation, an amount equal to the purchase price of the subordinated profits interest)

(iii) Stockholders/Lightstone SLP II LLC

70% to stockholders; 30% to Lightstone SLP II LLC

Until 12% per year on stockholders’ net investment

(iv) Stockholders/Lightstone SLP II LLC

60% to stockholders; 40% to Lightstone SLP II LLC

Above 12% on stockholders’ net investment (remainder of regular distributions apportioned in this manner)

Investment Company Act Considerations

We conduct our operations so that the company and each of its subsidiaries are exempt from registration as an investment company under the Investment Company Act. Under Section 3(a)(1)(A) of the Investment Company Act, a company is an “investment company” if it is, or holds itself out as being, engaged primarily, or proposes to engage primarily, in the business of investing, reinvesting or trading in securities. Under Section 3(a)(1)(C) of the Investment Company Act, a company is deemed to be an “investment company” if it is engaged, or proposes to engage, in the business of investing, reinvesting, owning, holding or trading in securities and owns or proposes to acquire “investment securities” having a value exceeding 40% of the value of its total assets on an unconsolidated basis, or the 40% test. “Investment securities” excludes U.S. Government securities and securities of majority-owned subsidiaries that are not themselves investment companies and are not relying on the exception from the definition of investment company set forth in Section 3(c)(1) or Section 3(c)(7) of the Investment Company Act.

We acquire real estate and real-estate related assets directly, for example, by acquiring fee interests in real property, or by purchasing interests, including controlling interests, in REITs or other “real estate operating companies,” such as real estate management companies and real estate development companies, that own real property. We also acquire real estate assets through investments in joint venture entities, including joint venture entities in which we may not own a controlling interest. Our assets generally are held in wholly and majority-owned subsidiaries of the company, each formed to hold a particular asset. Subject to certain conditions, we may also invest in mortgage related securities or mortgage related loans. See the section entitled “Investment Objectives and Strategies — Regulatory Aspects of Our Investment Strategy — Investment Company Act Considerations” in this prospectus.

We intend to continue conducting our operations so that the company and most, if not all, of its wholly owned and majority-owned subsidiaries owns or proposes to acquire investment securities having a value of not more than 40% of the value of its total assets (exclusive of government securities and cash items) on an unconsolidated basis. Such investment securities exclude (A) government securities, (B) securities issued by employees’ securities companies, and (C) securities issued by majority-owned subsidiaries which (i) are not investment companies, and (ii) are not relying on the exception from the definition of investment company under Section 3(c)(1) or 3(c)(7) of the Investment Company Act. We will continuously monitor our holdings on an ongoing basis to determine the compliance of the company and each wholly owned and majority-owned subsidiary with this test. We expect that most, if not all, of the company’s wholly owned and majority-owned subsidiaries will not be relying on exemptions under either Section 3(c)(1) or 3(c)(7) of the Investment Company Act. Consequently, interests in these subsidiaries (which are expected to constitute most, if not all,

 

 

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of our assets) generally will not constitute “investment securities.” Accordingly, we believe that the company and most, if not all, of its wholly owned and majority-owned subsidiaries will not be considered investment companies under Section 3(a)(1)(C) of the Investment Company Act.

In addition, we believe that neither the company nor any of its wholly or majority-owned subsidiaries are or will be considered investment companies under Section 3(a)(1)(A) of the Investment Company Act because they do not and will not engage primarily or hold themselves out as being engaged primarily in the business of investing, reinvesting or trading in securities. Rather, the company and its subsidiaries are and will continue to be primarily engaged in non-investment company businesses related to real estate. Consequently, the company and its subsidiaries expect to be able to conduct their respective operations such that none of them will be required to register as an investment company under the Investment Company Act. If the company or any of its wholly or majority-owned subsidiaries inadvertently falls within one of the definitions of “investment company,” we intend to rely on the exclusion provided by Section 3(c)(5)(C) of the Investment Company Act. For a more detailed discussion on the requirements of this exemption and how we will classify our assets in order to comply with this exemption, see the section of this prospectus captioned “Investment Objectives and Strategies — Regulatory Aspects of Our Investment Strategy — Investment Company Act Considerations.” The method we use to classify our assets for purposes of the Investment Company Act will be based in large measure upon no-action positions taken by the SEC staff in the past. No assurance can be given that the SEC staff will concur with our classification of our assets or that the SEC staff will not, in the future, issue further guidance that may require us to reclassify our assets for purposes of qualifying for an exclusion fromr egulation under the Investment Company Act.

The determination of whether an entity is a majority-owned subsidiary of our company is made by us. The Investment Company Act defines a majority-owned subsidiary of a person as a company 50% or more of the outstanding voting securities of which are owned by that person, or by another company which is a majority-owned subsidiary of that person. The Investment Company Act further defines voting securities as any security presently entitling the owner or holder thereof to vote for the election of directors of a company. We treat companies in which we own at least a majority of the outstanding voting securities as majority-owned subsidiaries for purposes of the 40% test. We have not requested that the SEC staff approve our treatment of any entity as a majority-owned subsidiary and the SEC staff has not done so. If the SEC staff were to disagree with our treatment of one or more companies as majority-owned subsidiaries, we would need to adjust our strategy and our assets in order to continue to comply with the 40% test. Any adjustment in our strategy could have a material adverse effect on us.

We intend to continue conducting our operations so that neither we nor any of our wholly or majority-owned subsidiaries is an “investment company” under the Investment Company Act.

Qualification for exemption from the definition of “investment company” under the Investment Company Act will limit our ability to make certain investments. Although we intend to monitor our portfolio, there can be no assurance that we will be able to maintain this exemption from registration for our company or each of our subsidiaries.

To the extent that the SEC staff provides more specific guidance regarding any of the matters bearing upon the definition of investment company and the exceptions to that definition, we may be required to adjust our investment strategy accordingly. Additional guidance from the SEC staff could provide additional flexibility to us, or it could further inhibit our ability to pursue the investment strategy we have chosen.

Compensation Restrictions

As discussed, our compensation structure differs from that of other REITs. For the benefit of our stockholders, our charter limits acquisition fees, acquisition expenses and asset management fee paid to our advisor, and subordinated payments by our Operating Partnership to our sponsor and Lightstone SLP LLC, collectively. Specifically, our charter prohibits the total of those expenditures from exceeding (i) six percent of all properties’ aggregate gross contract purchase price, (ii) as determined annually, the greater, in the aggregate, of two percent of average invested assets or twenty-five percent of our net income after reducing such asset management amount by those total operating expenses as defined in the Statement of Policy Regarding Real Estate Investment Trusts, as adopted by the North American Securities Administrators Association on May 7, 2007, or the NASAA REIT Guidelines, that exclude the asset management amount,

 

 

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(iii) disposition fees, if any, of up to three percent of the contract sales price of all properties that we sell and (iv) fifteen percent of net sales proceeds, if any, remaining after we pay our stockholders an aggregate amount sufficient to repay their shares’ initial issue price plus six percent of that issue price per annum, cumulative.

Our charter requires us annually to prepare a comparison between our compensation structure and the compensation structure prescribed by the NASAA REIT Guidelines. Certain state securities regulators require us to deliver this comparison for their review on a regular basis. If the comparison indicates that our proceeds exceed those allowed by the NASAA REIT Guidelines on a cumulative basis, our charter requires us to return any excess proceeds to our stockholders within 30 days of making the comparison.

Reports to Stockholders

We will provide stockholders with periodic updates on the performance of their investment with us, including:

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four quarterly distribution reports;

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three quarterly financial reports only by written request;

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an annual report;

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an annual Form 1099, if applicable; and

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supplements to the prospectus during the offering period, via mailings or website access.

We will provide this information to stockholders via one or more of the following methods, in our discretion and with stockholder consent, if necessary:

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U.S. mail or other courier;

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facsimile;

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electronic delivery; or

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posting, or providing a link, on our website at www.lightstonecapitalmarkets.com.

Transfer Agent

The name and address of our transfer agent is:

DST Systems, Inc.
430 West 7 ^th St.
Kansas City, Missouri 64105
Phone: 877-304-4733
Fax: 855-368-2326

To ensure that any account changes are made promptly and accurately, all changes including your address, ownership type and distribution mailing address should be directed to the transfer agent.

 

 

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RISK FACTORS

An investment in our shares involves significant risks and therefore is suitable only for persons who understand those risks and their consequences, and are able to bear the risk of loss of their investment. While we believe that all material risks are presented in this section, you should consider the following risks as well as the other information set forth in this prospectus before making your investment decisions.

Risks Related to the Offering and the Common Stock

Because we may be considered a “blind pool” offering, you may not have the opportunity to evaluate most of our investments before you make your purchase of our common stock, which makes your investment more speculative.

We currently own a limited number of properties and other real estate-related investments and we have limited operating history. Because we have not yet acquired or identified most of the investments that we may make, we are not able to provide you with information to evaluate our investments prior to acquisition. You will be unable to evaluate the economic merit of real estate projects before we invest in them and will be relying entirely on the ability of our advisor to select well-performing investment properties. Furthermore, our Board of Directors will have broad discretion in implementing policies regarding tenant or mortgagor creditworthiness, and you will not have the opportunity to evaluate potential tenants, managers or borrowers. These factors increase the risk that your investment may not generate returns comparable to our competitors.

We are a relatively newly formed company with limited operating history upon which to evaluate our likely performance.

We currently own a limited number of properties and real estate-related investments and we have a limited operating history upon which to evaluate our likely performance. We may not be able to implement our business plan successfully.

The price of our common stock is subjective and may not bear any relationship to what a stockholder could receive if it was sold.

Our Board of Directors arbitrarily determined the offering price of the common stock and such price bears no relationship to any established criteria for valuing issued or outstanding shares. It determined the offering price of our shares of common stock based primarily on the range of offering prices of other REITs that do not have a public trading market. In addition, our Board of Directors set the offering price of our shares at $10, a round number, in order to facilitate calculations relating to the offering price of our shares. However, the offering price of our shares of common stock may not reflect the price at which the shares would trade if they were listed on an exchange or actively traded by brokers, or of the proceeds that a stockholder would receive if we were liquidated or dissolved.

Our common stock is not currently listed on an exchange or trading market and is illiquid. There is currently no public trading market for the shares.

Following this offering, our common stock will not be listed on a stock exchange. Accordingly, we do not expect a public trading market for our shares to develop. We may never list the shares for trading on a national stock exchange or include the shares for quotation on a national market system. The absence of an active public market for our shares could impair your ability to sell our stock at a profit or at all. Therefore, our shares should be purchased as a long-term investment only.

Distributions to stockholders may be reduced or not made at all.

Distributions will be based principally on cash available from our properties. The amount of cash available for distributions will be affected by many factors, such as our ability to buy properties as offering proceeds become available, the operating performance of the properties we acquire and many other variables. We may not be able to pay or maintain distributions or increase distributions over time. Therefore, we cannot determine what amount of cash will be available for distributions. Some of the following factors, which we believe are the material factors that can affect our ability to make distributions, are beyond our control, and a change in any one factor could adversely affect our ability to pay future distributions:

 

 

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Some of the properties we may acquire may be adversely affected by the recent adverse market conditions that are affecting real property. If our properties are adversely affected by the recent adverse market conditions, our cash flows from operations will decrease and we will have less cash available for distributions.

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Cash available for distributions may be reduced if we are required to make capital improvements to properties.

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Cash available to make distributions may decrease if the assets we acquire have lower cash flows than expected.

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A substantial period of time (i.e., up to one year) may pass between the sale of the common stock through this offering and our purchase of real properties. During that time, we may invest in lower yielding short-term instruments, which could result in a lower yield on your investment. See “Investment Objectives and Strategies — Distributions” for a discussion of borrowing in order to make distributions and maintain our status as a REIT.

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In connection with future property acquisitions, we may issue additional shares of common stock and/or operating partnership units or interests in the entities that own our properties. We cannot predict the number of shares of common stock, units or interests that we may issue, or the effect that these additional shares might have on cash available for distributions to you. If we issue additional shares, that issuance could reduce the cash available for distributions to you.

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We make distributions to our stockholders to comply with the distribution requirements of the Code and to eliminate, or at least minimize, exposure to U.S. federal income taxes and the nondeductible REIT excise tax. Differences in timing between the receipt of income and the payment of expenses, and the effect of required debt payments, could require us to borrow funds on a short-term basis to meet the distribution requirements that are necessary to achieve the U.S. federal income tax benefits associated with qualifying as a REIT.

Our cash flows from real estate investments may become insufficient to pay our operating expenses and to cover the distributions we have paid and/or declared.

We cannot assure you that we will be able to maintain sufficient cash flows to fund operating expenses and distributions at any particular level, if at all. As we raise proceeds from this follow-on offering, the sufficiency of cash flow to fund future distributions with respect to an increased number of outstanding shares will depend on the pace at which we are able to identify and close on suitable cash-generating real property investments. Because the receipt of offering proceeds may outpace the investment of these funds in real property acquisitions, cash generated from such investments may become insufficient to fund operating expenses and distributions.

Distributions paid from sources other than our cash flow from operations, particularly from proceeds of this offering, will cause us to have fewer funds available for the acquisition of properties and real estate-related investments and may dilute your interest in us, which may adversely affect your overall return.

We have in the past, and may in the future, pay distributions from sources other than from our cash flow from operations. For the six-month period ended June 30, 2012, our cash flow from operations of approximately $0.6 million was a shortfall of approximately $0.3 million, or 16%, of our distributions of approximately $1.6 million paid during such period, and for the twelve-month period ended December 31, 2011, our cash flow from operations of approximately $1.4 million was a shortfall of approximately $1.2 million, or 46%, of our distributions of $2.6 million paid during such period. Until we acquire additional properties or real estate-related investments, we will not generate sufficient cash flow from operations to pay distributions, and we intend to fund our distributions, in part, by proceeds of this offering. If we fund distributions from the proceeds of this offering, we will have less funds available for acquiring properties or real estate-related investments. Our inability to acquire additional properties or real estate-related investments may have a negative effect on our ability to generate sufficient cash flow from operations to pay distributions. As a result, the return you realize on your investment may be reduced. Additionally, we may fund our distributions from borrowings, the sale of assets, or the sale of additional securities if we do not generate

 

 

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sufficient cash flow from operations to pay distributions. Funding distributions from borrowings could restrict the amount we can borrow for investments, which may affect our profitability. Funding distributions with the sale of assets may affect our ability to generate cash flows. Funding distributions from the sale of additional securities could dilute your interest in us if we sold shares of our preferred or common stock to third-party investors. Payment of distributions from these sources would restrict our ability to generate sufficient cash flow from operations or would affect the distributions payable to you upon a liquidity event, which may have an adverse affect on your investment.

Our Board of Directors may amend or terminate our DRIP.

Our directors, including a majority of our independent directors, may, by majority vote, amend or terminate the DRIP upon 30 days’ notice to participants. If our Board of Directors terminates our DRIP, you will not be able to reinvest your distributions to purchase our shares at a lower price, which may have a material effect on your investment. Our DRIP is described in greater detail below under the heading “Distribution Reinvestment and Share Repurchase Programs.”

You may not be able to receive liquidity on your investment through our share repurchase program.

Limitations on participation in our share repurchase program, and the ability of our Board of Directors to modify or terminate the plan, may restrict your ability to participate in and receive liquidity on your investment through this program. Our share repurchase program is described in greater detail below under the heading “Distribution Reinvestment and Share Repurchase Programs.”

Your percentage of ownership may become diluted if we issue new shares of stock.

Existing stockholders and potential investors in this follow-on offering have no rights to buy additional shares of stock in the event we issue new shares of stock. We may issue common stock, convertible debt or preferred stock pursuant to a subsequent public offering or a private placement, or to sellers of properties we directly or indirectly acquire instead of, or in addition to, cash consideration. In addition, we may also issue shares under our Employee and Director Incentive Restricted Share Plan. Investors purchasing common stock in this offering who do not participate in any future stock issuances will experience dilution in the percentage of the issued and outstanding stock they own.

Our charter permits our Board of Directors to issue stock with terms that may subordinate the rights of common stockholders.

Our charter permits our Board of Directors to issue up to 110,000,000 shares of stock, including 100,000,000 shares of common stock and 10,000,000 shares of preferred stock. In addition, our Board of Directors, without any action by our stockholders, may amend our charter from time to time to increase or decrease the aggregate number of shares or the number of shares of any class or series of stock that we have authority to issue. Our Board of Directors may classify or reclassify any unissued common stock or preferred stock into other classes or series of stock and establish the preferences, conversion or other rights, voting powers, restrictions, limitations as to distributions, qualifications and terms or conditions of redemption of any such stock. Thus, if also approved by a majority of our independent directors not otherwise interested in the transaction, our Board of Directors could authorize the issuance of preferred stock with terms and conditions that could have a priority as to distributions and amounts payable upon liquidation over the rights of the holders of our common stock. Preferred stock could also have the effect of delaying, deferring or preventing a change in control of us, including an extraordinary transaction (such as a merger, tender offer or sale of all or substantially all of our assets) that might provide a premium price for holders of our common stock. See the “Description of Securities — Preferred Stock” section of this prospectus.

 

 

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Our operations could be restricted if we become subject to the Investment Company Act.

We are not registered, and do not intend to register ourselves or any of our subsidiaries, as an investment company under the Investment Company Act. If we or any of our subsidiaries become obligated to register as an investment company, the registered entity would have to comply with a variety of substantive requirements under the Investment Company Act imposing, among other things:

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limitations on capital structure;

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restrictions on specified investments;

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prohibitions on transactions with affiliates; and

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compliance with reporting, record keeping, voting, proxy disclosure and other rules and regulations that would significantly change our operations.

Under Section 3(a)(1)(A) of the Investment Company Act, a company is deemed to be an “investment company” if it is, or holds itself out as being, engaged primarily, or proposes to engage primarily, in the business of investing, reinvesting or trading in securities. Under Section 3(a)(1)(C) of the Investment Company Act, a company is deemed to be an “investment company” if it is engaged, or proposes to engage, in the business of investing, reinvesting, owning, holding or trading in securities and owns or proposes to acquire “investment securities” having a value exceeding 40% of the value of its total assets (exclusive of government securities and cash items) on an unconsolidated basis, which we refer to as the “40% test.”

Under Section 3(c)(5)(C), the SEC staff generally requires a company to maintain at least 55% of its assets directly in qualifying assets and at least 80% of the entity’s assets in qualifying assets and in a broader category of real estate related assets to qualify for this exception. Mortgage-related securities may or may not constitute such qualifying assets, depending on the characteristics of the mortgage-related securities, including the rights that we have with respect to the underlying loans. Our ownership of mortgage-related securities, therefore, is limited by provisions of the Investment Company Act and SEC staff interpretations. See the section entitled “Investment Objectives and Strategies — Regulatory Aspects of Our Investment Strategy — Investment Company Act Considerations” in this prospectus.

The method we use to classify our assets for purposes of the Investment Company Act will be based in large measure upon no-action positions taken by the SEC staff in the past. These no-action positions were issued in accordance with factual situations that may be substantially different from the factual situations we may face, and a number of these no-action positions were issued more than twenty years ago. No assurance can be given that the SEC staff will concur with our classification of our assets. In addition, the SEC staff may, in the future, issue further guidance that may require us to re-classify our assets for purposes of qualifying for an exclusion from regulation under the Investment Company Act. If we are required to re-classify our assets, we may no longer be in compliance with the exclusion from the definition of an “investment company” provided by Section 3(c)(5)(C) of the Investment Company Act.

A change in the value of any of our assets could cause us or one or more of our wholly or majority-owned subsidiaries to fall within the definition of “investment company” and negatively affect our ability to maintain our exemption from regulation under the Investment Company Act. To avoid being required to register the company or any of its subsidiaries as an investment company under the Investment Company Act, we may be unable to sell assets we would otherwise want to sell and may need to sell assets we would otherwise wish to retain. In addition, we may have to acquire additional income- or loss-generating assets that we might not otherwise have acquired or may have to forgo opportunities to acquire interests in companies that we would otherwise want to acquire and would be important to our investment strategy.

If we were required to register the company as an investment company but failed to do so, we would be prohibited from engaging in our business, and civil actions could be brought against us. In addition, our contracts would be unenforceable unless a court required enforcement, and a court could appoint a receiver to take control of us and liquidate our business.

 

 

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If any of our public communication is held to be in violation of federal securities laws relating to public communications, we could be subject to potential liability. Investors in this offering should rely only on the statements made in this prospectus, as supplemented to date, in determining whether to purchase common stock.

From time to time, we or our representatives make public statements relating to our business and its prospects. Such communications are subject to federal securities laws. If any of our public communications are held by a court to be in violation of Section 5 of the Securities Act of 1933, as amended, or the Securities Act, and a claim for damages is brought against us in connection therewith by one or more of our stockholders that purchased common stock on the basis of such communications before receiving a copy of this prospectus, as supplemented to date, and potentially other stockholders, we could be subject to liability in connection with the common stock we sold such persons during such period. Such stockholders would have a period of 12 months following the date of any violation determined by a court to have occurred to bring a Section 5 claim. Our liability in a Section 5 claim could include statutory interest from the date of such stockholder’s purchase, in addition to possibly other damages determined by a court. In the event that any of our communications are claimed to have been made in violation of Section 5 of the Securities Act, we expect that we would vigorously contest such claim. Nevertheless, we could not give any assurance as to any court’s ultimate determination with respect to any such claim. Accordingly, there is a risk that we could be subject to potential liability with respect to any Section 5 claim brought against us, and such liability may adversely affect our operating results or financial position.

The subordinated profits interests will entitle Lightstone SLP II LLC, which is wholly owned by The Lightstone Group, our sponsor, to certain payments and distributions that will significantly reduce the distributions available to you after a 7% return.

Lightstone SLP II LLC will receive returns on its subordinated profits interests that are subordinated to stockholders’ 7% return on their net investment. Distributions to stockholders will be reduced after they have received this 7% return because of the payments and distributions to Lightstone SLP II LLC in connection with its subordinated profits interests that will be issued as more proceeds are raised in this offering. In addition, if the advisory agreement is terminated we may repay Lightstone SLP II LLC up to $34.6 million, assuming the maximum follow-on offering, for its investment in the subordinated profits interests with respect to the initial public offering and this follow-on offering, which will result in a smaller pool of assets available for distribution to you.

Conflicts of Interest

There are conflicts of interest among our advisor, our Property Managers and their affiliates and us.

David Lichtenstein, our sponsor, is the founder of The Lightstone Group, which he wholly owns and does business in his individual capacity under that name. Through The Lightstone Group, Mr. Lichtenstein controls and indirectly owns a majority of our advisor, our Property Managers, our Operating Partnership, and their affiliates, except for us. Employees of our advisor are also employed by Lightstone Value Plus REIT LLC, the advisor to Lightstone I. Mr. Lichtenstein is one of our directors and The Lightstone Group or an affiliated entity controlled by Mr. Lichtenstein employs Bruno de Vinck, our other non-independent director, and each of our officers. As a result, our operation and management may be influenced or affected by conflicts of interest arising out of our relationship with our affiliates.

There is competition for the time and services of the personnel of our advisor and its affiliates.

Our sponsor and its affiliates may compete with us for the time and services of the personnel of our advisor and its other affiliates in connection with our operation and the management of our assets. Specifically, employees of our sponsor, our advisor and our Property Managers will face conflicts of interest relating to time management and the allocation of resources and investment opportunities.

We do not have employees.

We and our advisor will rely on the employees of our sponsor and its affiliates to manage and operate our business. Our sponsor is not restricted from acquiring, developing, operating, managing, leasing or selling real estate through entities other than us and will continue to be actively involved in operations and activities

 

 

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other than our operations and activities. Our sponsor currently controls and/or operates other entities that own properties in many of the markets in which we may seek to invest. Our sponsor spends a material amount of time managing these properties and other assets unrelated to our business. Our business may suffer as a result because we lack the ability to manage it without the time and attention of our sponsor’s employees.

Our sponsor and its affiliates are general partners and sponsors of other real estate programs having investment objectives and legal and financial obligations similar to ours. Because our sponsor and its affiliates have interests in other real estate programs and also engage in other business activities, they may have conflicts of interest in allocating their time and resources among our business and these other activities. Our officers and directors, as well as those of our advisor, may own equity interests in entities affiliated with our sponsor from which we may buy properties. These individuals may make substantial profits in connection with such transactions, which could result in conflicts of interest. Likewise, such individuals could make substantial profits as the result of investment opportunities allocated to entities affiliated with our sponsor other than us. As a result of these interests, they could pursue transactions that may not be in our best interest. Also, if our sponsor suffers financial or operational problems as the result of any of its activities, whether or not related to our business, the ability of our sponsor and its affiliates, our advisor and Property Managers to operate our business could be adversely impacted.

Certain of our affiliates who provide services to us may be engaged in competitive activities.

Our advisor, Property Managers and their respective affiliates may, in the future, be engaged in other activities that could result in potential conflicts of interest with the services that they will provide to us. In addition, our sponsor may compete with us for both the acquisition and refinancing of properties of a type suitable for our investment following the final closing of this offering, and after 75% of the total gross proceeds from the offering of the shares offered for sale pursuant to this offering have been invested or committed for investment in real properties.

Our sponsor’s other public program, Lightstone I, may be engaged in competitive activities.

Our advisor, Property Managers and their respective affiliates, through activities of Lightstone I, may be engaged in other activities that could result in potential conflicts of interest with the services that they will provide to us. Lightstone I may compete with us for both the acquisition and refinancing of properties of a type suitable for our investment.

If we invest in joint ventures, the objectives of our partners may conflict with our objectives.

In accordance with one of our acquisition strategies, we may make investments in joint ventures or other partnership arrangements between us and affiliates of our sponsor or with unaffiliated third parties. Investments in joint ventures which own real properties may involve risks otherwise not present when we purchase real properties directly. For example, our co-venturer may file for bankruptcy protection, may have economic or business interests or goals which are inconsistent with our interests or goals, or may take actions contrary to our instructions, requests, policies or objectives. Among other things, actions by a co-venturer might subject real properties owned by the joint venture to liabilities greater than those contemplated by the terms of the joint venture or other adverse consequences.

These diverging interests could result in, among other things, exposing us to liabilities of the joint venture in excess of our proportionate share of these liabilities. The partition rights of each owner in a jointly owned property could reduce the value of each portion of the divided property. Moreover, there is an additional risk that the co-venturers may not be able to agree on matters relating to the property they jointly own. In addition, the fiduciary obligation that our sponsor or our Board of Directors may owe to our partner in an affiliated transaction may make it more difficult for us to enforce our rights.

We may purchase real properties from persons with whom affiliates of our advisor have prior business relationships.

If we purchase properties from third parties who have sold, or may sell, properties to our advisors or its affiliates, our advisor will experience a conflict between our current interests and its interest in preserving any ongoing business relationship with these sellers.

 

 

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Certain management services are being provided by affiliated parties.

Our Property Managers are controlled by our sponsor, and are thus subject to an inherent conflict of interest. In addition, our advisor may face a conflict of interest when determining whether we should dispose of any property we own that is managed by one of our Property Managers because our Property Managers may lose fees associated with the management of the property. Specifically, because our Property Managers will receive significant fees for managing our properties, our advisor may face a conflict of interest when determining whether we should sell properties under circumstances where our Property Managers would no longer manage the property after the transaction. As a result of this conflict of interest, we might not dispose of properties when it would be in our best interests to do so.

Our advisor and its affiliates receive fees and other compensation based upon our investments.

Some compensation is payable to our advisor whether or not there is cash available to make distributions to our stockholders. To the extent this occurs, our advisor and its affiliates benefit from us retaining ownership of our assets and leveraging our assets, while our stockholders may be better served by sale or disposition or not leveraging the assets. In addition, our advisor’s ability to receive fees and reimbursements depends on our continued investment in real properties. Therefore, the interest of our advisor and its affiliates in receiving fees may conflict with the interest of our stockholders in earning income on their investment in our common stock. Because asset management fees payable to our advisor are based on total assets under management, including assets purchased using debt, our advisor may have an incentive to incur a high level of leverage in order to increase the total amount of assets under management.

Our sponsor may face conflicts of interest in connection with the management of our day-to-day operations and in the enforcement of agreements between our sponsor and its affiliates.

Our Property Managers and advisor manage our day-to-day operations and properties pursuant to management agreements and an advisory agreement. With the exception of those agreements we entered into with unaffiliated third-party property managers, these agreements were not negotiated at arm’s length, and certain fees payable by us under such agreements are paid regardless of our performance. Our sponsor and its affiliates may be in a conflict of interest position as to matters relating to these agreements. Examples include the computation of fees and reimbursements under such agreements, the enforcement and/or termination of the agreements and the priority of payments to third parties as opposed to amounts paid to our sponsor’s affiliates. These fees may be higher than fees charged by third parties in an arm’s-length transaction as a result of these conflicts.

Title insurance services are being provided by an affiliated party. From time to time, we purchase title insurance from an agent in which our sponsor owns a fifty percent limited partnership interest. Because this title insurance agent receives significant fees for providing title insurance, our advisor may face a conflict of interest when considering the terms of purchasing title insurance from this agent. However, prior to the purchase by Lightstone of any title insurance, an independent title consultant with more than 25 years of experience in the title insurance industry reviews the transaction, and performs market research and competitive analysis on our behalf. This process results in terms similar to those that would be negotiated at an arm’s-length basis.

We may compete with other entities affiliated with our sponsor for tenants.

Our sponsor and its affiliates, as well as Lightstone I, are not prohibited from engaging, directly or indirectly, in any other business or from possessing interests in any other business venture or ventures, including businesses and ventures involved in the acquisition, development, ownership, management, leasing or sale of real estate projects. Our sponsor, its affiliates or Lightstone I may own and/or manage properties in most if not all geographical areas in which we expect to acquire real estate assets. Therefore, our properties may compete for tenants with other properties owned and/or managed by our sponsor and its affiliates. Our sponsor may face conflicts of interest when evaluating tenant opportunities for our properties and other properties owned and/or managed by our sponsor, its affiliates and Lightstone I and these conflicts of interest may have a negative impact on our ability to attract and retain tenants.

 

 

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We have the same legal counsel as our sponsor and its affiliates.

Proskauer Rose LLP acts as legal counsel to us and also represents our sponsor and various affiliates including, our advisor. The interests of our sponsor and its affiliates, including our advisor, may become adverse to ours in the future. Under legal ethics rules, Proskauer Rose LLP may be precluded from representing us due to any conflict of interest between us and our sponsor and its affiliates, including our advisor.

Each member of our Board of Directors is also on the board of directors of Lightstone I.

Each of our directors is also a director of Lightstone I. Accordingly, each of our directors owes fiduciary duties to Lightstone I and its stockholders. The duties of our directors to Lightstone I may influence the judgment of our Board of Directors when considering issues that may affect us. For example, we are permitted to enter into a joint venture or preferred equity investment with Lightstone I for the acquisition of property or real estate-related investments. Decisions of our Board of Directors regarding the terms of those transactions may be influenced by our directors’ duties to Lightstone I and its stockholders.

Risks Related to our Organization, Structure and Management

Anti-takeover provisions may have the effect of preventing a change of control.

Because of the way we are organized, we would be a difficult takeover target. Certain provisions in our charter, bylaws, operating partnership agreement, our advisory agreement and Maryland law may have the effect of discouraging a third party from making an acquisition proposal and could thereby depress the price of our stock and inhibit a management change.

There are ownership limits and restrictions on transferability and ownership in our charter.

In order for us to qualify as a REIT, no more than 50% of the outstanding shares of our stock may be beneficially owned, directly or indirectly, by five or fewer individuals at any time during the last half of each taxable year. To make sure that we will not fail to qualify as a REIT under this test, our charter provides that, subject to some exceptions, no person may beneficially own (i) more than 9.8% in value of our aggregate outstanding stock or (ii) more than 9.8%, in value or in the number of outstanding shares of any class or series of our stock, including our common stock. Our Board of Directors may exempt a person from the 9.8% ownership limit upon the receipt of certain representations and undertakings required by our charter and such other conditions as our Board of Directors may direct. However, our Board of Directors may not grant an exemption from the 9.8% ownership limit to any proposed transferee if it would result in our being “closely held” within the meaning of the Code or otherwise failing to qualify as a REIT.

This restriction may:

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have the effect of delaying, deferring or preventing a change in control of us, including an extraordinary transaction (such as a merger, tender offer or sale of all or substantially all of our assets) that might provide a premium price for holders of our common stock; or

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compel a stockholder who had acquired more than 9.8% of our stock to dispose of the additional shares and, as a result, to forfeit the benefits of owning the additional shares.

Our charter permits our Board of Directors to issue preferred stock with terms that may discourage a third party from acquiring us. Our charter authorizes us to issue additional authorized but unissued shares of common stock or preferred stock. In addition, our Board of Directors may classify or reclassify any unissued shares of common stock or preferred stock into other classes or series of stock and may set the preferences, conversion or other rights, voting powers, restrictions, limitations as to dividends or other distributions, qualifications and terms and conditions of redemption of the classified or reclassified shares. Our Board of Directors could establish a series of preferred stock that could delay or prevent a transaction or a change in control that might involve a premium price for the common stock or otherwise be in the best interest of our stockholders.

 

 

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If our advisor loses or is unable to obtain key personnel, our ability to implement our investment strategies could be hindered, which could adversely affect our ability to make distributions and the value of your investment.

Our success depends to a significant degree upon the contributions of certain of our executive officers and other key personnel of our advisor. In particular, we depend on the skills and expertise of David Lichtenstein, who, subject to the oversight of our Board of Directors, directs of our investment strategies. Neither we nor our advisor has employment agreements with any of our or its key personnel, including Mr. Lichtenstein, and we cannot guarantee that all, or any particular one, will remain affiliated with us or our advisor. If any of our key personnel were to cease their affiliation with our advisor, our operating results could suffer.

Further, we do not intend to separately maintain key person life insurance that would provide us with proceeds in the event of death or disability of Mr. Lichtenstein or any of our key personnel. We believe our future success depends upon our advisor’s ability to hire and retain highly skilled managerial, operational and marketing personnel. Competition for such personnel is intense, and we cannot assure you that our advisor will be successful in attracting and retaining such skilled personnel. If our advisor loses or is unable to obtain the services of key personnel, our ability to implement our investment strategies could be delayed or hindered, and the value of your investment could decline.

The operating partnership agreement contains provisions that may discourage a third party from acquiring us.

A limited partner in our Operating Partnership, has the option to exchange his or her limited partnership units for cash or, at our option, shares of our common stock. Those exchange rights are generally not exercisable until the limited partner has held those limited partnership units for more than one year. However, if we or our Operating Partnership propose to engage in any merger, consolidation or other combination with or into another person or a sale of all or substantially all of our assets, or a liquidation, or any reclassification, recapitalization or change of common and preferred stock into which a limited partnership common unit may be exchanged, each holder of a limited partnership unit will have the right to exchange the partnership unit into cash or, at our option, shares of common stock, prior to the stockholder vote on the transaction. As a result, limited partnership unit holders who timely exchange their units prior to the record date for the stockholder vote on any transaction will be entitled to vote their shares of common stock with respect to the transaction. The additional shares that might be outstanding as a result of these exchanges of limited partnership units may deter an acquisition proposal.

Certain provisions of Maryland law may discourage a third party from acquiring us.

Certain provisions of Maryland law restrict mergers and other business combinations and provide that holders of control shares of a Maryland corporation acquired in a control share acquisition may have limited voting rights. The business combination statute could have the effect of discouraging offers from third parties to acquire us and increasing the difficulty of successfully completing this type of offer. The control share statute may discourage others from trying to acquire control of us and increase the difficulty of consummating any offer. Our bylaws contain a provision exempting from the control share acquisition statute any acquisition by any person of shares of our stock; however, this provision may be amended or eliminated at any time in the future. See “Description of Securities — Provisions of Maryland Law and of Our Charter and Bylaws.”

Management and Policy Changes

Our rights and the rights of our stockholders to take action against our directors and our advisor are limited.

Maryland law provides that a director has no liability in that capacity if he or she performs his duties in good faith, in a manner he or she reasonably believes to be in the best interests of the corporation and with the care that an ordinarily prudent person in a like position would use under similar circumstances. Subject to the restrictions discussed below, our charter, in the case of our directors and officers, and our charter and the advisory agreement, in the case of our advisor, require us generally to indemnify our directors and officers and our advisor for actions taken on our behalf, determined in good faith and in our best interest and without

 

 

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negligence or misconduct or, in the case of independent directors, without gross negligence or willful misconduct. We may, with the approval of our Board of Directors, provide indemnification to any of our employees or agents. As a result, we and the stockholders may have more limited rights against our directors, officers, employees and agents, and our advisor than might otherwise exist under common law. In addition, we may be obligated to fund the defense costs incurred by our directors, officers, employees and agents or our advisor in some cases. See “Limitation of Liability and Indemnification of Directors, Officers and our Advisor.”

Stockholders have limited control over changes in our investment objectives and strategies.

Our Board of Directors determines our investment objectives, financing, growth, debt capitalization, REIT qualification and distributions. Subject to the investment objectives and limitations set forth in our charter, our Board of Directors may amend or revise these and other objectives and strategies. Stockholders will have limited control over changes in our objectives and strategies.

Certain of our affiliates will receive substantial fees prior to the payment of distributions to our stockholders.

We will pay or cause to be paid substantial compensation to our advisor, our Property Managers, and their affiliates and employees. In general, this compensation will not be dependent on our success or profitability. These payments are payable before the payment of distributions to our stockholders and none of these payments are subordinated to a specified return to our stockholders. Also, our Property Managers, affiliates of our sponsor, will receive compensation under management agreements prior to the payment of distributions to our stockholders. In addition, other affiliates of our sponsor may from time to time provide services to us if approved by the disinterested directors. It is possible that we could obtain such goods and services from unrelated persons at a lesser price.

We may not be reimbursed by our advisor for certain operational stage expenses.

Our advisor may be required to reimburse us for certain operational stage expenses. In the event our advisor’s net worth or cash flow is not sufficient to cover these expenses, we will not be reimbursed. This may adversely affect our financial condition and our ability to pay distributions.

Limitations on Liability and Indemnification

The liability of directors and officers is limited.

Subject to any additional limitations set forth in our charter, our directors and officers will not be liable to us or our stockholders for monetary damages unless the director or officer actually received an improper benefit or profit in money, property or services, or is adjudged to be liable to us or our stockholders based on a finding that his or her action, or failure to act, was the result of active and deliberate dishonesty and was material to the cause of action adjudicated in the proceeding.

Our directors are also required to act in good faith, in a manner believed by them to be in our best interests and with the care that an ordinarily prudent person in a like position would use under similar circumstances. A director who performs his or her duties in accordance with the foregoing standards should not be liable to us or any other person for failure to discharge his obligations as a director. We are permitted to purchase and maintain insurance or provide similar protection on behalf of any directors, officers, employees and agents, including our advisor and its affiliates, against any liability asserted which was incurred in any such capacity with us or arising out of such status, except as limited by our charter. This may result in us having to expend significant funds, which will reduce the available cash for distribution to our stockholders.

We may indemnify our directors, officers and agents against loss.

Under our charter, we will, under specified conditions, indemnify and pay or reimburse reasonable expenses to our directors, officers, employees and other agents, including our advisor and its affiliates, against all liabilities incurred in connection with their serving in such capacities, subject to the limitations set forth in our charter. Our advisor and its affiliates may be indemnified and held harmless from liability only if it has

 

 

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been determined in good faith that its actions were in our best interests and it has acted in a manner not constituting negligence or misconduct. We may also enter into any contract for indemnity and advancement of expenses in this regard. This may result in us having to expend significant funds, which will reduce the available cash for distribution to our stockholders. See “Limitation of Liability and Indemnification of Directors, Officers and our Advisor.”

Risks Associated with Our Properties and the Market

Real Estate Investment Risks

Our cash flows from real estate investments may become insufficient to pay our operating expenses and to cover the distributions we have paid and/or declared.

We intend to rely primarily on our cash flow from our investments to pay our operating expenses and to make distributions to our stockholders. The cash flow from equity investments in commercial and residential properties depends on the amount of revenue generated and expenses incurred in operating the properties. If the properties we invest in fail to generate revenue that is sufficient to meet operating expenses, debt service, and capital expenditures, our income and ability to make distributions to stockholders will be adversely affected. We cannot assure you that we will be able to maintain sufficient cash flows to fund operating expenses and debt service payments and dividend at any particular level, if at all. The sufficiency of cash flow to fund future payments of distributions will depend on the performance of our real property investments.

Economic conditions may adversely affect our income.

U.S. and international markets have recently experienced increased levels of volatility due to a combination of many factors, including decreasing home prices, limited access to credit markets, higher fuel prices, less consumer spending and a national and global recession. The effects of the market dislocation linger as financial institutions continue to take the necessary steps to restructure their businesses and capital structures. As a result, this economic downturn has reduced demand for space and removed support for rents and property values.

A commercial or residential property’s income and value may be adversely affected by national and regional economic conditions, local real estate conditions such as an oversupply of properties or a reduction in demand for properties, availability of “for sale” properties, competition from other similar properties, increased operating costs (including real estate taxes) and changes in market rental rates. The continued rise in energy costs could result in higher operating costs, which may affect our results from operations. Our income will be adversely affected if a significant number of tenants are unable to pay rent or if our properties cannot be rented on favorable terms. Our performance is linked to economic conditions in the regions where our properties will be located and in the market for residential, office, retail and industrial space generally. Therefore, to the extent that there are adverse economic conditions in those regions, and in these markets generally, that impact the applicable market rents, such conditions could result in a reduction of our income and cash available for distributions and thus affect the amount of distributions we can make to stockholders.

The profitability of our acquisitions is uncertain.

Acquisition of properties entails risks that investments will fail to perform in accordance with expectations. In undertaking these acquisitions, we will incur certain risks, including the expenditure of funds on, and the devotion of management’s time to, transactions that may not come to fruition. Additional risks inherent in acquisitions include risks that the properties will not achieve anticipated occupancy levels and that estimates of the costs of improvements to bring an acquired property up to standards established for the market position intended for that property may prove inaccurate.

Real estate investments are illiquid.

Because real estate investments are relatively illiquid, our ability to vary our portfolio promptly in response to economic or other conditions will be limited. In addition, certain significant expenditures, such as debt service, real estate taxes, and operating and maintenance costs generally are not reduced in circumstances resulting in a reduction in income from the investment. The foregoing and any other factor or event that would impede our ability to respond to adverse changes in the performance of our investments could have an adverse effect on our financial condition and results of operations.

 

 

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Rising expenses could reduce cash flow and funds available for future acquisitions.

Our properties will be subject to increases in tax rates, utility costs, operating expenses, insurance costs, repairs and maintenance, administrative and other expenses. For our properties not leased on a triple-net-lease basis or on a basis requiring the tenants to pay all or some of the expenses, we will have to pay those costs. If we are unable to lease properties on a triple-net-lease basis or on a basis requiring the tenants to pay all or some of the expenses, we would be required to pay those costs, which could adversely affect funds available for future acquisitions or cash available for distributions.

We will depend on tenants who lease from us on a triple-net basis to pay the appropriate portion of expenses.

If the tenants who lease from us on a triple-net basis fail to pay required tax, utility and other impositions, we could be required to pay those costs for properties we invest in, which would adversely affect funds available for future acquisitions or cash available for distributions. If we lease properties on a triple-net basis, we run the risk of tenant default or downgrade in the tenant’s credit, which could lead to default and foreclosure on the underlying property.

If we purchase assets at a time when the commercial and residential real estate market is experiencing substantial influxes of capital investment and competition for properties, the real estate we purchase may not appreciate or may decrease in value.

The commercial and residential real estate markets may experience substantial influxes of capital from investors. This substantial flow of capital, combined with significant competition for real estate, may result in inflated purchase prices for such assets. To the extent we purchase real estate in such an environment, we are subject to the risk that if the real estate market ceases to attract the same level of capital investment in the future as it is currently attracting, or if the number of companies seeking to acquire such assets decreases, our returns will be lower and the value of our assets may not appreciate or may decrease significantly below the amount we paid for such assets.

The bankruptcy or insolvency of a major commercial tenant would adversely impact us.

Any or all of our commercial tenants, or a guarantor of a commercial tenant’s lease obligations, could be subject to a bankruptcy proceeding. The bankruptcy or insolvency of a significant commercial tenant or a number of smaller commercial tenants would have an adverse impact on our income and our ability to pay distributions because a tenant or lease guarantor bankruptcy could delay efforts to collect past due balances under the relevant leases, and could ultimately preclude full collection of these sums. Such an event could cause a decrease or cessation of rental payments, which would mean a reduction in our cash flow and the amount available for distributions to stockholders.

Generally, under bankruptcy law, a tenant has the option of continuing or terminating any unexpired lease. In the event of a bankruptcy, we cannot assure you that the tenant or its trustee will continue our lease. If a given lease, or guaranty of a lease, is not assumed, our cash flow and the amounts available for distributions to you may be adversely affected. If the tenant terminates the lease, we will lose future rent under the lease and our claim for past due amounts owing under the lease will be treated as a general unsecured claim and may be subject to certain limitations. General unsecured claims are the last claims paid in a bankruptcy and therefore this claim could be paid only in the event funds were available, and then only in the same percentage as that realized on other unsecured claims.

The terms of new leases may adversely impact our income.

Even if the tenants of the properties we invest in do renew their leases, or we relet the units to new tenants, the terms of renewal or reletting may be less favorable than current lease terms. If the lease rates upon renewal or reletting are significantly lower than expected rates, then our results of operations and financial condition will be adversely affected. As noted above, certain significant expenditures associated with each equity investment in real estate (such as mortgage payments, real estate taxes and maintenance costs) are generally not reduced when circumstances result in a reduction in rental income.

 

 

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We depend on commercial tenants for our revenue and therefore our revenue may depend on the success and economic viability of our commercial tenants. Our reliance on single or significant commercial tenants in certain buildings may decrease our ability to lease vacated space.

Our financial results will depend in part on leasing space in the properties we acquire to tenants on economically favorable terms. A default by a commercial tenant, the failure of a guarantor to fulfill its obligations or other premature termination of a lease, or a commercial tenant’s election not to extend a lease upon its expiration could have an adverse effect on our income, general financial condition and ability to pay distributions. Therefore, our financial success depends on the success of the businesses operated by the commercial tenants of our properties.

Lease payment defaults by commercial tenants would most likely cause us to reduce the amount of distributions to stockholders. In the event of a tenant default, we may experience delays in enforcing our rights as landlord and may incur substantial costs in protecting our investment and re-letting our property. A default by a significant commercial tenant or a substantial number of commercial tenants at any one time on lease payments to us would cause us to lose the revenue associated with such lease(s) and cause us to have to find an alternative source of revenue to meet mortgage payments and prevent a foreclosure if the property is subject to a mortgage. Therefore, lease payment defaults by tenants could cause us to reduce the amount of distributions to stockholders.

Even if the tenants of our properties do renew their leases or we relet the units to new tenants, the terms of renewal or reletting may be less favorable than current lease terms. If the lease rates upon renewal or reletting are significantly lower than expected rates, then our results of operations and financial condition will be adversely affected. Commercial tenants may have the right to terminate their leases upon the occurrence of certain customary events of default and, in other circumstances, may not renew their leases or, because of market conditions, may be able to renew their leases on terms that are less favorable to us than the terms of the current leases. If a lease is terminated, we cannot assure you that we will be able to lease the property for the rent previously received or sell the property without incurring a loss. Therefore, the weakening of the financial condition of a significant commercial tenant or a number of smaller commercial tenants and vacancies caused by defaults of tenants or the expiration of leases may adversely affect our operations.

A property that incurs a vacancy could be difficult to re-lease.

A property may incur a vacancy either by the continued default of a tenant under its lease or the expiration of one of our leases. If we terminate any lease following a default by a lessee, we will have to re-lease the affected property in order to maintain our qualification as a REIT. If a tenant vacates a property, we may be unable either to re-lease the property for the rent due under the prior lease or to re-lease the property without incurring additional expenditures relating to the property. In addition, we could experience delays in enforcing our rights against, and collecting rents (and, in some cases, real estate taxes and insurance costs) due from a defaulting tenant. Any delay we experience in re-leasing a property or difficulty in re-leasing at acceptable rates may reduce cash available to make distributions to our stockholders.

In many cases, tenant leases contain provisions giving the tenant the exclusive right to sell particular types of merchandise or provide specific types of services within the particular retail center, or limit the ability of other tenants to sell such merchandise or provide such services. When re-leasing space after a vacancy is necessary, these provisions may limit the number and types of prospective tenants for the vacant space.

We also may have to incur substantial expenditures in connection with any re-leasing. A number of our properties may be specifically suited to the particular needs of our tenants. Therefore, we may have difficulty obtaining a new tenant for any vacant space we have in our properties, particularly if the floor plan of the vacant space limits the types of businesses that can use the space without major renovation. If the vacancy continues for a long period of time, we may suffer reduced revenues resulting in less cash to be distributed to stockholders. As noted above, certain significant expenditures associated with each equity investment (such as mortgage payments, real estate taxes and maintenance costs) are generally not reduced when circumstances cause a reduction in income from the investment. The failure to re-lease or to re-lease on satisfactory terms could result in a reduction of our income, FFO and cash available for distributions and thus affect the amount of distributions to you. In addition, the resale value of the property could be diminished because the market value of a particular property will depend principally upon the value of the leases of such property.

 

 

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We may be unable to sell a property if or when we decide to do so.

We may give some commercial tenants the right, but not the obligation, to purchase their properties from us beginning a specified number of years after the date of the lease. Some of our leases also generally provide the tenant with a right of first refusal on any proposed sale provisions. These policies may lessen the ability of our advisor and our Board of Directors to freely control the sale of the property.

Although we may grant a lessee a right of first offer or option to purchase a property, there is no assurance that the lessee will exercise that right or that the price offered by the lessee in the case of a right of first offer will be adequate. In connection with the acquisition of a property, we may agree on restrictions that prohibit the sale of that property for a period of time or impose other restrictions, such as a limitation on the amount of debt that can be placed or repaid on that property. Even absent such restrictions, the real estate market is affected by many factors, such as general economic conditions, availability of financing, interest rates and other factors, including supply and demand, that are beyond our control. We may not be able to sell any property for the price or on the terms set by us, and prices or other terms offered by a prospective purchaser may not be acceptable to us. We cannot predict the length of time needed to find a willing purchaser and to close the sale of a property. We may be required to expend funds to correct defects or to make improvements before a property can be sold. We may not have funds available to correct such defects or to make such improvements.

We may not make a profit if we sell a property.

The prices that we can obtain when we determine to sell a property will depend on many factors that are presently unknown, including the operating history, tax treatment of real estate investments, demographic trends in the area and available financing. There is a risk that we will not realize any significant appreciation on our investment in a property. Accordingly, your ability to recover all or any portion of your investment under such circumstances will depend on the amount of funds so realized and claims to be satisfied therefrom.

Our properties may not be diversified.

Our properties may not be well diversified and their economic performance could be affected by changes in local economic conditions.

If we are unable to diversify our investments by industry, a downturn in any particular industry may have more pronounced effects on the amount of cash available to us for distribution or on the value of our assets than if we had diversified our investments.

If we are unable to diversify our investments by region, our performance will be linked to a greater extent to economic conditions in the regions in which we acquire properties. Therefore, to the extent that there are adverse economic conditions in the regions in which our properties are located and in the market for real estate properties, such conditions could result in a reduction of our income and cash to return capital and thus affect the amount of distributions we can make to you.

If we are unable to diversify our investments by industry, a downturn in any particular industry may have more pronounced effects on the amount of cash available to us for distribution or on the value of our assets than if we had diversified our investments. If we are unable to diversify our investments by region, our performance will be linked to a greater extent to economic conditions in the regions in which we acquire properties. Therefore, to the extent that there are adverse economic conditions in the regions in which our properties are located and in the market for real estate properties, such conditions could result in a reduction of our income and cash to return capital and thus affect the amount of distributions we can make to you.

We may incur liabilities in connection with properties we acquire.

Our anticipated acquisition activities are subject to many risks. We may acquire properties or entities that are subject to liabilities or that have problems relating to environmental condition, state of title, physical condition or compliance with zoning laws, building codes, or other legal requirements. In each case, our acquisition may be without any recourse, or with only limited recourse, with respect to unknown liabilities or conditions. As a result, if any liability were asserted against us relating to those properties or entities, or if any adverse condition existed with respect to the properties or entities, we might have to pay substantial sums to

 

 

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settle or cure it, which could adversely affect our cash flow and operating results. Even if we obtain indemnities from the sellers of the properties or entities we acquire, it is possible that the sellers may not have the resources to satisfy their indemnification obligations if a liability arises. Unknown liabilities to third parties with respect to properties or entities acquired might include:

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liabilities for clean-up of undisclosed environmental contamination;

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claims by tenants, vendors or other persons dealing with the former owners of the properties;

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liabilities incurred in the ordinary course of business; and

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claims for indemnification by general partners, directors, officers and others indemnified by the former owners of the properties.

Competition with third parties in acquiring and operating properties may reduce our profitability and the return on your investment.

We compete with many other entities engaged in real estate investment activities, many of which have greater resources than we do. Specifically, there are numerous commercial developers, real estate companies, REITs and U.S. institutional and foreign investors that operate in the markets in which we may operate, that will compete with us in acquiring residential, office, retail, lodging, industrial and other properties that will be seeking investments and tenants for these properties. Many of these entities have significant financial and other resources, including operating experience, allowing them to compete effectively with us. Competitors with substantially greater financial resources than us may generally be able to accept more risk than we can prudently manage, including risks with respect to the creditworthiness of entities in which investments may be made or risks attendant to a geographic concentration of investments. In addition, those competitors that are not REITs may be at an advantage to the extent they can utilize working capital to finance projects, while we will be required by the annual distribution provisions under the Code to distribute significant amounts of cash from operations to our stockholders. Demand from third parties for properties that meet our investment objectives could result in an increase of the price of such properties. If we pay higher prices for properties, our profitability may be reduced and you may experience a lower return on your investment. In addition, our properties may be located in close proximity to other properties that will compete against our properties for tenants. These competing properties may be better located and/or appointed than the properties that we will acquire, giving these properties a competitive advantage over our properties, and we may, in the future, face additional competition from properties not yet constructed or even planned. This competition could adversely affect our business. The number of competitive properties could have a material effect on our ability to rent space at our properties and the amount of rents charged. We could be adversely affected if additional competitive properties are built in locations competitive with our properties, causing increased competition for residential renters, retail customer traffic and creditworthy commercial tenants. In addition, our ability to charge premium rental rates to tenants may be negatively impacted. This increased competition may increase our costs of acquisitions or lower the occupancies and the rent we may charge tenants. This could result in decreased cash flow from tenants and may require us to make capital improvements to properties which we would not have otherwise made, thus affecting cash available for distributions to you. See “Competition.”

We may not have control over costs arising from rehabilitation of properties.

We may elect to acquire properties which may require rehabilitation. In particular, we may acquire affordable properties that we will rehabilitate and convert to market rate properties. Consequently, we intend to retain independent general contractors to perform the actual physical rehabilitation work and will be subject to risks in connection with a contractor’s ability to control rehabilitation costs, the timing of completion of rehabilitation, and a contractor’s ability to build in conformity with plans and specifications.

We may incur losses as result of defaults by the purchasers of properties we sell in certain circumstances.

Under certain circumstances, we may sell our properties by providing financing to purchasers. When we provide financing to purchasers, we will bear the risk of default by the purchaser and will be subject to remedies provided by law. There are no limitations or restrictions on our ability to take purchase money obligations. We may incur losses as a result of such defaults, which may adversely affect our available cash and our ability to make distributions to stockholders.

 

 

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We may experience energy shortages and allocations.

There may be shortages or increased costs of fuel, natural gas, water, electric power or allocations thereof by suppliers or governmental regulatory bodies in the areas where we purchase properties, in which event the operation of our properties may be adversely affected. Increased costs of fuel may reduce discretionary spending on luxury retail items, which may adversely affect our retail tenants if we purchase retail properties. Our revenues will be dependent upon payment of rent by retailers, which may be particularly vulnerable to uncertainty in the local economy and rising costs of energy for their customers. Such adverse economic conditions could affect the ability of our tenants to pay rent, which could have a material adverse effect on our operating results and financial condition, as well as our ability to pay distributions to you.

We have limited experience with international investments.

Neither we nor our sponsor or any of its affiliates has any substantial experience investing in properties or other real estate-related assets located outside the United States. We may acquire real estate assets located outside the United States and may make or purchase mortgage or mezzanine loans made by a buyer located outside of the United States or secured by property located outside of the United States. We may not have the expertise necessary to maximize the return on our international investments.

Your investment may be subject to additional risks if we make international investments.

We may purchase real estate assets located outside the United States and may make or purchase mortgage or mezzanine loans or joint venture interests in mortgage or mezzanine loans made by a borrower located outside the United States or secured by property located outside the United States. Any international investments may be affected by factors peculiar to the laws of the jurisdiction in which the borrower or the property is located. These laws may expose us to risks that are different from and in addition to those commonly found in the United States. Foreign investments could be subject to the following risks:

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governmental laws, rules and policies, including laws relating to the foreign ownership of real property or mortgages and laws relating to the ability of foreign persons or corporations to remove profits earned from activities within the country to the person’s or corporation’s country of origin;

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variations in currency exchange rates or exchange controls or other currency restrictions and fluctuations in exchange ratios related to foreign currency;

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adverse market conditions caused by inflation or other changes in national or local economic conditions;

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changes in relative interest rates;

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changes in the availability, cost and terms of mortgage funds resulting from varying national economic policies;

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changes in real estate and other tax rates, the tax treatment of transaction structures and other changes in operating expenses in a particular country where we have an investment;

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lack of uniform accounting standards (including availability of information in accordance with GAAP);

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changes in land use and zoning laws;

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more stringent environmental laws or changes in these laws;

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changes in the social stability or other political, economic or diplomatic developments in or affecting a country where we have an investment;

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legal and logistical barriers to enforcing our contractual rights; and

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expropriation, confiscatory taxation and nationalization of our assets located in the markets where we operate.

Any of these risks could have an adverse effect on our business, results of operations and ability to pay distributions to our stockholders.

 

 

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We may be affected by foreign government regulations and actions and foreign conditions.

If we pursue investment opportunities in international markets, foreign laws and governmental regulations may be applicable to us, our affiliates and our investors. Changes in these laws and governmental regulations, or their interpretation by agencies or the courts, could occur. Further, economic and political factors, including civil unrest, governmental changes and restrictions on the ability to transfer capital across borders in the United States, but primarily in the foreign countries in which we may invest, can have a major impact on us.

We may acquire properties with lock-out provisions which may prohibit us from selling a property, or may require us to maintain specified debt levels for a period of years on some properties.

We may acquire properties in exchange for operating partnership units and agree to restrictions on sales or refinancing, called “lock-out” provisions, which are intended to preserve favorable tax treatment for the owners of such properties who sell them to us. Lock-out provisions may restrict sales or refinancings for a certain period in order to comply with the applicable government regulations. Lock-out provisions could materially restrict us from selling or otherwise disposing of or refinancing properties. This would affect our ability to turn our investments into cash and thus affect cash available to return capital to stockholders. Lock-out provisions could impair our ability to take actions during the lock-out period that would otherwise be in the best interests of our stockholders and, therefore, might have an adverse impact on the value of the shares, relative to the value that would result if the lock-out provisions did not exist. In particular, lock-out provisions could preclude us from participating in major transactions that could result in a disposition of our assets or a change in control even though that disposition or change in control might be in the best interests of our stockholders.

Changes in applicable laws may adversely affect the income and value of our properties.

The income and value of a property may be affected by such factors as environmental, rent control and other laws and regulations, changes in applicable general and real estate tax laws (including the possibility of changes in U.S. federal income tax laws or the lengthening of the depreciation period for real estate) and interest rates, the availability of financing, acts of nature (such as hurricanes and floods) and other factors beyond our control.

Retail Industry Risks

Retail conditions may adversely affect our income.

A retail property’s revenues and value may be adversely affected by a number of factors, many of which apply to real estate investment generally, but which also include trends in the retail industry and perceptions by retailers or shoppers of the safety, convenience and attractiveness of the retail property. In addition, to the extent that the investing public has a negative perception of the retail sector, the value of our common stock may be negatively impacted.

Some of our leases may provide for base rent plus contractual base rent increases. A number of our retail leases may also include a percentage rent clause for additional rent above the base amount based upon a specified percentage of the sales our tenants generate. Generally, retailers face declining revenues during downturns in the economy. As a result, the portion of our revenue which we may derive from percentage rent leases could decline upon a general economic downturn.

Our revenue will be impacted by the success and economic viability of our anchor retail tenants. Our reliance on single or significant tenants in certain buildings may decrease our ability to lease vacated space.

In the retail sector, any tenant occupying a large portion of the gross leasable area of a retail center, a tenant of any of the triple-net single-user retail properties outside the primary geographical area of investment, commonly referred to as an anchor tenant, or a tenant that is our anchor tenant at more than one retail center, may become insolvent, may suffer a downturn in business, or may decide not to renew its lease. Any of these events would result in a reduction or cessation in rental payments to us and would adversely affect our financial condition. A lease termination by an anchor tenant could result in lease terminations or reductions in

 

 

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rent by other tenants whose leases permit cancellation or rent reduction if another tenant’s lease is terminated. We may own properties where the tenants may have rights to terminate their leases if certain other tenants are no longer open for business. These “co-tenancy” provisions may also exist in some leases where we own a portion of a retail property and one or more of the anchor tenants leases space in that portion of the center not owned or controlled by us. If such tenants were to vacate their space, tenants with co-tenancy provisions would have the right to terminate their leases with us or seek a rent reduction from us. In such event, we may be unable to re-lease the vacated space. Similarly, the leases of some anchor tenants may permit the anchor tenant to transfer its lease to another retailer. The transfer to a new anchor tenant could cause customer traffic in the retail center to decrease and thereby reduce the income generated by that retail center. A lease transfer to a new anchor tenant could also allow other tenants to make reduced rental payments or to terminate their leases at the retail center. In the event that we are unable to re-lease the vacated space to a new anchor tenant, we may incur additional expenses in order to re-model the space to be able to re-lease the space to more than one tenant.

Competition with other retail channels may reduce our profitability and the return on your investment.

Retail tenants will face potentially changing consumer preferences and increasing competition from other forms of retailing, such as discount shopping centers, outlet centers, upscale neighborhood strip centers, catalogues, discount shopping clubs, internet and telemarketing. Other retail centers within the market area of properties we invest in will compete with our properties for customers, affecting their tenants’ cash flows and thus affecting their ability to pay rent. In addition, tenants’ rent payments may be based on the amount of sales revenue that they generate. If these tenants experience competition, the amount of their rent may decrease and our cash flow will decrease.

Residential Industry Risks

Residential properties are subject to the various risks discussed above. In addition, they are subject to the risks discussed below.

The short-term nature of our residential leases may adversely impact our income.

Because substantially all of our residential leases will be for apartments, they will generally be for terms of no more than one or two years. If our residents decide not to renew their leases upon expiration, we may not be able to relet their units. If we are unable to promptly renew the leases or relet the units then our results of operations and financial condition will be adversely affected. Certain significant expenditures associated with each equity investment in real estate (such as mortgage payments, real estate taxes and maintenance costs) are generally not reduced when circumstances result in a reduction in rental income.

An economic downturn could adversely affect the residential industry and may affect operations for the residential properties that we acquire.

As a result of the effects of an economic downturn, including increased unemployment rates, the residential industry may experience a significant decline in business caused by a reduction in overall renters. The current economic downturn and increase in unemployment rates may have an adverse affect on our operations if the tenants occupying the residential and office properties we acquire cease making rent payments to us or if there a change in spending patterns resulting in reduced traffic at the retail properties we acquire. Moreover, low residential mortgage interest rates could accompany an economic downturn and encourage potential renters to purchase residences rather than lease them. The residential properties we acquire may experience declines in occupancy rate due to any such decline in residential mortgage interest rates.

Lodging Industry Risks

We may be subject to the risks common to the lodging industry.

Our hotels will be subject to all of the risks common to the hotel industry and subject to market conditions that affect all hotel properties. These risks could adversely affect hotel occupancy and the rates that can be charged for hotel rooms as well as hotel operating expenses, and generally include:

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increases in energy costs and other travel expenses that reduce business and leisure travel;

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reduced business and leisure travel due to continued geopolitical uncertainty, including terrorism;

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adverse effects of declines in general and local economic activity;

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adverse effects of a downturn in the hotel industry; and

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risks generally associated with the ownership of hotels and real estate, as discussed below.

We do not have control over the market and business conditions that affect the value of our lodging properties, and adverse changes with respect to such conditions could have an adverse effect on our results of operations, financial condition and cash flows. Hotel properties, including extended stay hotels, are subject to varying degrees of risk generally common to the ownership of hotels, many of which are beyond our control, including the following:

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increased competition from other existing hotels in our markets;

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new hotels entering our markets, which may adversely affect the occupancy levels and average daily rates of our lodging properties;

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declines in business and leisure travel;

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increases in energy costs, increased threat of terrorism, terrorist events, airline strikes or other factors that may affect travel patterns and reduce the number of business and leisure travelers;

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increases in operating costs due to inflation and other factors that may not be offset by increased room rates;

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changes in, and the related costs of compliance with, governmental laws and regulations, fiscal policies and zoning ordinances; and

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adverse effects of international, national, regional and local economic and market conditions.

Adverse changes in any or all of these factors could have an adverse effect on our results of operations, financial condition and cash flows, thereby adversely impacting our ability to service debt and to make distributions to our stockholders.

Third-party management of lodging properties can adversely affect our properties.

If we invest in lodging properties, such properties will be operated by a third-party management company and could be adversely affected if that third-party management company, or its affiliated brands, experiences negative publicity or other adverse developments, such as financial disagreements between the third-party manager and the owner, disagreements about marketing between the third-party manager and the owner and the third-party manager’s brand falls out of favor. Any lodging properties we may acquire are expected to be operated under brands owned by an affiliate of our sponsor and managed by a management company that is affiliated with such brands. Because of this concentration, negative publicity or other adverse developments that affect that operator and/or its affiliated brands generally may adversely affect our results of operations, financial condition, and consequently cash flows thereby impacting our ability to service debt, and to make distributions to our stockholders. There can be no assurance that our affiliate continues to manage any lodging properties we acquire.

As a REIT, we cannot directly operate our lodging properties.

We cannot and will not directly operate our lodging properties and, as a result, our results of operations, financial position, ability to service debt, and ability to make distributions to stockholders are dependent on the ability of our third-party management companies and our tenants to operate our hotel properties successfully. In order for us to satisfy certain REIT qualification rules, we cannot directly operate any lodging properties we may acquire or actively participate in the decisions affecting their daily operations. Instead, through a taxable REIT subsidiary, or TRS, we must enter into management agreements with a third-party management company, or we must lease our lodging properties to third-party tenants on a triple-net lease basis. We cannot and will not control this third-party management company or the tenants who operate and

 

 

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are responsible for maintenance and other day-to-day management of our lodging properties, including, but not limited to, the implementation of significant operating decisions. Thus, even if we believe our lodging properties are being operated inefficiently or in a manner that does not result in satisfactory operating results, we may not be able to require the third-party management company or the tenants to change their method of operation of our lodging properties. Our results of operations, financial position, cash flows and our ability to service debt and to make distributions to stockholders are, therefore, dependent on the ability of our third-party management company and tenants to operate our lodging properties successfully.

We will rely on third-party hotel management companies to establish and maintain adequate internal controls over financial reporting at our lodging properties. However, we will not control the design or implementation of or changes to internal controls at any of our lodging properties. Thus, even if we believe that our lodging properties are being operated without effective internal controls, we may not be able to require the third-party management company to change its internal control structure. This could require us to implement extensive and possibly inefficient controls at a parent level in an attempt to mitigate such deficiencies. If such controls are not effective, the accuracy of the results of our operations that we report could be affected. Accordingly, our ability to conclude that, as a company, our internal controls are effective is significantly dependent upon the effectiveness of internal controls that our third-party management company will implement at our lodging properties. It is possible that we could have a significant deficiency or material weakness as a result of the ineffectiveness of the internal controls at one or more of our lodging properties.

If we replace a third-party management company or tenant, we may be required by the terms of the relevant management agreement or lease to pay substantial termination fees, and we may experience significant disruptions at the affected lodging properties. While it is our intent to enter into management agreements with third-party management companies or tenants with substantial prior lodging experience, we may not be able to make such arrangements in the future. If we experience such disruptions, it may adversely affect our results of operations, financial condition and our cash flows, including our ability to service debt and to make distributions to our stockholders.

Our use of the TRS structure will increase our expenses.

A TRS structure will subject us to the risk of increased lodging operating expenses. The performance of our TRSs will be based on the operations of our lodging properties. Our operating risks will include not only changes in hotel revenues and changes to our TRSs’ ability to pay the rent due to us under the leases, but also increased hotel operating expenses, including, but not limited to, the following cost elements:

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wage and benefit costs;

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repair and maintenance expenses;

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energy costs;

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property taxes;

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insurance costs; and

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other operating expenses.

Any increases in one or more these operating expenses could have a significant adverse impact on our results of operations, cash flows and financial position.

Failure to maintain franchise licenses could decrease our revenues.

Our inability or that of our third-party management companies or our third-party tenants to maintain franchise licenses could decrease our revenues. Maintenance of franchise licenses for our lodging properties is subject to maintaining our franchisor’s operating standards and other terms and conditions. Franchisors periodically inspect lodging properties to ensure that we, our third-party tenants or our third-party management company maintain their standards. Failure by us or one of our third-party tenants or our third-party management company to maintain these standards or comply with other terms and conditions of the applicable franchise agreement could result in a franchise license being canceled. If a franchise license terminates due to our failure to make required improvements or to otherwise comply with its terms, we may

 

 

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also be liable to the franchisor for a termination fee. As a condition to the maintenance of a franchise license, our franchisor could also require us to make capital expenditures, even if we do not believe the capital improvements are necessary, desirable, or likely to result in an acceptable return on our investment. We may risk losing a franchise license if we do not make franchisor-required capital expenditures.

If our franchisor terminates the franchise license, we may try either to obtain a suitable replacement franchise or to operate the lodging property without a franchise license. The loss of a franchise license could materially and adversely affect the operations or the underlying value of the lodging property because of the loss associated with the brand recognition and/or the marketing support and centralized reservation systems provided by the franchisor. A loss of a franchise license for one or more lodging properties could materially and adversely affect our results of operations, financial condition and our cash flows, including our ability to service debt and make distributions to our stockholders.

There are risks associated with employing hotel employees.

We will generally be subject to risks associated with the employment of hotel employees. Any lodging properties we acquire will be leased to a wholly-owned TRS entity and be subject to management agreements with a third-party manager to operate the properties that we do not lease to a third party under a net lease. Hotel operating revenues and expenses for these properties will be included in our consolidated results of operations. As a result, although we do not directly employ or manage the labor force at our lodging properties, we are subject to many of the costs and risks generally associated with the hotel labor force. Our third-party manager will be responsible for hiring and maintaining the labor force at each of our lodging properties and for establishing and maintaining the appropriate processes and controls over such activities. From time to time, the operations of our lodging properties may be disrupted through strikes, public demonstrations or other labor actions and related publicity. We may also incur increased legal costs and indirect labor costs as a result of the aforementioned disruptions, or contract disputes or other events. Our third-party manager may be targeted by union actions or adversely impacted by the disruption caused by organizing activities. Significant adverse disruptions caused by union activities and/or increased costs affiliated with such activities could materially and adversely affect our results of operations, financial condition and our cash flows, including our ability to service debt and make distributions to our stockholders.

The travel and hotel industries may be affected by economic slowdowns, terrorist attacks and other world events.

The recent economic slowdown, terrorist attacks, military activity in the Middle East, natural disasters and other world events impacting the global economy have adversely affected the travel and hotel industries, including extended stay hotel properties, in the past and these adverse effects may continue or occur in the future. If there is less travelling due an economic slowdown, increased unemployment rates or rise in fuel prices, the lodging properties we may acquire may be adversely affected. As a result of terrorist attacks around the world, the war in Afghanistan and the effects of the recent economic recession, subsequent to 2001 the lodging industry experienced a significant decline in business caused by a reduction in both business and leisure travel. We cannot presently determine the impact that future events such as military or police activities in the U.S. or foreign countries, future terrorist activities or threats of such activities, natural disasters or health epidemics could have on our business. Our business and lodging properties may continue to be affected by such events, including our hotel occupancy levels and average daily rates, and, as a result, our revenues may decrease or not increase to levels we expect. In addition, other terrorist attacks, natural disasters, health epidemics, acts of war, prolonged U.S. involvement in Afghanistan or other significant military activity could have additional adverse effects on the economy in general, and the travel and lodging industry in particular. These factors could have a material adverse effect on our results of operations, financial condition, and cash flows, thereby impacting our ability to service debt and ability to make distributions to our stockholders.

The hotel industry is very competitive.

The hotel industry is intensely competitive, and, as a result, if our third-party management company and our third-party tenants are unable to compete successfully or if our competitors’ marketing strategies are more effective, our results of operations, financial condition and cash flows, including our ability to service debt and to make distributions to our stockholders, may be adversely affected. Our lodging properties compete with other existing and new hotels in their geographic markets.

 

 

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Since we do not operate our lodging properties, our revenues depend on the ability of our third-party management company and our-third party tenants to compete successfully with other hotels in their respective markets. Some of our competitors have substantially greater marketing and financial resources than we do. If our third-party management company and our third-party tenants are unable to compete successfully or if our competitors’ marketing strategies are effective, our results of operations, financial condition, ability to service debt and ability to make distributions to our stockholders may be adversely affected.

The hotel industry is seasonal, which can adversely affect our hotel properties.

The hotel industry is seasonal in nature, and, as a result, our lodging properties may be adversely affected. The seasonality of the hotel industry can be expected to cause quarterly fluctuations in our revenues. In addition, our quarterly earnings may be adversely affected by factors outside our control, such as extreme or unexpectedly mild weather conditions or natural disasters, terrorist attacks or alerts, outbreaks of contagious diseases, airline strikes, economic factors and other considerations affecting travel. To the extent that cash flows from operations are insufficient during any quarter, due to temporary or seasonal fluctuations in revenues, we may attempt to borrow in order to make distributions to our stockholders or be required to reduce other expenditures or distributions to stockholders.

The expanding use of internet travel websites by customers can adversely affect our profitability.

The increasing use of internet travel intermediaries by consumers may experience fluctuations in operating performance during the year and otherwise adversely affect our profitability and cash flows. Our third-party hotel management company will rely upon Internet travel intermediaries such as Travelocity.com , Expedia.com , Orbitz.com , Hotels.com and Priceline.com to generate demand for our lodging properties. As Internet bookings increase, these intermediaries may be able to obtain higher commissions, reduced room rates or other significant contract concessions from our third-party management company. Moreover, some of these Internet travel intermediaries are attempting to offer hotel rooms as a commodity, by increasing the importance of price and general indicators of quality (such as “three-star downtown hotel”) at the expense of brand identification. Consumers may eventually develop brand loyalties to their reservations system rather than to our third-party management company and/or our brands, which could have an adverse effect on our business because we will rely heavily on brand identification. If the amount of sales made through Internet intermediaries increases significantly and our third-party management company and our third-party tenants fail to appropriately price room inventory in a manner that maximizes the opportunity for enhanced profit margins, room revenues may flatten or decrease and our profitability may be adversely affected.

Industrial Industry Risks

Potential liability as the result of, and the cost of compliance with, environmental matters is greater if we invest in industrial properties or lease our properties to tenants that engage in industrial activities.

Under various federal, state and local environmental laws, ordinances and regulations, a current or previous owner or operator of real property may be liable for the cost of removal or remediation of hazardous or toxic substances on such property. Such laws often impose liability whether or not the owner or operator knew of, or was responsible for, the presence of such hazardous or toxic substances.

We may invest in properties historically used for industrial, manufacturing and commercial purposes. Some of these properties are more likely to contain, or may have contained, underground storage tanks for the storage of petroleum products and other hazardous or toxic substances. All of these operations create a potential for the release of petroleum products or other hazardous or toxic substances.

Leasing properties to tenants that engage in industrial, manufacturing, and commercial activities will cause us to be subject to increased risk of liabilities under environmental laws and regulations. The presence of hazardous or toxic substances, or the failure to properly remediate these substances, may adversely affect our ability to sell, rent or pledge such property as collateral for future borrowings.

Industrial properties are subject to fluctuations in manufacturing activity in the United States.

To the extent we acquire industrial properties, such properties may be adversely affected if manufacturing activity decreases in the United States. Trade agreements with foreign countries have given employers the

 

 

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option to utilize less expensive non-U.S. manufacturing workers. The outsourcing of manufacturing functions could lower the demand for our industrial properties. Moreover, an increase in the cost of raw materials or a decrease in the demand for housing could cause a slowdown in manufacturing activity, such as furniture, textiles, machinery and chemical products, and our profitability may be adversely affected.

Office Industry Risks

The loss of anchor tenants for our office properties could adversely affect our profitability.

We may acquire office properties and, as with our retail properties, we are subject to the risk that tenants may be unable to make their lease payments or may decline to extend a lease upon its expiration. A lease termination by a tenant that occupies a large area of space in one of our office properties (commonly referred to as an anchor tenant) could impact leases of other tenants. Other tenants may be entitled to modify the terms of their existing leases in the event of a lease termination by an anchor tenant or the closure of the business of an anchor tenant that leaves its space vacant, even if the anchor tenant continues to pay rent. Any such modifications or conditions could be unfavorable to us as the property owner and could decrease rents or expense recoveries. In the event of default by an anchor tenant, we may experience delays and costs in enforcing our rights as landlord to recover amounts due to us under the terms of our agreements with those parties.

Declines in overall activity in our markets may adversely affect the performance of our office properties.

Rental income from office properties fluctuates with general market and economic conditions. Our office properties may be adversely affected during periods of diminished economic growth and a decline in white-collar employment. We may experience a decrease in occupancy and rental rates accompanied by increases in the cost of re-leasing space (including for tenant improvements) and in uncollectible receivables. Early lease terminations may significantly contribute to a decline in occupancy of our office properties and may adversely affect our profitability. While lease termination fees increase current period income, future rental income may be diminished because, during periods in which market rents decline, it is unlikely that we will collect from replacement tenants the full contracted amount which had been payable under the terminated leases.

Risks Related to Real Estate-Related Investments

Risks Associated with Investments in Mezzanine and Mortgage Loans

Our advisor does not have substantial experience investing in mezzanine and mortgage loans, which could result in losses to us.

Neither our advisor nor any of its affiliates have substantial experience investing in mezzanine or mortgage loans. If we make or acquire such loans, or participations in them, we may not have the necessary expertise to maximize the return on our investment in these types of loans.

The risk of default on mezzanine and mortgage loans is caused by many factors beyond our control, and our ability to recover our investment in foreclosure may be limited.

The default risk on mezzanine and mortgage loans is caused by factors beyond our control, including local and other economic conditions affecting real estate values, interest rate changes, rezoning and failure by the borrower to maintain the property. We do not know whether the values of the property securing the loans will remain at the levels existing on the dates of origination of the loans. If the values of the underlying properties drop, our risk will increase because of the lower value of the security associated with such loans.

In the event that there are defaults under these loans, we may not be able to quickly repossess and sell the properties securing such loans. An action to foreclose on a property securing a loan is regulated by state statutes and regulations and is subject to many delays and expenses typical of any foreclosure action. In the event of default by a mortgagor, these restrictions, among other things, may impede our ability to foreclose on or sell the mortgaged property or to obtain proceeds sufficient to repay all amounts due to us on the loan, which could reduce the value of our investment in the defaulted loan.

 

 

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The mezzanine loans in which we may invest involve greater risks of loss than senior loans secured by income-producing real properties.

We may invest in mezzanine loans that take the form of subordinated loans secured by second mortgages on the underlying real property or loans secured by a pledge of the ownership interests of either the entity owning the real property or the entity that owns the interest in the entity owning the real property. These types of investments involve a higher degree of risk than long-term senior mortgage lending secured by income producing real property because the investment may become unsecured as a result of foreclosure by the senior lender. In the event of a bankruptcy of the entity providing the pledge of its ownership interests as security, we may not have full recourse to the assets of the entity, or the assets of the entity may not be sufficient to satisfy our mezzanine loan. If a borrower defaults on our mezzanine loan or debt senior to our loan, or in the event of a borrower bankruptcy, our mezzanine loan will be satisfied only after the senior debt. As a result, we may not recover some or all of our investment.

Our mortgage or mezzanine loans will be subject to interest rate fluctuations, which could reduce our returns as compared to market interest rates and reduce the value of the loans in the event we sell them.

If we invest in fixed-rate, long-term mortgage or mezzanine loans and interest rates rise, the loans could yield a return lower than then-current market rates. If interest rates decrease, we will be adversely affected to the extent that mortgage or mezzanine loans are prepaid, because we may not be able to make new loans at the previously higher interest rate. If we invest in variable-rate loans and interest rates decrease, our revenues will also decrease. Fluctuations in interest rates adverse to our loans could adversely affect our returns on such loans.

The liquidation of our assets may be delayed as a result of our investment in mortgage or mezzanine loans, which could delay distributions to our stockholders.

The mezzanine and mortgage loans we may purchase will be illiquid investments due to their short life, their unsuitability for securitization and the greater difficulty of recoupment in the event of a borrower’s default. If we enter into mortgage or mezzanine loans with terms that expire after the date we intend to have sold all of our properties, any intended liquidation of us may be delayed beyond the time of the sale of all of our properties until all mortgage or mezzanine loans expire or are sold.

Risks Related to Investments in Real Estate-Related Securities

We may invest in various types of real estate-related securities.

We may invest in real estate-related securities, including securities issued by other real estate companies, commercial mortgage-backed securities, or CMBS, or collateralized debt obligations, or CDOs. We may also invest in real estate-related securities of both publicly traded and private real estate companies. Neither we nor our advisor may have the expertise necessary to maximize the return on our investment in real estate-related securities. If our advisor determines that it is advantageous to us to make the types of investments in which our advisor or its affiliates do not have experience, our advisor intends to employ persons, engage consultants or partner with third parties that have, in our advisor’s opinion, the relevant expertise necessary to assist our advisor in evaluating, making and administering such investments.

Investments in real estate-related securities will be subject to specific risks relating to the particular issuer of the securities and may be subject to the general risks of investing in subordinated real estate securities, which may result in losses to us.

Our investments in real estate-related securities will involve special risks relating to the particular issuer of the securities, including the financial condition and business outlook of the issuer. Issuers of real estate-related securities generally invest in real estate or real estate-related assets and are subject to the inherent risks associated with real estate-related investments discussed in this prospectus, including risks relating to rising interest rates.

Real estate-related securities are often unsecured and also may be subordinated to other obligations of the issuer. As a result, investments in real estate-related securities are subject to risks of (1) limited liquidity in the

 

 

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secondary trading market in the case of unlisted or thinly traded securities, (2) substantial market price volatility resulting from changes in prevailing interest rates in the case of traded equity securities, (3) subordination to the prior claims of banks and other senior lenders to the issuer, (4) the operation of mandatory sinking fund or call/redemption provisions during periods of declining interest rates that could cause the issuer to reinvest redemption proceeds in lower yielding assets, (5) the possibility that earnings of the issuer may be insufficient to meet its debt service and distribution obligations and (6) the declining creditworthiness and potential for insolvency of the issuer during periods of rising interest rates and economic slowdown or downturn. These risks may adversely affect the value of outstanding real estate-related securities and the ability of the issuers thereof to repay principal and interest or make distribution payments.

The mortgage loans in which we may invest and the commercial mortgage loans underlying the CMBS in which we may invest will be subject to delinquency, foreclosure and loss, which could result in losses to us.

Commercial mortgage loans are secured by multifamily or other types of commercial property, and are subject to risks of delinquency and foreclosure and risks of loss that are greater than similar risks associated with loans made on the security of single family residential property. The ability of a borrower to repay a loan secured by a property typically is dependent primarily upon the successful operation of such property rather than upon the existence of independent income or assets of the borrower. If the net operating income of the property is reduced, the borrower’s ability to repay the loan may be impaired. Net operating income of an income producing property can be affected by, among other things: tenant mix, success of tenant businesses, property management decisions, property location and condition, competition from comparable types of properties, changes in laws that increase operating expense or limit rents that may be charged, any need to address environmental contamination at the property, the occurrence of any uninsured casualty at the property, changes in national, regional or local economic conditions and/or specific industry segments, declines in regional or local real estate values, declines in regional or local rental or occupancy rates, increases in interest rates, real estate tax rates and other operating expenses, changes in governmental rules, regulations and fiscal policies, including environmental legislation, acts of God, terrorism, social unrest and civil disturbances.

In the event of any default under a mortgage loan held directly by us, we will bear a risk of loss of principal to the extent of any deficiency between the value of the collateral and the principal and accrued interest of the mortgage loan, which could have a material adverse effect on our cash flow from operations and limit amounts available for distribution to our stockholders. In the event of the bankruptcy of a mortgage loan borrower, the mortgage loan to such borrower will be deemed to be secured only to the extent of the value of the underlying collateral at the time of bankruptcy (as determined by the bankruptcy court), and the lien securing the mortgage loan will be subject to the avoidance powers of the bankruptcy trustee or debtor-in-possession to the extent the lien is unenforceable under state law. Foreclosure of a mortgage loan can be an expensive and lengthy process which could have a substantial negative effect on our anticipated return on the foreclosed mortgage loan.

The CMBS and CDOs in which we may invest are subject to several types of risks.

CMBS are bonds which evidence interests in, or are secured by, a single commercial mortgage loan or a pool of commercial mortgage loans. CDOs are a type of collateralized debt obligation that is backed by commercial real estate assets, such as CMBS, commercial mortgage loans, B-notes, or mezzanine paper. Accordingly, the CMBS and CDOs we invest in are subject to all the risks of the underlying mortgage loans.

In a rising interest rate environment, the value of CMBS and CDOs may be adversely affected when payments on underlying mortgages do not occur as anticipated, resulting in the extension of the security’s effective maturity and the related increase in interest rate sensitivity of a longer-term instrument. The value of CMBS and CDOs may also change due to shifts in the market’s perception of issuers and regulatory or tax changes adversely affecting the mortgage securities markets as a whole. In addition, CMBS and CDOs are subject to the credit risk associated with the performance of the underlying mortgage properties. In certain instances, third-party guarantees or other forms of credit support can reduce the credit risk.

CMBS and CDOs are also subject to several risks created through the securitization process. Subordinate CMBS and CDOs are paid interest only to the extent that there are funds available to make payments. To the extent the collateral pool includes a large percentage of delinquent loans, there is a risk that interest payment

 

 

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on subordinate CMBS and CDOs will not be fully paid. Subordinate securities of CMBS and CDOs are also subject to greater credit risk than those CMBS and CDOs that are more highly rated.

If we use leverage in connection with our investment in CMBS or CDOs, the risk of loss associated with this type of investment will increase.

We may use leverage in connection with our investment in CMBS or CDOs. Although the use of leverage may enhance returns and increase the number of investments that can be made, it may also substantially increase the risk of loss. There can be no assurance that leveraged financing will be available to us on favorable terms or that, among other factors, the terms of such financing will parallel the maturities of the underlying securities acquired. Therefore, such financing may mature prior to the maturity of the CMBS or CDOs acquired by us. If alternative financing is not available, we may have to liquidate assets at unfavorable prices to pay off such financing. We may utilize repurchase agreements as a component of our financing strategy. Repurchase agreements economically resemble short-term, variable-rate financing and usually require the maintenance of specific loan-to-collateral value ratios. If the market value of the CMBS or CDOs subject to a repurchase agreement decline, we may be required to provide additional collateral or make cash payments to maintain the loan to collateral value ratio. If we are unable to provide such collateral or cash repayments, we may lose our economic interest in the underlying these securities.

Investments in real estate-related preferred equity securities involve a greater risk of loss than traditional debt financing.

We may invest in real estate-related preferred equity securities, which may involve a higher degree of risk than traditional debt financing due to a several factors, including that such investments are subordinate to traditional loans and are not secured by property underlying the investment. If the issuer defaults on our investment, we would only be able to take action against the entity in which we have an interest, not the property owned by such entity underlying our investment. As a result, we may not recover some or all of our investment, which could result in losses to us.

Market conditions and the risk of further market deterioration may cause a decrease in the value of our real estate securities.

The U.S. credit markets and the sub-prime residential mortgage market have experienced severe dislocations and liquidity disruptions. Sub-prime mortgage loans have experienced increased rates of delinquency, foreclosure and loss. These and other related events have had a significant impact on the capital markets associated not only with sub-prime mortgage-backed securities and asset-backed securities and CDOs, but also with the U.S. credit and financial markets as a whole.

We may invest in any real estate securities, including CMBS and CDOs, that contain assets that could be classified as sub-prime residential mortgages. The values of many of these securities are sensitive to the volatility of the credit markets, and many of these securities may be adversely affected by future developments. In addition, to the extent there is turmoil in the credit markets, it has the potential to materially affect both the value of our real estate related securities investments and/or the availability or the terms of financing that we may anticipate utilizing in order to leverage our real estate related securities investments.

The market volatility has also made the valuation of these securities more difficult, particularly the CMBS and CDO assets. Management’s estimate of the value of these investments incorporates a combination of independent pricing agency and third-party dealer valuations, as well as comparable sales transactions. However, the methodologies that we will use in valuing individual investments are generally based on a variety of estimates and assumptions specific to the particular investments, and actual results related to the investments therefore often vary materially from such assumptions or estimates.

Because there is significant uncertainty in the valuation of, or in the stability of the value of, certain of these securities holdings, the fair values of such investments as reflected in our results of operations may not reflect the prices that we would obtain if such investments were actually sold. Furthermore, due to market events, many of these investments are subject to rapid changes in value caused by sudden developments which could have a material adverse effect on the value of these investments.

 

 

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A portion of our real estate securities investments may be illiquid and we may not be able to adjust our portfolio in response to changes in economic and other conditions.

Certain of the real estate securities that we may purchase in the future in connection with privately negotiated transactions may not be registered under the relevant securities laws, resulting in a prohibition against their sale, transfer, pledge or other disposition except in a transaction exempt from the registration requirements of those laws. As a result, our ability to vary our portfolio in response to changes in economic and other conditions may be relatively limited.

Interest rate and related risks may cause the value of our real estate securities investments to be reduced.

Interest rate risk is the risk that fixed income securities will decline in value because of changes in market interest rates. Generally, when market interest rates rise, the market value of such securities will decline. Our investment in such securities means that the net asset value and market price of the common shares may tend to decline if market interest rates rise.

During periods of rising interest rates, the average life of certain types of securities may be extended because of slower-than-expected principal payments. This may lock in a below-market interest rate, increase the security’s duration and reduce the value of the security. This is known as extension risk. During periods of declining interest rates, an issuer may be able to exercise an option to prepay principal earlier than scheduled, which is generally known as call or prepayment risk. If this occurs, we may be forced to reinvest in lower yielding securities. This is known as reinvestment risk. An issuer may redeem an obligation if the issuer can refinance the debt at a lower cost due to declining interest rates or an improvement in the credit standing of the issuer. These risks may reduce the value of our real estate securities investments.

Real Estate Financing Risks

General Financing Risks

We have incurred mortgage indebtedness and other borrowings, which may increase our business risks.

We acquired and intend to continue to acquire properties subject to existing financing or by borrowing new funds. In addition, we intend to incur or increase our mortgage debt by obtaining loans secured by selected or all of the real properties to obtain funds to acquire additional real properties. We may also borrow funds if necessary to satisfy the requirement that we annually distribute to stockholders at least 90% of our REIT taxable income (which does not equal net income, as calculated in accordance with GAAP), determined without regard to the deduction for dividends paid and excluding net capital gain, or otherwise as is necessary or advisable to assure that we maintain our qualification as a REIT.

We incur mortgage debt on a particular real property if we believe the property’s projected cash flow is sufficient to service the mortgage debt. However, if there is a shortfall in cash flow, requiring us to use cash from other sources to make the mortgage payments on the property, then the amount available for distributions to stockholders may be affected. In addition, incurring mortgage debt increases the risk of loss since defaults on indebtedness secured by properties may result in foreclosure actions initiated by lenders and our loss of the property securing the loan which is in default. For tax purposes, a foreclosure of any of our properties would be treated as a sale of the property for a purchase price equal to the outstanding balance of the debt secured by the mortgage. If the outstanding balance of the debt secured by the mortgage exceeds our tax basis in the property, we would recognize taxable income on foreclosure, but would not receive any cash proceeds. We may, in some circumstances, give a guaranty on behalf of an entity that owns one of our properties. In these cases, we will be responsible to the lender for satisfaction of the debt if it is not paid by such entity. If any mortgages contain cross-collateralization or cross-default provisions, there is a risk that more than one real property may be affected by a default.

Our mortgage debt contains clauses providing for prepayment penalties. If a lender invokes these penalties upon the sale of a property or the prepayment of a mortgage on a property, the cost to us to sell the property could increase substantially, and may even be prohibitive. This could lead to a reduction in our income, which would reduce cash available for distribution to stockholders and may prevent us from borrowing more money. Moreover, if we enter into financing arrangements involving balloon payment

 

 

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obligations, such financing arrangements will involve greater risks than financing arrangements whose principal amount is amortized over the term of the loan. At the time the balloon payment is due, we may or may not be able to refinance the balloon payment on terms as favorable as the original loan or sell the property at a price sufficient to make the balloon payment.

If we have insufficient working capital reserves, we will have to obtain financing from other sources.

If our working capital reserves are insufficient to meet our cash needs, we may have to obtain financing to fund our cash requirements. Sufficient financing may not be available or, if available, may not be available on economically feasible terms or on terms acceptable to us. If mortgage debt is unavailable at reasonable rates, we will not be able to place financing on the properties, which could reduce the number of properties we can acquire and the amount of distributions per share. If we place mortgage debt on the properties, we run the risk of being unable to refinance the properties when the loans come due, or of being unable to refinance on favorable terms. If interest rates are higher when the properties are refinanced, our income could be reduced, which would reduce cash available for distribution to stockholders and may prevent us from borrowing more money. Additional borrowing for working capital purposes will increase our interest expense, and therefore our financial condition and our ability to pay distributions may be adversely affected.

We may not have funding or capital resources for future improvements.

When a commercial tenant at one of our properties does not renew its lease or otherwise vacates its space in one of our buildings, it is likely that, in order to attract one or more new tenants, we will be required to expend substantial funds for leasing costs, tenant improvements and tenant refurbishments to the vacated space. We will incur certain fixed operating costs during the time the space is vacant as well as leasing commissions and related costs to re-lease the vacated space. We may also have similar future capital needs in order to renovate or refurbish any of our properties for other reasons.

Also, in the event we need to secure funding sources in the future but are unable to secure such sources or are unable to secure funding on terms we feel are acceptable, we may be required to defer capital improvements or refurbishment to a property. This may cause such property to suffer from a greater risk of obsolescence or a decline in value and/or produce decreased cash flow as the result of our inability to attract tenants to the property. If this happens, we may not be able to maintain projected rental rates for affected properties, and our results of operations may be negatively impacted. Or, we may be required to secure funding on unfavorable terms.

We may be adversely affected by limitations in our charter on the aggregate amount we may borrow.

Our charter provides that the aggregate amount of borrowing, both secured and unsecured, may not exceed 300% of net assets in the absence of a satisfactory showing that a higher level is appropriate, the approval of our Board of Directors and disclosure to stockholders. Net assets means our total assets, other than intangibles, at cost before deducting depreciation, reserves for bad debts or other non-cash reserves, less our total liabilities, calculated at least quarterly on a basis consistently applied. Any excess in borrowing over such 300% of net assets level must be approved by a majority of our independent directors and disclosed to our stockholders in our next quarterly report to stockholders, along with justification for such excess.

That limitation could have adverse business consequences such as:

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limiting our ability to purchase additional properties;

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causing us to lose our REIT status if additional borrowing was necessary to pay the required minimum amount of cash distributions to our stockholders to maintain our status as a REIT;

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causing operational problems if there are cash flow shortfalls for working capital purposes; and

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resulting in the loss of a property if, for example, financing was necessary to repay a default on a mortgage.

Our debt financing for acquisitions will frequently be determined from appraised values in lieu of acquisition cost. As appraisal values are typically greater than acquisition cost for the type of value assets we

 

 

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seek to acquire, our debt can be expected to exceed certain of our leverage limitations. Our Board of Directors, including all of our independent directors, will approve any leverage exceptions as required by our charter.

Any excess borrowing over the 300% level will be disclosed to stockholders in our next quarterly report, along with justification for such excess.

Lenders may require us to enter into restrictive covenants relating to our operations.

In connection with obtaining financing, a bank or other lender could impose restrictions on us affecting our ability to incur additional debt and our distribution and operating policies. Loan documents we enter into may contain negative covenants limiting our ability to, among other things, further mortgage our properties, discontinue insurance coverage or replace Lightstone Value Plus REIT II LLC as our advisor. In addition, prepayment penalties imposed by banks or other lenders could affect our ability to sell properties when we want.

If lenders are not willing to make loans to our sponsor because of recent defaults on some of our sponsor’s properties, lenders may be less inclined to make loans to us and we may not be able to obtain financing for our acquisitions.

U.S. and international markets have recently experienced increased levels of volatility due to a combination of factors, including decreasing values of residential and commercial real estate, limited access to credit, the collapse or near collapse of certain financial institutions, higher energy costs, decreased consumer spending and a national and global recession. Certain of our sponsor’s program and non-program properties have been adversely affected by these market conditions and their impact on the real estate market. For example, increased unemployment and the resulting decrease in business travel has adversely affected the occupancy rates and revenues per room at our sponsor’s lodging properties. After an analysis of these factors and other factors, taking into account the increased costs of borrowing, the dislocation in the credit markets and that certain properties are not generating sufficient cash flow to cover their fixed costs, our sponsor has elected to stop making payments on the non-recourse debt obligations for certain program and non-program properties. As a result, lenders may be less willing to make loans to our sponsor or its affiliates. If lenders are unwilling to make loans to us, we may be unable to purchase certain properties or may be required to defer capital improvements or refurbishments to our properties. Additionally, sellers of real property may be less inclined to enter into negotiations with us if they believe that we may be unable to obtain financing. The inability to purchase certain properties may increase the time it takes for us to generate FFO. Additionally, the inability to improve our properties may cause such property to suffer from a greater risk of obsolescence or a decline in value, which could result in a decrease in our cash flow from the inability to attract tenants. For a description of certain recent adverse developments, see the section of this prospectus captioned “Prior Performance of Affiliates of Our Sponsor — Recent Adverse Business Developments.”

Financing Risks on the Property Level

Some of our mortgage loans may have “due on sale” provisions.

In purchasing properties subject to financing, we may obtain financing with “due-on-sale” and/or “due-on-encumbrance” clauses. Due-on-sale clauses in mortgages allow a mortgage lender to demand full repayment of the mortgage loan if the borrower sells the mortgaged property. Similarly, due-on-encumbrance clauses allow a mortgage lender to demand full repayment if the borrower uses the real estate securing the mortgage loan as security for another loan. These clauses may cause the maturity date of such mortgage loans to be accelerated and such financing to become due. In such event, we may be required to sell our properties on an all-cash basis, to acquire new financing in connection with the sale, or to provide seller financing. It is not our intent to provide seller financing, although it may be necessary or advisable for us to do so in order to facilitate the sale of a property. It is unknown whether the holders of mortgages encumbering our properties will require such acceleration or whether other mortgage financing will be available. Such factors will depend on the mortgage market and on financial and economic conditions existing at the time of such sale or refinancing.

 

 

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Lenders may be able to recover against our other properties under our mortgage loans.

We may seek recourse financing to acquire properties. In which event, in addition to the property securing the loan, the lender may look to our other assets for satisfaction of the debt. Thus, should we be unable to repay a recourse loan with the proceeds from the sale or other disposition of the property securing the loan, the lender could look to one or more of our other properties for repayment. Also, in order to facilitate the sale of a property, we may allow the buyer to purchase the property subject to an existing loan whereby we remain responsible for the debt.

Our mortgage loans may charge variable interest.

Some of our mortgage loans will be subject to fluctuating interest rates based on certain index rates, such as the prime rate. Future increases in the index rates would result in increases in debt service on variable rate loans and thus reduce funds available for acquisitions of properties and distributions to our stockholders.

Insurance Risks

We may suffer losses that are not covered by insurance.

If we suffer losses that are not covered by insurance or that are in excess of insurance coverage, we could lose invested capital and anticipated profits. Material losses may occur in excess of insurance proceeds with respect to any property as insurance proceeds may not provide sufficient resources to fund the losses. Moreover, there are types of losses, generally of a catastrophic nature, such as losses due to wars, earthquakes, floods, hurricanes, pollution, environmental matters, mold, and terrorism, which are either uninsurable or not economically insurable, or may be insured subject to limitations, such as large deductibles or co-payments.

Insurance companies have recently begun to exclude acts of terrorism from standard coverage. Terrorism insurance is currently available at an increased premium, and it is possible that the premium will increase in the future or that terrorism coverage will become unavailable. Mortgage lenders in some cases have begun to insist that specific coverage against terrorism be purchased by commercial owners as a condition for providing loans. We intend to obtain terrorism insurance if required by our lenders, but the terrorism insurance that we obtain may not be sufficient to cover loss for damages to our properties as a result of terrorist attacks. In addition, we may not be able to obtain insurance against the risk of terrorism because it may not be available or may not be available on terms that are economically feasible. In such instances, we may be required to provide other financial support, either through financial assurances or self-insurance, to cover potential losses. We cannot assure you that we will have adequate coverage for such losses. If such an event occurred to, or caused the destruction of, one or more of our properties, we could lose both our invested capital and anticipated profits from such property. In addition, certain losses resulting from these types of events are uninsurable and others may not be covered by our terrorism insurance. Terrorism insurance may not be available at a reasonable price or at all.

In addition, many insurance carriers are excluding asbestos-related claims from standard policies, pricing asbestos endorsements at prohibitively high rates or adding significant restrictions to this coverage. Because of our inability to obtain specialized coverage at rates that correspond to the perceived level of risk, we may not obtain insurance for acts of terrorism or asbestos-related claims. We will continue to evaluate the availability and cost of additional insurance coverage from the insurance market. If we decide in the future to purchase insurance for terrorism or asbestos, the cost could have a negative impact on our results of operations. If an uninsured loss or a loss in excess of insured limits occurs on a property, we could lose our capital invested in the property, as well as the anticipated future revenues from the property and, in the case of debt that is recourse to us, would remain obligated for any mortgage debt or other financial obligations related to the property. Any loss of this nature would adversely affect us, and we cannot assure that we will adequately insure our properties.

Compliance with Laws

The costs of compliance with environmental laws and regulations may adversely affect our income and the cash available for any distributions.

All real property and the operations conducted on real property are subject to federal, state and local laws and regulations relating to environmental protection and human health and safety. These laws and regulations

 

 

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generally govern wastewater discharges, air emissions, the operation and removal of underground and above-ground storage tanks, the use, storage, treatment, transportation and disposal of solid and hazardous materials, and the remediation of contamination associated with disposals. Some of these laws and regulations may impose joint and several liability on tenants, owners or operators for the costs of investigation or remediation of contaminated properties, regardless of fault or the legality of the original disposal. Under various federal, state and local laws, ordinances and regulations, a current or previous owner, developer or operator of real estate may be liable for the costs of removal or remediation of hazardous or toxic substances at, on, under or in its property. The costs of removal or remediation could be substantial. In addition, the presence of these substances, or the failure to properly remediate these substances, may adversely affect our ability to sell or rent such property or to use the property as collateral for future borrowing.

Environmental laws often impose liability without regard to whether the owner or operator knew of, or was responsible for, the presence of hazardous or toxic materials. Even if more than one person may have been responsible for the contamination, each person covered by the environmental laws may be held responsible for all of the clean-up costs incurred. In addition, third parties may sue the owner or operator of a site for damages and costs resulting from environmental contamination arising from that site. The presence of hazardous or toxic materials, or the failure to address conditions relating to their presence properly, may adversely affect the ability to rent or sell the property or to borrow using the property as collateral. Persons who dispose of or arrange for the disposal or treatment of hazardous or toxic materials may also be liable for the costs of removal or remediation of such materials, or for related natural resource damages, at or from an off-site disposal or treatment facility, whether or not the facility is or ever was owned or operated by those persons. In addition, environmental laws today can impose liability on a previous owner or operator of a property that owned or operated the property at a time when hazardous or toxic substances were disposed on, or released from, the property. A conveyance of the property, therefore, does not relieve the owner or operator from liability.

There may be potential liability associated with lead-based paint arising from lawsuits alleging personal injury and related claims. Typically, the existence of lead paint is more of a concern in residential units than in commercial properties. Although a structure built prior to 1978 may contain lead-based paint and may present a potential for exposure to lead, structures built after 1978 are not likely to contain lead-based paint.

Properties’ values may also be affected by their proximity to electric transmission lines. Electric transmission lines are one of many sources of electro-magnetic fields, or EMFs, to which people may be exposed. Research completed regarding potential health concerns associated with exposure to EMFs has produced inconclusive results. Notwithstanding the lack of conclusive scientific evidence, some states now regulate the strength of electric and magnetic fields emanating from electric transmission lines, and other states have required transmission facilities to measure for levels of EMFs. On occasion, lawsuits have been filed (primarily against electric utilities) that allege personal injuries from exposure to transmission lines and EMFs, as well as from fear of adverse health effects due to such exposure. This fear of adverse health effects from transmission lines has been considered both when property values have been determined to obtain financing and in condemnation proceedings. We may not, in certain circumstances, search for electric transmission lines near our properties, but are aware of the potential exposure to damage claims by persons exposed to EMFs.

Recently, indoor air quality issues, including mold, have been highlighted in the media and the industry is seeing mold claims from lessees rising. To date, we have not incurred any material costs or liabilities relating to claims of mold exposure or abating mold conditions. However, due to the recent increase in mold claims and given that the law relating to mold is unsettled and subject to change, we could incur losses from claims relating to the presence of, or exposure to, mold or other microbial organisms, particularly if we are unable to maintain adequate insurance to cover such losses. We may also incur unexpected expenses relating to the abatement of mold on properties that we may acquire.

Limited quantities of asbestos-containing materials are present in various building materials such as floor coverings, ceiling texture material, acoustical tiles and decorative treatment. Environmental laws govern the presence, maintenance and removal of asbestos. These laws could be used to impose liability for release of, and exposure to, hazardous substances, including asbestos-containing materials, into the air. Such laws require

 

 

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that owners or operators of buildings containing asbestos (1) properly manage and maintain the asbestos, (2) notify and train those who may come into contact with asbestos and (3) undertake special precautions, including removal or other abatement, if asbestos would be disturbed during renovation or demolition of a building. Such laws may impose fines and penalties on building owners or operators who fail to comply with these requirements. These laws may allow third parties to seek recovery from owners or operators of real properties for personal injury associated with exposure to asbestos fibers. As the owner of our properties, we may be potentially liable for any such costs.

We cannot assure you that properties which we acquire in the future will not have any material environmental conditions, liabilities or compliance concerns. Accordingly, we have no way of determining at this time the magnitude of any potential liability to which we may be subject arising out of environmental conditions or violations with respect to the properties we own.

The costs of compliance with laws and regulations relating to our lodging and residential properties may adversely affect our income and the cash available for any distributions.

Various laws, ordinances, and regulations affect multi-family residential properties, including regulations relating to recreational facilities, such as activity centers and other common areas. In addition, rent control laws may be applicable to any of our residential properties.

Some of these laws and regulations have been amended so as to require compliance with new or more stringent standards as of future dates. Compliance with new or more stringent laws or regulations, stricter interpretation of existing laws or the future discovery of environmental contamination may require material expenditures by us. Future laws, ordinances or regulations may impose material environmental liabilities, and the current environmental condition of our properties might be affected by the operations of the tenants, by the existing condition of the land, by operations in the vicinity of the properties, such as the presence of underground storage tanks, or by the activities of unrelated third parties.

These laws typically allow liens to be placed on the affected property. In addition, there are various local, state and federal fire, health, life-safety and similar regulations which we may be required to comply with, and which may subject us to liability in the form of fines or damages for noncompliance.

Any newly acquired or developed lodging or multi-family residential properties must comply with Title II of the Americans with Disabilities Act, or the ADA, to the extent that such properties are “public accommodations” and/or “commercial facilities” as defined by the ADA. Compliance with the ADA requires removal of structural barriers to handicapped access in certain public areas of the properties where such removal is “readily achievable.” Noncompliance with the ADA could result in the imposition of injunctive relief, monetary penalties or, in some cases, an award of damages to private litigants. The cost of defending against any claims of liability under the ADA or the payment of any fines or damages could adversely affect our financial condition and affect cash available to return capital and the amount of distributions to you.

The Fair Housing Act, or the FHA, requires, as part of the Fair Housing Amendments Act of 1988, apartment communities first occupied after March 13, 1990 to be accessible to the handicapped. Noncompliance with the FHA could result in the imposition of fines or an award of damages to private litigants. The cost of defending against any claims of liability under the FHA or the payment of any fines or damages could adversely affect our financial condition.

Changes in applicable laws and regulations may adversely affect the income and value of our properties.

The income and value of a property may be affected by such factors as environmental, rent control and other laws and regulations and changes in applicable general and real estate tax laws (including the possibility of changes in the U.S. federal income tax laws or the lengthening of the depreciation period for real estate). For example, the properties we will acquire will be subject to real and personal property taxes that may increase as property tax rates change and as the properties are assessed or reassessed by taxing authorities. We anticipate that most of our leases will generally provide that the property taxes, or increases therein, are charged to the lessees as an expense related to the properties that they occupy. As the owner of the properties, however, we are ultimately responsible for payment of the taxes to the government. If property taxes increase, our tenants may be unable to make the required tax payments, ultimately requiring us to pay the taxes. In

 

 

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addition, we will generally be responsible for property taxes related to any vacant space. If we purchase residential properties, the leases for such properties typically will not allow us to pass through real estate taxes and other taxes to residents of such properties. Consequently, any tax increases may adversely affect our results of operations at such properties.

Failure to comply with applicable laws and regulations where we invest could result in fines, suspension of personnel of our advisor, or other sanctions. Compliance with new laws or regulations or stricter interpretation of existing laws may require us to incur material expenditures, which could reduce the available cash flow for distributions to our stockholders. Additionally, future laws, ordinances or regulations may impose material environmental liability, which may have a material adverse effect on our results of operations.

Risks Related to General Economic Conditions and Terrorism

Adverse economic conditions may negatively affect our returns and profitability.

The timing, length and severity of any economic slowdown that the nation may experience, including the current economic slowdown, cannot be predicted with certainty. Since we may liquidate within seven to ten years after the proceeds from the offering are fully invested, there is a risk that depressed economic conditions at that time could cause cash flow and appreciation upon the sale of our properties, if any, to be insufficient to allow sufficient cash remaining after payment of our expenses for a significant return on stockholders’ investment.

The terrorist attacks of September 11, 2001 on the United States negatively impacted the U.S. economy and the U.S. financial markets. Any future terrorist attacks and the anticipation of any such attacks, or the consequences of the military or other response by the U.S. and its allies, may have further adverse impacts on the U.S. financial markets and the economy and may adversely affect our operations and our profitability. It is not possible to predict the severity of the effect that any of these future events would have on the U.S. financial markets and economy.

It is possible that the economic impact of the terrorist attacks may have an adverse effect on the ability of the tenants of our properties to pay rent. In addition, insurance on our real estate may become more costly and coverage may be more limited due to these events. The instability of the U.S. economy may also reduce the number of suitable investment opportunities available to us and may slow the pace at which those investments are made. In addition, armed hostilities and further acts of terrorism may directly impact our properties. These developments may subject us to increased risks and, depending on their magnitude, could have a material adverse effect on our business and stockholders’ investment.

The state of the markets could limit our ability to obtain financing which may have a material adverse impact on our earnings and financial condition.

The commercial real estate debt markets are experiencing volatility as a result of certain factors including the tightening of underwriting standards by lenders and credit rating agencies and the significant inventory of unsold CMBS in the market. Credit spreads for major sources of capital have widened significantly as investors have demanded a higher risk premium. This is resulting in lenders increasing the cost for debt financing. Should the overall cost of borrowings increase, either by increases in the index rates or by increases in lender spreads, we will need to factor such increases into the economics of our acquisitions. This may result in our acquisitions generating lower overall economic returns and potentially reducing cash flow available for distribution.

The recent dislocations in the debt markets has reduced the amount of capital that is available to finance real estate, which, in turn, (a) will no longer allow real estate investors to rely on capitalization rate compression to generate returns and (b) has slowed real estate transaction activity, all of which may reasonably be expected to have a material impact, favorable or unfavorable, on revenues or income from the acquisition and operations of real properties and mortgage loans. Investors will need to focus on market-specific growth dynamics, operating performance, asset management and the long-term quality of the underlying real estate.

In addition, the state of the debt markets could have an impact on the overall amount of capital investing in real estate which may result in price or value decreases of real estate assets.

 

 

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U.S. Federal Income Tax Risks

Our failure to qualify or remain qualified as a REIT would subject us to U.S. federal income tax and potentially state and local tax, and would adversely affect our operations and the market price of our common stock.

We believe that we have qualified to be taxed as a REIT commencing with our taxable year ended December 31, 2009 and intend to operate in a manner that would allow us to continue to qualify as a REIT. However, we may terminate our REIT qualification, if our Board of Directors determines that not qualifying as a REIT is in our best interests, or inadvertently. Our qualification as a REIT depends upon our satisfaction of certain asset, income, organizational, distribution, stockholder ownership and other requirements on a continuing basis. The REIT qualification requirements are extremely complex and interpretation of the U.S. federal income tax laws governing qualification as a REIT is limited. Furthermore, any opinion of our counsel, including tax counsel, as to our eligibility to qualify or remain qualified as a REIT is not binding on the IRS and is not a guarantee that we will qualify, or continue to qualify, as a REIT. Accordingly, we cannot be certain that we will be successful in operating so we can qualify or remain qualified as a REIT. Our ability to satisfy the asset tests depends on our analysis of the characterization and fair market values of our assets, some of which are not susceptible to a precise determination, and for which we will not obtain independent appraisals. Our compliance with the REIT income or quarterly asset requirements also depends on our ability to successfully manage the composition of our income and assets on an ongoing basis. Accordingly, if certain of our operations were to be recharacterized by the IRS, such recharacterization would jeopardize our ability to satisfy all requirements for qualification as a REIT. Furthermore, future legislative, judicial or administrative changes to the U.S. federal income tax laws could be applied retroactively, which could result in our disqualification as a REIT.

If we fail to continue to qualify as a REIT for any taxable year, and we do not qualify for certain statutory relief provisions, we will be subject to U.S. federal income tax on our taxable income at corporate rates. In addition, we would generally be disqualified from treatment as a REIT for the four taxable years following the year of losing our REIT qualification. Losing our REIT qualification would reduce our net earnings available for investment or distribution to stockholders because of the additional tax liability. In addition, distributions to stockholders would no longer qualify for the dividends paid deduction, and we would no longer be required to make distributions. If this occurs, we might be required to borrow funds or liquidate some investments in order to pay the applicable tax.

Even if we qualify as a REIT, in certain circumstances, we may incur tax liabilities that would reduce our cash available for distribution to you

Even if we qualify and maintain our status as a REIT, we may be subject to U.S. federal, state and local income taxes. For example, net income from the sale of properties that are “dealer” properties sold by a REIT (a “prohibited transaction” under the Code) will be subject to a 100% tax. We may not make sufficient distributions to avoid excise taxes applicable to REITs. We also may decide to retain net capital gain we earn from the sale or other disposition of our property and pay U.S. federal income tax directly on such income. In that event, our stockholders would be treated as if they earned that income and paid the tax on it directly. However, stockholders that are tax-exempt, such as charities or qualified pension plans, would have no benefit from their deemed payment of such tax liability unless they file U.S. federal income tax returns and thereon seek a refund of such tax. We also will be subject to corporate tax on any undistributed REIT taxable income. We also may be subject to state and local taxes on our income or property, including franchise, payroll and transfer taxes, either directly or at the level of our Operating Partnership or at the level of the other companies through which we indirectly own our assets, such as our TRSs, which are subject to full U.S. federal, state, local and foreign corporate-level income taxes. Any taxes we pay directly or indirectly will reduce our cash available for distribution to you.

To qualify as a REIT we must meet annual distribution requirements, which may force us to forgo otherwise attractive opportunities or borrow funds during unfavorable market conditions. This could delay or hinder our ability to meet our investment objectives and reduce your overall return.

In order to qualify and maintain our status as a REIT, we must distribute annually to our stockholders at least 90% of our REIT taxable income (which does not equal net income, as calculated in accordance with

 

 

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GAAP), determined without regard to the deduction for dividends paid and excluding net capital gain. We will be subject to U.S. 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 (a) 85% of our ordinary income, (b) 95% of our capital gain net income and (c) 100% of our undistributed income from prior years. These requirements could cause us to distribute amounts that otherwise would be spent on investments in real estate assets and it is possible that we might be required to borrow funds, possibly at unfavorable rates, or sell assets to fund these distributions. It is possible that we might not always be able to make distributions sufficient to meet the annual distribution requirements and to avoid U.S. federal income and excise taxes on our earnings while we qualify as a REIT.

Certain of our business activities are potentially subject to the prohibited transaction tax, which could reduce the return on your investment.

For so long as we qualify as a REIT, our ability to dispose of property during the first few years following acquisition may be restricted to a substantial extent as a result of our REIT qualification. Under applicable provisions of the Code regarding prohibited transactions by REITs, while we qualify as a REIT, we will be subject to a 100% penalty tax on any gain recognized on the sale or other disposition of any property (other than foreclosure property) that we own, directly or indirectly through any subsidiary entity, including our Operating Partnership, but generally excluding our TRSs, that is deemed to be inventory or property held primarily for sale to customers in the ordinary course of a trade or business. Whether property is inventory or otherwise held primarily for sale to customers in the ordinary course of a trade or business depends on the particular facts and circumstances surrounding each property. We intend to avoid the 100% prohibited transaction tax by (1) conducting activities that may otherwise be considered prohibited transactions through a TRS (but such TRS would incur corporate rate income taxes), (2) conducting our operations in such a manner so that no sale or other disposition of an asset we own, directly or indirectly through any subsidiary, will be treated as a prohibited transaction, or (3) structuring certain dispositions of our properties to comply with the requirements of the prohibited transaction safe harbor available under the Code for properties that, among other requirements, have been held for at least two years. Despite our present intention, no assurance can be given that any particular property we own, directly or through any subsidiary entity, including our Operating Partnership, but generally excluding our TRSs, will not be treated as inventory or property held primarily for sale to customers in the ordinary course of a trade or business.

Our TRSs are subject to corporate-level taxes and our dealings with our TRSs may be subject to 100% excise tax.

A REIT may own up to 100% of the stock of one or more TRSs. Both the subsidiary and the REIT must jointly elect to treat the subsidiary as a TRS. A corporation of which a TRS directly or indirectly owns more than 35% of the voting power or value of the stock will automatically be treated as a TRS. Overall, no more than 25% of the gross value of a REIT’s assets may consist of stock or securities of one or more TRSs.

A TRS may hold assets and earn income that would not be qualifying assets or income if held or earned directly by a REIT, including gross income from operations pursuant to management contracts. We must operate our “qualified lodging facilities” through one or more TRS that lease such properties from us. We may use our TRSs generally for other activities as well, such as to hold properties for sale in the ordinary course of a trade or business or to hold assets or conduct activities that we cannot conduct directly as a REIT. A TRS will be subject to applicable U.S. federal, state, local and foreign income tax on its taxable income. In addition, the rules, which are applicable to us as a REIT, also impose a 100% excise tax on certain transactions between a TRS and its parent REIT that are not conducted on an arm’s-length basis.

If our leases to our TRSs are not respected as true leases for U.S. federal income tax purposes, we would fail to qualify as a REIT.

To qualify as a REIT, we must satisfy two gross income tests, under which specified percentages of our gross income must be derived from certain sources, such as “rents from real property.” In order for such rent to qualify as “rents from real property” for purposes of the REIT gross income tests, the leases must be respected as true leases for U.S. federal income tax purposes and not be treated as service contracts, joint ventures or some other type of arrangement. If our leases are not respected as true leases for U.S. federal income tax purposes, we would fail to qualify as a REIT.

 

 

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If our Operating Partnership failed to qualify as a partnership or is not otherwise disregarded for U.S. federal income tax purposes, we would cease to qualify as a REIT.

We intend to maintain the status of the Operating Partnership as a partnership or a disregarded entity for U.S. federal income tax purposes. However, if the IRS were to successfully challenge the status of the Operating Partnership as a partnership or disregarded entity for such purposes, it would be taxable as a corporation. In such event, this would reduce the amount of distributions that the Operating Partnership could make to us. This also would result in our failing to qualify as a REIT, and becoming subject to a corporate level tax on our income. This substantially would reduce our cash available to pay distributions and the yield on your investment. In addition, if any of the partnerships or limited liability companies through which the Operating Partnership owns its properties, in whole or in part, loses its characterization as a partnership and is otherwise not disregarded for U.S. federal income tax purposes, it would be subject to taxation as a corporation, thereby reducing distributions to the Operating Partnership. Such a recharacterization of an underlying property owner could also threaten our ability to maintain our REIT qualification.

If our “qualified lodging facilities” are not properly leased to a TRS or the managers of such “qualified lodging facilities” do not qualify as “eligible independent contractors,” we could fail to qualify as a REIT.

In general, we cannot operate any lodging facilities and can only indirectly participate in the operation of “qualified lodging facilities” on an after-tax basis through leases of such properties to our TRSs. A “qualified lodging facility” is a hotel, motel, or other establishment in which more than one-half of the dwelling units are used on a transient basis at which or in connection with which wagering activities are not conducted. Rent paid by a lessee that is a “related party tenant” of ours will not be qualifying income for purposes of the two gross income tests applicable to REITs. A TRS that leases lodging facilities from us will not be treated as a “related party tenant” with respect to our lodging facilities that are managed by an independent management company, so long as the independent management company qualifies as an “eligible independent contractor.”

Each of the management companies that enters into a management contract with our TRSs must qualify as an “eligible independent contractor” under the REIT rules in order for the rent paid to us by our TRSs to be qualifying income for purposes of the REIT gross income tests. An “eligible independent contractor” is an independent contractor that, at the time such contractor enters into a management or other agreement with a TRS to operate a “qualified lodging facility,” is actively engaged in the trade or business of operating “qualified lodging facilities” for any person not related, as defined in the Code, to us or the TRS. Among other requirements, in order to qualify as an independent contractor a manager must not own, directly or applying attribution provisions of the Code, more than 35% of our outstanding shares of stock (by value), and no person or group of persons can own more than 35% of our outstanding shares and 35% of the ownership interests of the manager (taking into account only owners of more than 5% of our shares and, with respect to ownership interest in such managers that are publicly traded, only holders of more than 5% of such ownership interests). The ownership attribution rules that apply for purposes of the 35% thresholds are complex. There can be no assurance that the levels of ownership of our stock by our managers and their owners will not be exceeded.

Our investments in certain debt instruments may cause us to recognize “phantom income” for U.S. federal income tax purposes even though no cash payments have been received on the debt instruments, and certain modifications of such debt by us could cause the modified debt to not qualify as a good REIT asset, thereby jeopardizing our REIT qualification.

Our taxable income may substantially exceed our net income as determined based on GAAP, or differences in timing between the recognition of taxable income and the actual receipt of cash may occur. For example, we may acquire assets, including debt securities requiring us to accrue original issue discount, or OID, or recognize market discount income, that generate taxable income in excess of economic income or in advance of the corresponding cash flow from the assets referred to as “phantom income.” In addition, if a borrower with respect to a particular debt instrument encounters financial difficulty rendering it unable to pay stated interest as due, we may nonetheless be required to continue to recognize the unpaid interest as taxable income with the effect that we will recognize income but will not have a corresponding amount of cash available for distribution to our stockholders.

 

 

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As a result of the foregoing, we may generate less cash flow than taxable income in a particular year and find it difficult or impossible to meet the REIT distribution requirements in certain circumstances. In such circumstances, we may be required to (a) sell assets in adverse market conditions, (b) borrow on unfavorable terms, (c) distribute amounts that would otherwise be used for future acquisitions or used to repay debt, or (d) make a taxable distribution of our shares of common stock as part of a distribution in which stockholders may elect to receive shares of common stock or (subject to a limit measured as a percentage of the total distribution) cash, in order to comply with the REIT distribution requirements.

Moreover, we may acquire distressed debt investments that require subsequent modification by agreement with the borrower. If the amendments to the outstanding debt are “significant modifications” under the applicable Treasury Regulations, the modified debt may be considered to have been reissued to us in a debt-for-debt taxable exchange with the borrower. This deemed reissuance may prevent the modified debt from qualifying as a good REIT asset if the underlying security has declined in value and would cause us to recognize income to the extent the principal amount of the modified debt exceeds our adjusted tax basis in the unmodified debt.

The failure of a mezzanine loan to qualify as a real estate asset would adversely affect our ability to qualify as a REIT.

In general, in order for a loan to be treated as a qualifying real estate asset producing qualifying income for purposes of the REIT asset and income tests, the loan must be secured by real property. We may acquire mezzanine loans that are not directly secured by real property but instead secured by equity interests in a partnership or limited liability company that directly or indirectly owns real property. In Revenue Procedure 2003-65, the IRS provided a safe harbor pursuant to which a mezzanine loan that is not secured by real estate would, if it meets each of the requirements contained in the Revenue Procedure, be treated by the IRS as a qualifying real estate asset. Although the Revenue Procedure provides a safe harbor on which taxpayers may rely, it does not prescribe rules of substantive tax law and in many cases it may not be possible for us to meet all the requirements of the safe harbor. We cannot provide assurance that any mezzanine loan in which we invest would be treated as a qualifying asset producing qualifying income for REIT qualification purposes. If any such loan fails either the REIT income or asset tests, we may be disqualified as a REIT.

We may choose to make distributions in our own stock, in which case you may be required to pay U.S. federal income taxes in excess of the cash dividends you receive.

In connection with our qualification as a REIT, we are required to distribute annually to our stockholders at least 90% of our REIT taxable income (which does not equal net income, as calculated in accordance with GAAP), determined without regard to the deduction for dividends paid and excluding net capital gain. In order to satisfy this requirement, we may make distributions that are payable in cash and/or shares of our common stock (which could account for up to 80% of the aggregate amount of such distributions) at the election of each stockholder. Taxable stockholders receiving such distributions will be required to include the full amount of such distributions as ordinary dividend income to the extent of our current or accumulated earnings and profits, as determined for U.S. federal income tax purposes. As a result, U.S. stockholders may be required to pay U.S. federal income taxes with respect to such distributions in excess of the cash portion of the distribution received. Accordingly, U.S. stockholders receiving a distribution of our shares may be required to sell shares received in such distribution or may be required to sell other stock or assets owned by them, at a time that may be disadvantageous, in order to satisfy any tax imposed on such distribution. If a U.S. stockholder sells the stock that it receives as part of the distribution in order to pay this tax, the sales proceeds may be less than the amount included in income with respect to the distribution, depending on the market price of our stock at the time of the sale. Furthermore, with respect to certain non-U.S. stockholders, we may be required to withhold U.S. tax with respect to such distribution, including in respect of all or a portion of such distribution that is payable in stock, by withholding or disposing of part of the shares included in such distribution and using the proceeds of such disposition to satisfy the withholding tax imposed. In addition, if a significant number of our stockholders determine to sell shares of our common stock in order to pay taxes owed on dividend income, such sale may put downward pressure on the market price of our common stock.

Various tax aspects of such a taxable cash/stock distribution are uncertain and have not yet been addressed by the IRS. No assurance can be given that the IRS will not impose requirements in the future with

 

 

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respect to taxable cash/stock distributions, including on a retroactive basis, or assert that the requirements for such taxable cash/stock distributions have not been met.

The taxation of distributions to our stockholders can be complex; however, distributions that we make to our stockholders generally will be taxable as ordinary income, which may reduce your anticipated return from an investment in us.

Distributions that we make to our taxable stockholders out of current and accumulated earnings and profits (and not designated as capital gain dividends, or, for tax years beginning before January 1, 2013, qualified dividend income) generally will be taxable as ordinary income. However, a portion of our distributions may (1) be designated by us as capital gain dividends generally taxable as long-term capital gain to the extent that they are attributable to net capital gain recognized by us, (2) be designated by us, for taxable years beginning before January 1, 2013, as qualified dividend income generally to the extent they are attributable to dividends we receive from our taxable REIT subsidiaries, or (3) constitute a return of capital generally to the extent that they exceed our accumulated earnings and profits as determined for U.S. federal income tax purposes. A return of capital is not taxable, but has the effect of reducing the basis of a stockholder’s investment in our common stock.

Our stockholders may have tax liability on distributions that they elect to reinvest in common stock, but they would not receive the cash from such distributions to pay such tax liability.

If our stockholders participate in our distribution reinvestment program, they will be deemed to have received, and for U.S. federal income tax purposes will be taxed on, the amount reinvested in shares of our common stock to the extent the amount reinvested was not a tax-free return of capital. In addition, our stockholders will be treated for tax purposes as having received an additional distribution to the extent the shares are purchased at a discount to fair market value. As a result, unless a stockholder is a tax-exempt entity, it may have to use funds from other sources to pay its tax liability on the value of the shares of common stock received.

Dividends payable by REITs generally do not qualify for the reduced tax rates available for some dividends.

The maximum tax rate applicable to qualified dividend income payable to U.S. stockholders that are individuals, trusts and estates has been reduced to 15% for tax years beginning before January 1, 2013. Dividends payable by REITs, however, generally are not eligible for the reduced rates. Although this legislation does not adversely affect the taxation of REITs or dividends payable by REITs, the more favorable rates applicable to regular corporate qualified dividends could cause investors who are individuals, trusts and estates to perceive investments in REITs to be relatively less attractive than investments in the stocks of non-REIT corporations that pay dividends, which could adversely affect the value of the shares of REITs, including our common stock. Tax rates could be changed in future legislation.

If we were considered to actually or constructively pay a “preferential dividend” to certain of our stockholders, our status as a REIT could be adversely affected.

In order to qualify as a REIT, we must distribute annually to our stockholders at least 90% of our REIT taxable income (which does not equal net income, as calculated in accordance with GAAP), determined without regard to the deduction for dividends paid and excluding net capital gain. In order for distributions to be counted as satisfying the annual distribution requirements for REITs, and to provide us with a REIT-level tax deduction, the distributions must not be “preferential dividends.” A dividend is not a preferential dividend if the distribution is pro rata among all outstanding shares of stock within a particular class, and in accordance with the preferences among different classes of stock as set forth in our organizational documents. Currently, there is uncertainty as to the IRS’s position regarding whether certain arrangements that REITs have with their stockholders could give rise to the inadvertent payment of a preferential dividend (e.g., the pricing methodology for stock purchased under a distribution reinvestment program inadvertently causing a greater than 5% discount on the price of such stock purchased). While we believe that our operations have been structured in such a manner that we will not be treated as inadvertently paying preferential dividends, there is no de minimis exception with respect to preferential dividends. Therefore, if the IRS were to take the position that we inadvertently paid a preferential dividend, we may be deemed either to (a) have distributed less than

 

 

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100% of our REIT taxable income and be subject to tax on the undistributed portion, or (b) have distributed less than 90% of our REIT taxable income and our status as a REIT could be terminated for the year in which such determination is made if we were unable to cure such failure.

Complying with REIT requirements may limit our ability to hedge our liabilities effectively and may cause us to incur tax liabilities.

The REIT provisions of the Code may limit our ability to hedge our liabilities. Any income from a hedging transaction we enter into to manage risk of interest rate changes, price changes or currency fluctuations with respect to borrowings made or to be made to acquire or carry real estate assets, if properly identified under applicable Treasury Regulations, does not constitute “gross income” for purposes of the 75% or 95% gross income tests. To the extent that we enter into other types of hedging transactions, the income from those transactions will likely be treated as non-qualifying income for purposes of both of the gross income tests. As a result of these rules, we may need to limit our use of advantageous hedging techniques or implement those hedges through a TRS. This could increase the cost of our hedging activities because our TRSs would be subject to tax on gains or expose us to greater risks associated with changes in interest rates than we would otherwise want to bear. In addition, losses in a TRS generally will not provide any tax benefit, except for being carried forward against future taxable income of such TRS.

Complying with REIT requirements may force us to forego and/or liquidate otherwise attractive investment opportunities.

To qualify as a REIT, we must ensure that we meet the REIT gross income tests annually and that at the end of each calendar quarter, at least 75% of the value of our assets consists of cash, cash items, government securities and qualified REIT real estate assets, including certain mortgage loans and certain kinds of mortgage-related securities. The remainder of our investment in securities (other than government securities and qualified real estate assets) generally cannot include more than 10% of the outstanding voting securities of any one issuer or more than 10% of the total value of the outstanding securities of any one issuer. In addition, in general, no more than 5% of the value of our assets can consist of the securities of any one issuer (other than government securities and qualified real estate assets), and no more than 25% of the value of our total assets can be represented by securities of one or more TRSs. If we fail to comply with these requirements at the end of any calendar quarter, we must correct the failure within 30 days after the end of the calendar quarter or qualify for certain statutory relief provisions to avoid losing our REIT qualification and suffering adverse tax consequences. As a result, we may be required to liquidate assets from our portfolio or not make otherwise attractive investments in order to maintain our qualification as a REIT. These actions could have the effect of reducing our income and amounts available for distribution to our stockholders.

The ability of our Board of Directors to revoke our REIT qualification without stockholder approval may subject us to U.S. federal income tax and reduce distributions to our stockholders.

Our charter provides that our Board of Directors may revoke or otherwise terminate our REIT election, without the approval of our stockholders, if it determines that it is no longer in our best interest to continue to qualify as a REIT. While we intend to elect and qualify to be taxed as a REIT, we may not elect to be treated as a REIT or may terminate our REIT election if we determine that qualifying as a REIT is no longer in the best interests of our stockholders. If we cease to be a REIT, we would become subject to U.S. federal income tax on our taxable income and would no longer be required to distribute most of our taxable income to our stockholders, which may have adverse consequences on our total return to our stockholders and on the market price of our common stock.

We may be subject to adverse legislative or regulatory tax changes that could increase our tax liability, reduce our operating flexibility and reduce the market price of our common stock.

In recent years, numerous legislative, judicial and administrative changes have been made in the provisions of U.S. federal income tax laws applicable to investments similar to an investment in shares of our common stock. Additional changes to the tax laws are likely to continue to occur, and we cannot assure you that any such changes will not adversely affect the taxation of a stockholder. Any such changes could have an adverse effect on an investment in our shares or on the market value or the resale potential of our assets. You

 

 

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are urged to consult with your tax advisor with respect to the impact of recent legislation on your investment in our shares and the status of legislative, regulatory or administrative developments and proposals and their potential effect on an investment in our shares. You also should note that our counsel’s tax opinion is based upon existing law, applicable as of the date of its opinion, all of which will be subject to change, either prospectively or retroactively.

Although REITs generally receive better tax treatment than entities taxed as regular corporations, it is possible that future legislation would result in a REIT having fewer tax advantages, and it could become more advantageous for a company that invests in real estate to elect to be treated for U.S. federal income tax purposes as a corporation. As a result, our charter provides our Board of Directors with the power, under certain circumstances, to revoke or otherwise terminate our REIT election and cause us to be taxed as a regular corporation, without the vote of our stockholders. Our Board of Directors has fiduciary duties to us and our stockholders and could only cause such changes in our tax treatment if it determines in good faith that such changes are in the best interest of our stockholders.

Non-U.S. stockholders will be subject to U.S. federal withholding tax and may be subject to U.S. federal income tax on distributions received from us and upon the disposition of our shares.

Subject to certain exceptions, distributions received from us will be treated as dividends of ordinary income to the extent of our current or accumulated earnings and profits. Such dividends ordinarily will be subject to U.S. withholding tax at a 30% rate, or such lower rate as may be specified by an applicable income tax treaty, unless the distributions are treated as “effectively connected” with the conduct by the non-U.S. stockholder of a U.S. trade or business. Pursuant to Foreign Investment in Real Property Tax Act of 1980, or FIRPTA, capital gain distributions attributable to sales or exchanges of “U.S. real property interests”, or USRPIs, generally will be taxed to a non-U.S. stockholder as if such gain were effectively connected with a U.S. trade or business. However, a capital gain dividend will not be treated as effectively connected income if (a) the distribution is received with respect to a class of stock that is regularly traded on an established securities market located in the United States and (b) the non-U.S. stockholder does not own more than 5% of the class of our stock at any time during the one-year period ending on the date the distribution is received. We do not anticipate that our shares will be “regularly traded” on an established securities market for the foreseeable future, and therefore, this exception is not expected to apply.

Gain recognized by a non-U.S. stockholder upon the sale or exchange of our common stock generally will not be subject to U.S. federal income taxation unless such stock constitutes a USRPI under FIRPTA. Our common stock will not constitute a USRPI so long as we are a “domestically-controlled qualified investment entity.” A domestically-controlled qualified investment entity includes a REIT if at all times during a specified testing period, less than 50% in value of such REIT’s stock is held directly or indirectly by non-U.S. stockholders. We believe, but cannot assure you, that we will be a domestically-controlled qualified investment entity.

Even if we do not qualify as a domestically-controlled qualified investment entity at the time a non-U.S. stockholder sells or exchanges our common stock, gain arising from such a sale or exchange would not be subject to U.S. taxation under FIRPTA as a sale of a USRPI if (a) our common stock is “regularly traded,” as defined by applicable Treasury regulations, on an established securities market, and (b) such non-U.S. stockholder owned, actually and constructively, 5% or less of our common stock at any time during the five-year period ending on the date of the sale. However, it is not anticipated that our common stock will be “regularly traded” on an established market. We encourage you to consult your tax advisor to determine the tax consequences applicable to you if you are a non-U.S. stockholder.

Potential characterization of distributions or gain on sale may be treated as unrelated business taxable income to tax-exempt investors.

If (a) we are a “pension-held REIT,” (b) a tax-exempt stockholder has incurred (or deemed to have incurred) debt to purchase or hold our common stock, or (c) a holder of common stock is a certain type of tax-exempt stockholder, dividends on, and gains recognized on the sale of, common stock by such tax-exempt stockholder may be subject to U.S. federal income tax as unrelated business taxable income under the Code.

 

 

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Employee Benefit Plan Risks

An investment in our common stock may not satisfy the requirements of ERISA or other applicable laws.

When considering an investment in our common stock, an individual with investment discretion over assets of any pension plan, profit-sharing plan, retirement plan, individual retirement account, or IRA, or other employee benefit plan covered by ERISA or other applicable laws should consider whether the investment satisfies the requirements of Section 404 of ERISA or other applicable laws. In particular, attention should be paid to the diversification requirements of Section 404(a)(1)(C) of ERISA in light of all the facts and circumstances, including the portion of the plan’s portfolio of which the investment will be a part. All plan investors should also consider whether the investment is prudent and meets plan liquidity requirements as there may be only a limited market in which to sell or otherwise dispose of our common stock, and whether the investment is permissible under the plan’s governing instrument. We have not, and will not, evaluate whether an investment in our common stock is suitable for any particular plan. Rather, we will accept entities as stockholders if an entity otherwise meets the suitability standards.

The annual statement of value that we will be sending to stockholders subject to ERISA and stockholders is only an estimate and may not reflect the actual value of our shares. The annual statement of value will report the value of each common share as of the close of our fiscal year. The value will be based upon an estimated amount we determine would be received if our properties and other assets were sold as of the close of our fiscal year and if such proceeds, together with our other funds, were distributed pursuant to a liquidation. However, the net asset value of each share of common stock will be deemed to be $10 until the end of the first year following the completion of this offering. Thereafter, our advisor or its affiliates will determine the net asset value of each share of common stock. Because this is only an estimate, we may subsequently revise any annual valuation that is provided. It is possible that:

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a value included in the annual statement may not actually be realized by us or by our stockholders upon liquidation;

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stockholders may not realize that value if they were to attempt to sell their common stock; or

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an annual statement of value might not comply with any reporting and disclosure or annual valuation requirements under ERISA or other applicable law. We will stop providing annual statements of value if the common stock becomes listed for trading on a national stock exchange or included for quotation on a national market system.

 

 

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HOW WE OPERATE

We operate as a REIT for U.S. federal and state income tax purposes. Our sponsor is David Lichtenstein, who does business as The Lightstone Group and wholly owns the limited liability company of that name. Our sponsor is instrumental in our organization.

Our sponsor is one of the largest private residential and commercial real estate owners and operators in the United States today. Our sponsor has a portfolio of over 100 properties containing approximately 11,000 multifamily units, 1.3 million square feet of office space, 2.3 million square feet of industrial space, 4 hotels and 4.5 million square feet of retail space. These residential, office, industrial, hospitality and retail properties are located in 20 states, the District of Columbia and Puerto Rico. Based in New York, and supported by regional offices in New Jersey, Maryland and Illinois, our sponsor employs approximately 450 staff and professionals. Our sponsor has extensive experience in the areas of investment selection, underwriting, due diligence, portfolio management, asset management, property management, leasing, disposition, finance, accounting and investor relations.

We contract with Lightstone Value Plus REIT II LLC for its services as our advisor. Our advisor is wholly owned by The Lightstone Group and has the responsibility for our day-to-day operations and the management of our assets.

In addition to the services of our advisor, we may contract with Paragon and Beacon, our Property Managers, for property management services. Our Property Managers may provide the day-to-day property management services for our properties. In addition, our Property Managers may engage one or more unaffiliated third-party property managers to provide the day-to-day property management services for some or all of our properties, in which case our Property Managers will supervise the services provided by such parties. Our Property Managers are owned by or affiliated with The Lightstone Group.

Through The Lightstone Group, Mr. Lichtenstein controls and indirectly owns a majority of our advisor, our Property Managers, our Operating Partnership, and our affiliates, except for us. As of June 30, 2012, Mr. Lichtenstein owned 20,000 shares (less than 1%) of our shares indirectly through our advisor. Mr. Lichtenstein is one of our non-independent directors and The Lightstone Group, or an affiliated entity controlled by Mr. Lichtenstein, employs Bruno de Vinck, our other non-independent director, and each of our officers. Neither The Lightstone Group nor any of our other affiliates has been or currently is the subject of any regulatory action or proceeding.

Our structure is generally referred to as an “UPREIT” structure. Substantially all of our assets are or will be held through our Operating Partnership. This structure enables us to acquire assets from other partnerships and individual owners that will defer the recognition of gain to the partners of the acquired partnerships or the individual owners, assuming certain conditions are met.

We are the general partner of our Operating Partnership. As the general partner of our Operating Partnership, we generally have the exclusive power under the partnership agreement to manage and conduct the business of our Operating Partnership. The partnership interests in our Operating Partnership are owned by us and any persons who transfer interests in properties to our Operating Partnership in exchange for units in our Operating Partnership. We will own one unit in our Operating Partnership for each outstanding share of our common stock. Our interest in our Operating Partnership will entitle us to share in cash distributions from, and in profits and losses of, our Operating Partnership. Holders of limited partnership units in our Operating Partnership will have the same rights to distributions as our holders of common stock. In addition, each limited partnership interest will be exchangeable by the holder for cash at the-then fair market value or, at our option, one share of common stock. For a detailed discussion of the structure and operation of our Operating Partnership, including the responsibilities of the partners thereof, please see the section titled “Summary of our Organizational Documents — Operating Partnership Agreement,” below.

All of our properties are or are expected to be owned by subsidiary limited partnerships or limited liability companies. These subsidiaries are or will be single-purpose entities that we created or will create to own a single property, and each has or will have no assets other than the single investment property it owns. These entities represent a useful means of shielding our Operating Partnership from liability under the state laws and will make the underlying properties easier to transfer. These subsidiary arrangements are intended to

 

 

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ensure that no environmental or other liabilities associated with any particular property can be attributed against other properties that our Operating Partnership or we will own. The limited liability aspect of a subsidiary’s form will shield parent and affiliated (but not subsidiary) companies, including our Operating Partnership and us, from liability assessed against it.

U.S. federal income tax law disregards single-member limited liability companies and so it will be as if our Operating Partnership owns the underlying properties for U.S. federal income tax purposes. Use of single-purpose entities in this manner is customary for REITs.

 

 

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CONFLICTS OF INTEREST

We are subject to conflicts of interest arising out of our relationships with our sponsor, advisor, Property Managers and their affiliates. All of our agreements and arrangements with such parties, including those relating to compensation, are not the result of arm’s-length negotiations. Some of the conflicts inherent in our transactions with our sponsor, advisor, Property Managers and their affiliates, and the limitations on such parties adopted to address these conflicts, are described below. Our sponsor, advisor and Property Managers and their affiliates will try to balance our interests with their own. However, to the extent that such parties take actions that are more favorable to other entities than to us, these actions could have a negative impact on our financial performance and, consequently, on distributions to you and the value of our stock.

There are conflicts of interest between our advisor, Property Managers and their affiliates and us.

David Lichtenstein is the founder of The Lightstone Group, LLC, our sponsor, which Mr. Lichtenstein wholly owns, and in whose name he does business in his individual capacity. Through The Lightstone Group, Mr. Lichtenstein controls and indirectly owns a majority of our advisor, our Property Managers, our Operating Partnership and their affiliates, except for us. Our advisor does not advise any entity other than us. However, employees of our advisor are also employed by Lightstone Value Plus REIT LLC, the advisor to Lightstone I, our sponsor’s other public program. Mr. Lichtenstein is one of our directors and The Lightstone Group, an affiliated entity controlled by Mr. Lichtenstein, employs Bruno de Vinck, our other non-independent director, and each of our officers. As a result, our operation and management may be influenced or affected by conflicts of interest arising out of our relationship with our affiliates.

There is competition for the time and services of the personnel of our advisor and its affiliates.

We rely on our advisor and its affiliates for our daily operation and the management of our assets. Personnel of our advisor and its affiliates have conflicts in allocating their management time, services and functions among our sponsor, the real estate investment programs it currently services and any future real estate investment programs or other business ventures which they may organize or serve, as applicable. Specifically, employees of our sponsor, our advisor and our Property Managers will face conflicts of interest relating to time management and the allocation of resources and investment opportunities. Our advisor and its affiliates believe they have enough staff to perform their responsibilities in connection with all of the real estate programs and other business ventures in which they are involved. In addition, other persons employed by our advisor may devote such time to our business as is necessary.

We do not have employees.

We and our advisor will rely on the employees of our sponsor and its affiliates to manage and operate our business. Our sponsor is not restricted from acquiring, developing, operating, managing, leasing or selling real estate through entities other than us and will continue to be actively involved in operations and activities other than our operations and activities. Our sponsor currently controls and/or operates other entities that own properties in many of the markets in which we may seek to invest. Our sponsor spends a material amount of time managing these properties and other assets unrelated to our business. Our business may suffer as a result because we lack the ability to manage it without the time and attention of our sponsor’s employees.

Our sponsor and its affiliates are general partners and sponsors of other real estate programs having investment objectives and legal and financial obligations similar to ours. Because our sponsor and its affiliates have interests in other real estate programs and also engage in other business activities, they may have conflicts of interest in allocating their time and resources among our business and these other activities. Our officers and directors, as well as those of our advisor, may own equity interests in entities affiliated with our sponsor from which we may buy properties. These individuals may make substantial profits in connection with such transactions, which could result in conflicts of interest. Likewise, such individuals could make substantial profits as the result of investment opportunities allocated to entities affiliated with our sponsor other than us. As a result of these interests, they could pursue transactions that may not be in our best interest. Also, if our sponsor suffers financial or operational problems as the result of any of its activities, whether or not related to our business, the ability of our sponsor and its affiliates, our advisor and Property Managers to operate our business could be adversely impacted.

 

 

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Certain of our affiliates who provide services to us may be engaged in competitive activities.

Our advisor, Property Managers and their respective affiliates may, in the future, be engaged in other activities that could result in potential conflicts of interest with the services that they will provide to us. In addition, our sponsor may compete with us for both the acquisition and refinancing of properties of a type suitable for our investment after 75% of the total gross proceeds from our initial public offering or follow-on offering have been invested or committed for investment in real properties.

Our sponsor’s other public program, Lightstone I, may be engaged in competitive activities.

Our advisor, Property Managers and their respective affiliates through activities of Lightstone I may be engaged in other activities that could result in potential conflicts of interest with the services that they will provide to us. For example, Lightstone I may compete with us for both the acquisition and refinancing of properties of a type suitable for our investment.

If we invest in joint ventures, the objectives of our partners may conflict with our objectives.

In accordance with one of our acquisition strategies, we may make investments in joint ventures or other partnership arrangements between us and affiliates of our sponsor or with unaffiliated third parties. Investments in joint ventures which own real properties may involve risks otherwise not present when we purchase real properties directly. For example, our co-venturer may file for bankruptcy protection, may have economic or business interests or goals which are inconsistent with our interests or goals, or may take actions contrary to our instructions, requests, policies or objectives. Among other things, actions by a co-venturer might subject real properties owned by the joint venture to liabilities greater than those contemplated by the terms of the joint venture or other adverse consequences.

These diverging interests could result in, among other things, exposing us to liabilities of the joint venture in excess of our proportionate share of these liabilities. The partition rights of each owner in a jointly owned property could reduce the value of each portion of the divided property. Moreover, there is an additional risk that the co-venturers may not be able to agree on matters relating to the property they jointly own. In addition, the fiduciary obligation that our sponsor or our Board of Directors may owe to our partner in an affiliated transaction may make it more difficult for us to enforce our rights.

We may purchase real properties from persons with whom affiliates of our advisor have prior business relationships.

We may purchase properties from third parties who have sold properties in the past, or who may sell properties in the future, to our advisor or its affiliates. If we purchase properties from these third parties, our advisor will experience a conflict between our current interests and its interest in preserving any ongoing business relationship with these sellers. The prices we pay to these third parties may not be the subject of arm’s-length negotiations, which could mean that the acquisitions may be on terms less favorable to us than those negotiated with other third parties. However, we will only purchase properties from third parties with whom our affiliates have prior business relationships if the purchase price of the property acquired does not exceed its current appraised value, which must be determined by a qualified appraiser selected by our independent directors. In addition, a majority of our directors, including a majority of our independent directors, that are disinterested in the transaction must determine that the purchase or sale of property is fair and reasonable to us. We will not purchase or sell real properties to any of our affiliates, however we may enter into joint ventures and preferred equity investments to co-invest with our affiliates for the acquisition of properties.

Certain property management services are being provided by companies owned by or affiliated with The Lightstone Group.

Our Property Managers, which are affiliated with our sponsor, may provide property management services to us or may engage one or more third parties to provide such services for some or all of our properties, in which case our Property Managers will supervise the services provided by such parties. Our property management services agreements provide that we pay our Property Managers a monthly management fee equal to 4.5% or 5% of gross revenues, depending on the property type. In addition, we may pay a separate

 

 

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fee for the one-time initial rent-up or leasing-up of newly constructed office and industrial properties in an amount not to exceed the fee customarily charged in arm’s-length transactions by others rendering similar services in the same geographic area for similar properties as determined by a survey of brokers and agents in such area.

Our Property Managers may be entitled to receive higher fees in the event our Property Managers demonstrate to the satisfaction of a majority of our directors (including a majority of our independent directors) that a higher competitive fee is justified for the services rendered. In the event that one of our Property Managers engages one or more unaffiliated third-party property managers to perform the day-to-day property management services for some or all of our properties, the fees payable to such parties for such services will be deducted from the monthly management fee payable to such Property Manager pursuant to the immediately preceding sentence or paid by such Property Manager.

Our advisor and our Property Managers believe that our Property Managers have sufficient personnel and other required resources to discharge all responsibilities to us.

Our advisor and its affiliates receive commissions, fees and other compensation based upon our investments.

We believe that the compensation we pay to our advisor and its affiliates is no more than what we would pay for similar services performed by independent firms. Some compensation is payable whether or not there is cash available to make distributions to our stockholders. To the extent this occurs, our advisor and its affiliates benefit from us retaining ownership of our assets and leveraging our assets, while our stockholders may be better served by the sale, disposition or avoidance of new or additional debt on the assets. In addition, our advisor’s ability to receive fees and reimbursements depends on our continued investment in properties and in other assets which generate fees. Therefore, the interest of our advisor and its affiliates in receiving fees may conflict with the interest of our stockholders in earning income on their investment in our common stock. Because asset management fees payable to our advisor are based on total assets under management, including assets purchased using debt, our advisor may have an incentive to incur a high level of leverage in order to increase the total amount of assets under management. Our advisor and its affiliates recognize that they have a fiduciary duty to us and our stockholders, and have represented to us that their actions and decisions will be made in the manner taking into account our interests and those of our stockholders.

While we will not make loans to our advisor or its affiliates, we may borrow money from them for various purposes, including funding working capital requirements and funding acquisitions before we receive the proceeds of this offering. If we do, the terms, such as the interest rate, security, fees and other charges, will be at least as favorable to us as those which would be charged by unaffiliated lending institutions in the same locality on comparable loans.

Our advisor and its affiliates may do business with others who also do business with us, although presently there are no instances of this. However, our advisor or its affiliates may not receive rebates or participate in any reciprocal business arrangements which would have the effect of circumventing our agreement with our advisor.

Our advisor may have conflicting fiduciary obligations if we co-invest with our sponsor or its affiliates.

Our advisor may cause us to acquire an interest in a property through a joint venture with its affiliates. In these circumstances, our advisor will have a fiduciary duty to both us and its affiliates participating in the joint venture. In order to minimize the conflict between these fiduciary duties, the advisory agreement provides guidelines for investments in joint ventures with affiliates. In addition, our charter requires a majority of our disinterested directors, including a majority of disinterested independent directors, to determine that the transaction is fair and reasonable to us and is on substantially the same terms and conditions as those received by the others parties entering into the venture.

Our sponsor may face conflicts of interest in connection with the management of our day-to-day operations and in the enforcement of agreements between our sponsor and its affiliates.

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with unaffiliated third-party property managers, these agreements were not negotiated at arm’s length and certain fees payable by us under such agreements are paid regardless of our performance. Our sponsor and its affiliates may be in a conflict of interest position as to matters relating to these agreements. Examples include the computation of fees and reimbursements under such agreements, the enforcement and/or termination of the agreements and the priority of payments to third parties as opposed to amounts paid to our sponsor’s affiliates. These fees may be higher than fees charged by third parties in an arm’s-length transaction as a result of these conflicts.

Title insurance services are being provided by an affiliated party. From time to time, The Lightstone Group’s affiliates purchase title insurance from an agent in which our sponsor owns a fifty percent limited partnership interest. Because this title insurance agent receives significant fees for providing title insurance, our advisor may face a conflict of interest when considering the terms of purchasing title insurance from this agent. However, prior to the purchase by The Lightstone Group’s affiliates of any title insurance, an independent title consultant with more than 25 years of experience in the title insurance industry reviews the transaction, and performs market research and competitive analysis on our behalf. This process results in terms similar to those that would be negotiated at an arm’s-length basis.

Our advisor may face a conflict of interest when determining whether we should dispose of any property.

Our advisor may face a conflict of interest when determining whether we should dispose of any property we own that is managed by one of our Property Managers because such property manager may lose fees associated with the management of the property. Specifically, because our Property Managers will receive significant fees for managing our properties, our advisor may face a conflict of interest when determining whether we should sell properties under circumstances where our Property Managers would no longer manage the property after the transaction. As a result of this conflict of interest, we may not dispose of properties when it would be in our best interests to do so.

We may compete with other entities affiliated with our sponsor for tenants.

Our sponsor and its affiliates are not prohibited from engaging, directly or indirectly, in any other business or from possessing interests in any other business venture or ventures, including businesses and ventures involved in the acquisition, development, ownership, management, leasing or sale of real estate projects. Our sponsor and its affiliates may own and/or manage properties in most if not all geographical areas in which we expect to acquire real estate assets. Therefore, our properties may compete for tenants with other properties owned and/or managed by our sponsor and its affiliates. Our sponsor may face conflicts of interest when evaluating tenant opportunities for our properties and other properties owned and/or managed by our sponsor and its affiliates and these conflicts of interest may have a negative impact on our ability to attract and retain tenants.

We have the same legal counsel as our sponsor and its affiliates.

Proskauer Rose LLP serves as our general legal counsel, as well as special counsel to our sponsor and various affiliates, including our advisor. The interests of our sponsor and its affiliates, including our advisor, may become adverse to ours in the future. Under legal ethics rules, Proskauer Rose LLP may be precluded from representing us due to any conflict of interest between us and our sponsor and its affiliates, including our advisor.

Each member of our Board of Directors is also on the board of directors of Lightstone I.

Each of our directors is also a director of Lightstone I, the other public program of our sponsor. Accordingly, our directors will owe fiduciary duties to Lightstone I and its stockholders in their capacity as directors of Lightstone I. The loyalties of our directors to Lightstone I may influence the judgment of our Board of Directors when considering issues that may affect us. For example, we are permitted to enter into a joint venture or preferred equity investment with Lightstone I for the acquisition of property or real estate-related investments. Decisions of our Board of Directors regarding the terms of those transactions may be influenced by its loyalties to Lightstone I and its stockholders. In addition, decisions of our Board of Directors regarding the timing of our property sales could be influenced by concerns that the sales would compete with those of Lightstone I.

 

 

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There is competition for the time and services of our advisor.

We rely on our advisor and its affiliates for our daily operation and the management of our assets. Personnel of our advisor and its affiliates have conflicts in allocating their management time, services and functions among our sponsor, the real estate investment programs it currently services and any future real estate investment programs or other business ventures which they may organize or serve, as applicable. Our advisor and its affiliates believe they have enough staff to perform their responsibilities in connection with all of the real estate programs and other business ventures in which they are involved. In addition, other persons employed by our advisor may devote such time to our business as is necessary.

We do not have arm’s-length agreements with our advisor and our Property Managers.

As we have noted, our agreements and arrangements with our advisor and our Property Managers or any of their affiliates, including those relating to compensation, are not the result of arm’s-length negotiations. However, we believe these agreements and arrangements approximate the terms of arm’s-length transactions, as they contain similar terms as recent similar agreements and arrangements with unaffiliated third parties.

There may be conflicting investment opportunities among us and affiliates of The Lightstone Group.

Our advisor does not advise any entity other than us. However, employees of our advisor are also employed by Lightstone Value Plus REIT LLC, the advisor to Lightstone I. In addition, our advisor may, in the future, advise entities that invest in properties that meet our investment criteria. Likewise, David Lichtenstein, the principal of our sponsor, may, in the future, invest in properties that meet our investment criteria. Therefore, our sponsor, our advisor and their affiliates could face conflicts of interest in determining which investment programs or joint ventures will finance or acquire real properties and other assets as they become available. Such conflicts could result in a particular property being offered to an affiliate rather than to us. If our advisor, in the future, offers our sponsor or its other affiliates the opportunity to acquire or finance such properties, they may decide not to pursue investments in such properties. In such case these investments may be offered to us.

The method for allocation of the acquisition of properties by two or more programs of our sponsor or advisor that seek to acquire similar types of assets must be reasonable. Under our charter and the advisory agreement, before our advisor may take advantage of an investment opportunity for its own account or recommend it to others, it is obligated to present such opportunity to us if (i) such opportunity is compatible with our investment objectives and strategies (including our requirements relating to all pertinent factors, including diversification, size of the investment, property type and location), (ii) such opportunity is of a character which could be taken by us, and (iii) we have the financial resources to take advantage of such opportunity.

In the event that an investment opportunity meets the investment objectives and strategies of us and Lightstone I, the REIT with offering proceeds uninvested for the longest period of time shall have priority. The board of directors of such REIT will review the investment opportunity in accordance with its investment policies and objectives, including geographic and property type diversification. If the board of directors decides not to pursue this investment opportunity, the other REIT shall be afforded the opportunity. If the investment opportunity is of the magnitude that both REITs may participate, they may enter into a joint venture on the same terms and conditions. In addition, neither our advisor nor any affiliate of our advisor may make any investment in property where the investment objective is substantially similar to our investment objectives until such time as 75% of the total gross proceeds from the offering of the shares offered for sale pursuant to this offering, following the final closing of this offering, have been invested or committed for investment in properties.

Our sponsor and advisor will each use their respective best efforts to present suitable investments to us consistent with our investment procedures, objectives and policies. If our sponsor or advisor or any of their respective affiliates is presented with a potential investment in a property which might be made by more than one investment entity which it advises or manages, the decision as to the suitability of the property for investment by a particular entity will be based upon a review of the investment portfolio of each entity and upon factors such as:

•

cash flow from the property;

 

 

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•

the effect of the acquisition of the property on the diversification of each entity’s portfolio;

•

the amount of equity required to make the investment;

•

the policies of each entity relating to leverage;

•

the funds of each entity available for investment; and

•

the length of time the funds have been available for investment and the manner in which the potential investment can be structured by each entity.

To the extent that a particular property might be determined to be suitable for more than one investment entity, priority generally will be given to the investment entity having uninvested funds for the longest period of time. In addition, our advisor currently believes that sufficient investment opportunities exist so that we and any REITs, programs and joint ventures that our sponsor may form in the future will have enough properties meeting our respective investment objectives in which to invest.

Finally, all actions that occur between us and our advisor or its affiliates that present potential conflicts with us must be approved by a majority of our independent directors.

 

 

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COMPENSATION TABLE

The compensation arrangements between us, our advisor, our Property Managers, Orchard Securities, The Lightstone Group and their affiliates were not determined by arm’s-length negotiations. The following table discloses the compensation which we may pay such parties. In those instances in which there are maximum amounts or ceilings on the compensation which may be received, our affiliates may not recover any excess amounts for those services by reclassifying them under a different compensation or fee category. See the section of the prospectus captioned “Conflicts of Interest” for more information about the conflicts of interest with our affiliates.

We define net income as total revenues less expenses other than additions to reserves for depreciation or bad debts or other similar non-cash reserves. When we use the term “net income” for purposes of calculating some expenses and fees, it excludes the gain from the sale of our assets. However, this net income definition is not in accordance with GAAP, because we do not deduct depreciation and other non-cash reserves in determining net income.

We define the term “net investment” to mean the original issue price paid for our common stock, reduced by distributions from the sale or refinancing of our properties.

For a description of an undertaking that we have made to limit compensation paid to our affiliates, see “Compensation Restrictions” and “Reports to Stockholders.”

Non-Subordinated Payments

The following aggregate amounts of compensation, allowances and fees we may pay to our affiliates are not subordinated to the returns on initial investments that we are required to pay to our stockholders.

Type of Compensation and Recipient		Method of Compensation		Actual and Estimated Maximum Dollar Amount
		Organizational and Offering Stage
Selling commissions paid to participating broker-dealers and dealer manager fees paid to our dealer manager. (1)		Up to 7% of gross offering proceeds for commissions paid to participating broker-dealers.		We have incurred approximately $3.4 million of selling commissions from our inception through June 30, 2012 related to our initial public offering. We currently estimate selling commissions of approximately $21.0 million if the maximum follow-on offering is sold.
				We have incurred approximately $1.7 million of dealer manager fees from our inception through June 30, 2012 related to our initial public offering. We currently estimate dealer manager fees of approximately $9.0 million if the maximum follow-on offering is sold.

 

 

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Type of Compensation and Recipient		Method of Compensation		Actual and Estimated Maximum Dollar Amount
		Up to 3% of gross offering proceeds paid to our dealer manager before reallowance to participating broker-dealers. Orchard Securities, in its sole discretion, may reallow all or any portion of its dealer manager fee of up to 3% of the gross offering proceeds to be paid to such participating broker-dealers.
		We have sold and will continue to sell subordinated profits interests of our Operating Partnership to Lightstone SLP II LLC and will use the proceeds to pay selling commissions and dealer manager fees.
Organization and other offering expenses. (2)		We will pay all organization and other offering expenses in connection with this offering, except we will use the proceeds from (i) the portion of dealer manager fee that is not reallowed to participating broker-dealers and (ii) the cash sale of our subordinated profits interests to pay such expenses to the extent that we do not pay dealer manager fees and selling commissions up to 10% of our gross proceeds.		From our inception through June 30, 2012, we incurred and paid approximately $5.0 million of organization and other offering expenses, including approximately $1.7 million of reimbursements to our advisor related to our initial public offering. We currently estimate organization and other offering expenses of approximately $3.3 million if the maximum follow-on offering is sold.
		If the selling commissions and dealer manager fees exceed 10% of the proceeds raised in the offering and, due to unforeseen circumstances the offering abruptly terminates, the excess will be paid by our dealer manager without recourse to us.

The selling commissions paid to unaffiliated broker-dealers and the dealer manager fee are unsubordinated payments that we are contractually obligated to make regardless of our sale of the subordinated profits interests. In a separate agreement, Lightstone SLP II LLC has committed to purchase subordinated profits interests semi-annually at a price of $100,000 for each $1,000,000 in subscriptions that we accept until the earlier of (i) the time we achieve the maximum follow-on offering or (ii) the termination of the follow-on offering. Our sponsor may elect to purchase subordinated profits interests for cash or may contribute interests in real property of equivalent value. The proceeds received from the cash sale of subordinated profits interests will be used to pay the dealer manager fees and selling commissions. If our sponsor elects to purchase subordinated profits interests with interests in real properties, a majority of our Board of Directors (including a majority of our independent directors) will determine the value of the interest

 

 

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based on an appraisal obtained by a qualified independent real estate appraiser concerning the underlying value of the property. If our sponsor elects to contribute interests in real property in exchange for the maximum number of subordinated profits interests, we would own real property interests valued at the time of contribution at $30,000,000 if we achieve the maximum follow-on offering, in each case without paying any acquisition fees or acquisition expenses. Any subordinated profits interests purchased with our sponsor’s interest in real property may have property-level secured indebtedness to which our purchase may be subject. In determining the value of such interests, our Board of Directors will consider our individual and portfolio leverage limitations, the maturity date and interest rate of any such indebtedness and the current state of the real estate debt markets at the time of such purchase in determining the value of such property.

In consideration of its purchase of subordinated profits interests, Lightstone SLP II LLC will receive an interest in our regular and liquidation distributions. See “Compensation Table — Subordinated Payments.” These distributions to Lightstone SLP II LLC are always subordinated to our stockholders’ receipt of a stated preferred return and are unrelated to the payments to our dealer manager and unaffiliated participating broker-dealers discussed above.

Type of Compensation and Recipient		Method of Compensation		Actual and Estimated Maximum Dollar Amount
		Acquisition Stage
Acquisition fee and expenses paid to our advisor.		Our advisor will be paid an acquisition fee in an amount equal to 0.95% of the gross contractual purchase price (including any mortgage assumed) of the property acquired. Our advisor will also be reimbursed for expenses that it incurs in connection with purchase of the property.		From our inception through June 30, 2012, we incurred and paid approximately $0.2 million of acquisition fees to our advisor. Assuming we achieve the maximum follow-on offering, we currently estimate that the acquisition fees paid our advisor will be approximately $2.8 million, or $11.3 million with maximum leverage of 75%.
		The acquisition fee and expenses for any particular property, including amounts payable to affiliates, will not exceed, in the aggregate, 5% of the gross contractual purchase price (including any mortgage assumed) of the property acquired. If we request additional services, the compensation will be provided on separate agreed-upon terms and the rate will be approved by a majority of disinterested directors, including a majority of the disinterested independent directors, as fair and reasonable for us.

 

 

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Type of Compensation and Recipient		Method of Compensation		Actual and Estimated Maximum Dollar Amount
		Operational Stage
Property management fee paid to our property managers.		This fee will be paid for services in connection with the rental, leasing, operation and management of the properties and the supervision of any third parties that are engaged by our Property Managers to provide such services.		From our inception through June 30, 2012, no affiliated property management fees have been incurred and paid. The actual future amounts are dependent upon results of operations and, therefore, cannot be determined at the present time.
		Residential and Retail Properties:   Our property managers will be paid a monthly management fee of 5% of the gross revenues from our residential and retail properties.
		Office and Industrial Properties:    For the management and leasing of our office and industrial properties, we will pay to our property managers property management and leasing fees of up to 4.5% of gross revenues from our office and industrial properties.
		Hotel Properties:   For the management of our hotel properties, we will pay to our property managers property management fees of up to 5% of gross revenues.
		Notwithstanding the foregoing, our Property Managers and unaffiliated third-party property managers may be entitled to receive higher fees in the event that they demonstrate to the satisfaction of a majority of our directors (including a majority of our independent directors) that a higher competitive fee is justified for the services rendered.

 

 

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Type of Compensation and Recipient		Method of Compensation		Actual and Estimated Maximum Dollar Amount
		In addition, we may pay our Property Managers and unaffiliated third-party property managers a separate fee for the one-time initial rent-up or leasing-up of newly constructed properties in an amount not to exceed the fee customarily charged in arm’s-length transactions by others rendering similar services in the same geographic area for similar properties as determined by a survey of brokers and agents in such area.
		Our Property Managers and unaffiliated third-party property managers may subcontract their duties for a fee that may be less than the fee provided for in the management agreements. In the event one of our Property Managers or unaffiliated third-party property managers subcontracts its duties with respect to some or all of our properties, the fees payable to such parties for such services will be deducted from the monthly management fee payable to such property manager by us or paid directly by such property manager.

 

 

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Type of Compensation and Recipient		Method of Compensation		Actual and Estimated Maximum Dollar Amount
Asset management fee paid to our advisor.		Our advisor will be paid an asset management fee of 0.95% of our average invested assets. Average invested assets means the average of the aggregate book value of our assets invested in equity interests in, and loans secured by, real estate before deducting depreciation, reserves for bad debt, or other non-cash reserves. We will compute the average invested assets by taking the average of these book values at the end of each month during the quarter for which we are calculating the fee. The fee will be payable quarterly in an amount equal to 0.2375 of 1% of average invested assets as of the last day of the immediately preceding quarter.		From our inception through June 30, 2012, approximately $0.5 million of asset management fees have been incurred and paid. The amount of the future fees depends on the amount of the average invested assets at the time the fee is payable and, therefore, cannot be determined now.
Reimbursement to us by our advisor of certain operating expenses.		Our advisor must reimburse us for the amounts, if any, by which our total operating expenses, the sum of the asset management fee plus other operating expenses, paid during the previous fiscal year exceed the greater of:    2% of our average invested assets for that fiscal year; or    25% of our net income for that fiscal year;		From our inception through June 30, 2012, we have not reimbursed our advisor for any expenses. The actual amounts of reimbursable expenses in connection with this offering are dependent upon results of operations and, therefore, cannot be determined at the present time.

 

 

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Type of Compensation and Recipient		Method of Compensation		Actual and Estimated Maximum Dollar Amount
		Items such as interest payments, taxes, non-cash expenditures, the special liquidation distribution, organization and offering expenses, and acquisition fees and expenses are excluded from the definition of total operating expenses, which otherwise includes the aggregate expenses of any kind paid or incurred by us. Excess amounts relating to items listed above may not need to be reimbursed. See “Management — Our Advisory Agreement” for an explanation of circumstances where the excess amount specified in clause (1) may not need to be reimbursed.
Reimbursable expenses to our advisor. These may include costs of goods and services, administrative services and non-supervisory services performed directly for us by independent parties.		We will reimburse some expenses of our advisor related to our organization and this offering. We will reimburse our advisor for acquisition expenses up to a maximum amount which, collectively with all acquisition expenses and fees, will not exceed, in the aggregate, 5% of the gross contractual price (including any mortgage assumed) of the property acquired. The compensation and reimbursements to our advisor will be approved by a majority of our directors and a majority of our independent directors as fair and reasonable for us.		The actual amounts of reimbursable expenses in connection with this offering are dependent upon results of operations and, therefore, cannot be determined at the present time. The reimbursable expenses are subject to aggregate limitations on our operating expenses referred to under “Non-Subordinated Payments — Operational Stage — Asset Management Fee Paid to our Advisor” above.

 

 

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Type of Compensation and Recipient		Method of Compensation		Actual and Estimated Maximum Dollar Amount
Subordinated Payments		Operational Stage
Distributions with respect to the subordinated profits interests, payable to Lightstone SLP II LLC, which is controlled by our sponsor. (3)		(i) Before Achieving the 7% Stockholder Return Threshold.   Regular distributions will be made initially to us, which we will then distribute to the holders of our common stock, until these holders have received distributions equal to a cumulative non-compounded return of 7% per year on their net investment. “Net investment” refers to $10 per share, less a pro rata share of any proceeds received from the sale or refinancing of properties. Until this 7% threshold is reached, our Operating Partnership will not pay to Lightstone SLP II LLC, which is wholly owned by our sponsor, any distributions with respect to the purchase price of the subordinated profits interests that it received in exchange for agreeing to pay the dealer manager fees and selling commissions.		Commencing with the quarter ended December 31, 2009, our Board of Directors has authorized, and we declared, regular quarterly distributions at the Annualized Distribution Rate. Because the Annualized Distribution Rate equals a 6.5% annualized rate based on the share price of $10.00, no distributions have been made to Lightstone SLP II LLC with respect to subordinated profits interests. The actual amounts of any future distributions to Lightstone SLP II LLC depend on our results of operations and, therefore, cannot be determined at the present time.
		(ii) After Achieving the 7% Stockholder Return Threshold.   After the first 7% threshold is reached, our Operating Partnership will make all of its distributions (including from sources other than operating cash flow) to Lightstone SLP II LLC until that entity receives an amount equal to a cumulative non-compounded return of 7% per year on the purchase price of the subordinated profits interests. The amount of cash available for distribution to SLP II LLC is determined under the terms of our Operating Partnership’s limited partnership agreement, and may consist of offering proceeds and proceeds from borrowings.

 

 

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Type of Compensation and Recipient		Method of Compensation		Actual and Estimated Maximum Dollar Amount
		(iii) Before Achieving the 12% Stockholder Return Threshold.   After this second 7% threshold is reached and until the holders of our common stock have received distributions in an amount equal to a cumulative non-compounded return of 12% per year on their net investment (including, for the purpose of the calculation of such amount, the amounts equaling a 7% return on their net investment described in paragraph (i) of this section), 70% of the aggregate amount of any additional distributions by our Operating Partnership will be payable to us (and the limited partners entitled to such distributions under the terms of our Operating Partnership’s limited partnership agreement), which we will distribute to the holders of our common stock, and 30% of such amount will be payable by our Operating Partnership to Lightstone SLP II LLC.
		(iv) After Achieving the 12% Stockholder Return Threshold.   After this 12% threshold is reached, 60% of the aggregate amount of any additional distributions by our Operating Partnership will be payable to us (and the limited partners entitled to such distributions under the terms of our Operating Partnership’s limited partnership agreement), which we will distribute to the holders of our common stock, and 40% of such amount will be payable by our Operating Partnership to Lightstone SLP II LLC. The amount of cash available for distribution to SLP II LLC is determined under the terms of our Operating Partnership’s limited partnership agreement, and may consist of offering proceeds and proceeds from borrowings.

 

 

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Type of Compensation and Recipient		Method of Compensation		Actual and Estimated Maximum Dollar Amount
		Liquidation Stage
Special liquidation distribution, payable to Lightstone SLP II LLC, which is controlled by our sponsor. (4)		(i) Before Achieving the 7% Stockholder Return Threshold.   Distributions in connection with our liquidation will be made initially to us, which we will distribute to holders of our common stock, until these holders have received liquidation distributions equal to their initial investment plus a cumulative non-compounded return of 7% per year on their net investment, as defined above. Until this 7% threshold is reached, our Operating Partnership will not pay to Lightstone SLP II LLC any special liquidation distribution in connection with our liquidation.		The actual amounts to be received depend upon the net sale proceeds upon our liquidation and, therefore, cannot be determined at the present time.
		(ii) After Achieving the 7% Stockholder Return Threshold.   After the first 7% threshold is reached, Lightstone SLP II LLC will receive special liquidation distributions with respect to the purchase price of the subordinated profits interests that it received in exchange for agreeing to pay the costs and expenses of this offering, including dealer manager fees and selling commissions, until it receives an amount equal to the purchase price of the subordinated profits interests plus a cumulative non-compounded return of 7% per year on the purchase price of those interests.

 

 

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Type of Compensation and Recipient		Method of Compensation		Actual and Estimated Maximum Dollar Amount
		(iii) Before Achieving the 12% Stockholder Return Threshold.   After this second 7% threshold is reached and until the holders of our common stock have received an amount equal to their initial investment plus a cumulative non-compounded return of 12% per year on their net investment, as defined above, 70% of the aggregate amount of any additional distributions by our Operating Partnership will be payable to us (and the limited partners entitled to such distributions under the terms of our Operating Partnership’s limited partnership agreement) and distributed to the holders of our common stock, and 30% of such amount will be payable by our Operating Partnership to Lightstone SLP II LLC.
		(iv) After Achieving the 12% Stockholder Return Threshold.   After this 12% threshold is reached, 60% of the aggregate amount of any additional distributions by our Operating Partnership will be payable to us (and the limited partners entitled to such distributions under the terms of our Operating Partnership’s limited partnership agreement) and distributed to the holders of our common stock, and 40% of such amount will be payable by our Operating Partnership to Lightstone SLP II LLC.

 

 

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Type of Compensation and Recipient		Method of Compensation		Actual and Estimated Maximum Dollar Amount
		In the event of the termination of the advisory agreement, Lightstone SLP II LLC may elect to (i) receive cash in an amount equal to the cash purchase price per subordinated profits interest and the value of the contributed interests in real property (with such value determined at the time of contribution) per subordinated profits interest, or (ii) retain the subordinated profits interests and receive distributions in accordance with the terms of such interests.

We cannot assure investors of the cumulative non-compounded returns discussed above, which we disclose solely as a measure for the compensation of our sponsor and affiliates.

(1)

The selling commissions paid to unaffiliated third-party broker-dealers and the dealer manager fee are unsubordinated payments that we are contractually obligated to make regardless of our sale of the subordinated profits interests. In a separate agreement, Lightstone SLP II LLC has committed to purchase subordinated profits interests semiannually at a price of $100,000 for each $1,000,000 in subscriptions that we accept until the earlier of (i) our achieving the maximum follow-on offering or (ii) the termination of the follow-on offering. Lightstone SLP II LLC may elect to purchase subordinated profits interests with cash or may contribute interests in real property of equivalent value. The proceeds received from the sale of subordinated profits interests will be used to pay the dealer manager fees and selling commissions. If Lightstone SLP II LLC elects to purchase subordinated profits interests with interests in real properties, a majority of our Board of Directors (including a majority of our independent directors) will determine the value of the interest based on an appraisal obtained by a qualified independent real estate appraiser concerning the underlying property. If Lightstone SLP II LLC elected to contribute interests in real property in exchange for subordinated profits interests for the duration of the follow-on offering, we would acquire real property interests valued at the time of contribution of approximately $30.0 million if we achieve the maximum follow-on offering, in each case without paying any acquisition fees or acquisition expenses. Any subordinated profits interests purchased with an interest in real property may have property-level secured indebtedness to which our purchase may be subject. In determining the value of such interests, our Board of Directors will consider our individual and portfolio leverage limitations, the maturity date and interest rate of any such indebtedness and the current state of the real estate debt markets at the time of such purchase in determining the value of such property.

In consideration of its purchase of subordinated profits interests, Lightstone SLP II LLC will receive an interest in our regular and liquidation distributions. See “Compensation Table — Subordinated Payments.” These distributions to Lightstone SLP II LLC are always subordinated to our stockholders’ receipt of a stated preferred return and are unrelated to the payments to our dealer manager and unaffiliated participating broker-dealers discussed above.

(2)

Organization and other offering expenses consist of actual legal, accounting, printing and other accountable offering expenses, other than selling commissions and the dealer manager fee, including, but not limited to, amounts to reimburse our advisor for marketing, salaries and direct expenses of its employees, employees of its affiliates and others while engaged in registering and marketing the shares of our common stock to be sold in connection with this offering, which shall include, but not be limited to, development of marketing materials and marketing presentations, and coordinating generally the marketing process for this offering in addition to certain oversight costs.

(3)

This section describes the apportionment of any regular distributions that our Operating Partnership may make. At each stage of distributions, a different apportionment method commences or terminates, as applicable, when a particular party or parties have received a specific amount of distributions. The return

 

 

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calculations take into account all regular distributions received and not the specific distribution being made. Achievement of a particular threshold, therefore, is determined with reference to all prior distributions made by our Operating Partnership to Lightstone SLP II LLC and to us, which distributions we will distribute to holders of our common stock. Once a threshold is reached, our Operating Partnership will make all subsequent regular distributions pursuant to the allocation method triggered by that or later thresholds. The cumulative non-compounded return thresholds are based on the distributions (including from sources other than operating cash flow) paid, and therefore do not take into account any decrease in the value of our assets. As a result, our sponsor may have an incentive to increase the amount of distributions even if the value of our assets has decreased.

(4)

This section describes the apportionment of any liquidation distributions that we make. At each stage of distributions, a different apportionment method commences or terminates, as applicable, when a particular party or parties have received a specific amount of distributions. The return calculations described above take into account all regular and liquidation distributions received and not just distributions made upon liquidation. Achievement of a particular threshold, therefore, is determined with reference to all prior distributions made by our Operating Partnership to Lightstone SLP II LLC and to us, which we will distribute to our stockholders.

Calculations of cumulative non-compounded returns in the above table are computed as follows: for the period for which the calculation is being made, the percentage resulting from dividing: (i) the total distributions paid on each distribution payment date during the designated period, by (ii) the product of (a) the average adjusted investor capital for such period (calculated on a daily basis), and (b) the number of years (including the fractions thereof) elapsed during the specified period.

Subordinated Distribution Chart

We have made and intend to continue to make distributions to our stockholders. In addition, the subordinated profits interests will entitle Lightstone SLP II LLC, which is wholly owned by our sponsor, to certain distributions from our Operating Partnership, but only after our stockholders have received a stated preferred return. The following table sets forth information with respect to the apportionment of any regular and liquidation distributions that our Operating Partnership may make among Lightstone SLP II LLC and us, which we will distribute to our stockholders. The return calculations outlined below account for all regular and liquidation distributions that our Operating Partnership has made to Lightstone SLP II LLC and to us, which we will distribute to our stockholders. For a more detailed discussion of distribution apportionment, see “Operating Partnership Agreement.”

Note that the chart reads chronologically from top to bottom, so that all distributions are initially made to stockholders in accordance with row (i), until the stockholders have received a return of 7% on their net investment. For purposes of the preceding sentence, “net investment” refers to $10 per share, less a pro rata share of any proceeds received from the sale or refinancing of properties. Then, all distributions will be made to Lightstone SLP II LLC in accordance with row (ii) until that entity has received 7% (including from sources other than operating cash flow) on the purchase price of the subordinated profits interests. Row (iii) will then apply, and after that row (iv).

 

 

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We cannot assure investors of the cumulative non-compounded returns discussed below, which we disclose solely as a measure for the compensation of our sponsor and affiliates.

Recipient(s) of Distribution (Listed Chronologically)		Apportionment of Distribution		Cumulative Non-Compounded Return Threshold (That Initiates Next Level of Distributions)
(i) Stockholders		100%		7% per year on stockholders’ net investment
(ii) Lightstone SLP II LLC		100%		7% per year on the purchase price of the subordinated profits interests (and, in the case of liquidation, an amount equal to the purchase price of the subordinated profits interest)
(iii) Stockholders/Lightstone SLP II LLC		70% to stockholders; 30% to Lightstone SLP II LLC		Until 12% per year on stockholders’ net investment
(iv) Stockholders/Lightstone SLP II LLC		60% to stockholders; 40% to Lightstone SLP II LLC		Above 12% on stockholders’ net investment (remainder of regular distributions apportioned in this manner)

Status of Fees Paid and Deferred

From our inception through December 31, 2009, we did not reimburse our advisor for any organization and other offering expenses. During the years ended December 31, 2011 and 2010, we reimbursed our advisor zero and approximately $1.7 million for organization and other offering expenses. During the six months ended June 30, 2012 we did not reimburse our advisor for any organization and other offering expenses.

The following table shows the other amounts paid and/or accrued to our advisor and its affiliates from inception through June 30, 2012.

		For the Six Months Ended June 30, 2012				For the Year Ended December 31, 2011				For the Year Ended December 31, 2010				For the Year Ended December 31, 2009				For the Period April 28, 2008 (date of inception) through December 31, 2008
Organization and other offering expenses		$	—			$	—			$	—			$	—			$	—
Acquisition fees			—				141,509				74,642				16,055				—
Asset management fees			144,969				267,370				95,786				2,676				—
Property management fees			—				—				—				—				—
Acquisition expenses reimbursed to advisor			—				—				—				—				—
Development fees			—				—				—				—				—
Leasing commissions			—				—				—				—				—
Total		$	144,969			$	408,879			$	170,428			$	18,731			$	—

Through June 30, 2012, no fees have been deferred.

 

 

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ACTUAL USE OF PROCEEDS OF THE INITIAL PUBLIC OFFERING
AND ESTIMATED USE OF PROCEEDS OF THIS FOLLOW-ON OFFERING

The amounts listed in the table below represent the use of the offering proceeds under two scenarios. The table does not give effect to the sale of any shares of common stock under our DRIP.

The first scenario, “Initial Public Offering Amount,” is based on the actual receipt and application of offering proceeds through June 30, 2012. The second scenario, “Maximum Follow-On Offering Amount,” is based on estimates assuming that we sell the maximum of 30,000,000 shares in this offering at $10 per share. Our current estimates may not accurately reflect the actual receipt or application of the offering proceeds.

Additionally, for each of the estimated scenarios presented in the table we have not given effect to the following:

•

any special sales or volume discounts which could reduce selling commissions; or

•

that our sponsor may continue to elect to contribute interests in real property in lieu of cash in exchange for subordinated profits interests.

		Initial Public Offering Amount				Percent				Maximum Follow-On Offering Amount				Percent
Gross offering proceeds from investors			$48,639,060								$300,000,000
Add proceeds from cash sale of subordinated profits interests to sponsor and contributions of property to our Operating Partnership			$ 4,600,000								$ 30,000,000
Gross offering proceeds . . .. . . . . . .			$53,239,060				100.00	%			$330,000,000				100	%
Less offering expenses (1)
Selling commissions and dealer manager fee (2) .			$ 5,096,003				9.57	%			$ 30,000,000				9.09	%
Organization and other offering expenses			$ 5,024,303				9.44	%			$5,450,000				1.65	%
Total proceeds after offering expenses (3)			$43,118,754				80.99	%			$294,550,000				89.26	%
Less acquisition costs
Acquisition fees (4)			$ 232,206				0.44	%			$ 2,832,000				0.86	%
Acquisition expenses (5)			$219,975				0.41	%			$ 1,341,000				0.41	%
Less initial working capital reserves			—				—				$ 1,500,000				0.45	%
Total proceeds available for investment (7)			$42,666,573				80.14	%			$288,877,000				87.54	%

From our inception date through June 30, 2012, we have used the cumulative total proceeds available for investment from our initial public offering as follows:

(Dollars in thousands)
Purchase of investment property, net of mortgage financings		$	6,587
Purchase of investments in unconsolidated affiliated entities			3,993
Contributions of investments in unconsolidated affiliated entities received in exchange for issuance of subordinated profits interests			4,400
Purchase of mortgage loan receivable, net of collections			7,029
Purchase of marketable securities, net of margin loan			4,886
Cash and cash equivalents (as of June 30, 2012)			12,826
Cash distributions not funded by operations (6)			1,523
Deposits for investments in real estate			1,875
Other uses (primarily timing of payables)			(452	)
Total uses		$	42,667

(1)

All dealer manager fees and selling commissions will be paid with the proceeds from the sale of subordinated profits interests to Lightstone SLP II LLC. Lightstone SLP II LLC will purchase subordinated profits interests of our Operating Partnership at a cost of $100,000 per unit, the purchase price of which will be repaid only after stockholders receive a stated preferred return and their net

 

 

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investment. These subordinated profits interests will also entitle Lightstone SLP II LLC to a portion of any regular distributions (including from sources other than operating cash flow) made by our Operating Partnership, but only if our stockholders receive a 7% preferred return. Our sponsor will pay the dealer manager fees and selling commissions to the extent that such fees and commissions exceed the proceeds from the sale of the subordinated profits interests to Lightstone SLP II LLC. From our inception through June 30, 2012, our sponsor elected to contribute equity interests totaling 45.1% in Brownmill in exchange for 44 subordinated profits interests with aggregate value of $4.4 million and in order to fulfill the semi-annual commitment of Lightstone SLP II LLC to purchase subordinated profits interests during the first half of 2011, Lightstone SLP II LLC purchased two subordinated profits interests for $0.2 million during the second quarter of 2011. Our sponsor may continue to elect to contribute interests in real property in lieu of cash in exchange for subordinated profits interests. We will pay dealer manager fees and selling commissions with proceeds from this offering to the extent that our sponsor elects to contribute interests in real property in exchange for subordinated profits interests.

(2)

Includes selling commissions generally equal to 7% of aggregate gross offering proceeds and a dealer manager fee equal to 3% of aggregate gross offering proceeds and the payment of all organization and other offering expenses, which we estimate to be approximately 1.10% of aggregate gross offering proceeds. See “Plan of Distribution — Volume Discounts” for a description of volume discounts. From our inception through June 30, 2012, we incurred and paid approximately $5.0 million of organization and other offering expenses. We currently expect to incur approximately $3.3 million of organization and other offering expenses, if we achieve the maximum follow-on offering. We expect a portion of these fees to be paid with the portion of the dealer manager fee that is not reallowed to participating broker-dealers. We pay selling commissions of up to 7% of gross offering proceeds to unaffiliated broker-dealers participating in this offering attributable to the amount of shares sold by them. In addition, our dealer manager may reallow all or any portion of its dealer manager fee to participating dealers in the aggregate amount of up to 3% of gross offering proceeds to be paid to such participating dealers as marketing fees, based upon such factors as the volume of sales of such participating dealers, the level of marketing support provided by such participating dealers and the assistance of such participating dealers in marketing the offering, or to reimburse representatives of such participating dealers for the costs and expenses of attending our educational conferences and seminars. The amount of selling commissions may be reduced under certain circumstances for volume discounts. See the “Plan of Distribution — Volume Discounts” section of this prospectus for a description of such provisions.

(3)

Until required in connection with the acquisition and development of properties, substantially all of the net proceeds of the offering and, thereafter, our working capital reserves may be invested in short-term, highly-liquid investments including government obligations, bank certificates of deposit, short-term debt obligations and interest-bearing accounts or other authorized investments as determined by our Board of Directors.

(4)

Acquisition fees do not include acquisition expenses. Acquisition fees exclude any construction fee paid to a person who is not our affiliate in connection with construction of a project after our acquisition of the property.

(5)

Acquisition expenses include legal fees and expenses, travel and communications expenses, costs of appraisals, nonrefundable option payments on property not acquired, accounting fees and expenses, title insurance premiums and other closing costs and miscellaneous expenses relating to the selection, acquisition and development of real estate properties, whether or not acquired. For purposes of the estimated maximum amounts in this table, we have assumed expenses of 0.45% of average invested assets; however, expenses on a particular acquisition may be higher. Acquisition fees and expenses for any particular property will not exceed, in the aggregate, 5% of the gross contractual purchase price (including any mortgage assumed) of the property acquired.

(6)

We have paid and may continue to pay distributions from offering proceeds if we have not generated sufficient cash flow from our operations to fund distributions. Our ability to pay regular distributions and the size of these distributions will depend upon a variety of factors. If we pay such distributions from offering proceeds then we will have less offering proceeds available for investment. From our inception through June 30, 2012, we have paid approximately $1.5 million out of offering proceeds to fund cash distributions to our stockholders. As we invest the offering proceeds, we believe that we will, over time, generate excess FFO to cover these distributions paid out of offering proceeds.

(7)

If our sponsor elects to contribute interests in real property of an equivalent value in lieu of cash, we will have less total proceeds available for investment. Assuming our sponsor does not purchase any subordinated profits interests with cash, the total proceeds available for investment will be approximately

 

 

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$266.7 million if we achieve the maximum follow-on offering. However, we would own real property interests valued at approximately $30.0 million if we achieved the maximum follow-on offering, without paying acquisition fees or acquisition expenses. From our inception through June 30, 2012, our sponsor elected to contribute equity interests totaling 45.1% in Brownmill in exchange for 44 subordinated profits interests with an aggregate value of $4.4 million, and in order to fulfill its semi-annual commitment to purchase subordinated profits interests during the first half of 2011, Lightstone SLP II LLC purchased two subordinated profits interests for $0.2 million during the second quarter of 2011.

Organization and Other Offering Expenses

The term “organization and other offering expenses” in the prospectus means the actual legal, accounting, printing and other accountable offering expenses, other than selling commissions and the dealer manager fee, including, but not limited to, amounts to reimburse our advisor for marketing, salaries and direct expenses of its employees, employees of its affiliates and other while engaged in registering and marketing the shares of our common stock to be sold in connection with this offering, which shall include, but not be limited to, development of marketing materials and marketing presentations and coordinating generally the marketing process for this offering in addition to certain oversight costs. We will pay all organization and other offering expenses in connection with this offering, except we will use the proceeds from (i) the portion of the dealer manager fee that is not reallowed to participating broker-dealers and (ii) the cash from the sale of our subordinated profits interests, if any, to pay such expenses to the extent that we do not pay dealer manager fees and selling commissions up to 10% of our gross proceeds.

 

 

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PRIOR PERFORMANCE OF AFFILIATES OF OUR SPONSOR

Prior Performance Summary

The information presented in this section represents the historical experience of the prior real estate programs sponsored by Mr. Lichtenstein, who wholly owns The Lightstone Group, our sponsor. This discussion includes a narrative summary of our sponsor’s experience in the last ten years for all programs sponsored by him that have invested in real estate regardless of the investment objectives of the program. The information set forth is current as of December 31, 2011, except where a different date is specified. You are strongly encouraged to carefully read the section captioned “Prior Performance of Affiliates of Our Sponsor — Recent Adverse Business Developments” below for recent adverse developments that have occurred and may continue to occur in 2012 that are not reflected in the tabular information reflected in this prospectus, including current and potential loan defaults and other adverse developments.

The information contained herein and in the Prior Performance Tables included in Appendix A of this prospectus provides relevant summary information concerning real estate investment programs sponsored by our sponsor over the last ten years. The Prior Performance Tables contained in Appendix A of this prospectus set forth information as of the dates indicated regarding certain of these prior programs as to (1) experience in raising and investing funds (Table I); (2) compensation to our sponsor and its affiliates (Table II); (3) annual operating results of prior real estate investment programs (Table III); (4) results of completed programs (Table IV); and (5) results of sales or disposals of properties (Table V). Additionally Table VI, which is contained in Part II of the registration statement for this offering and which is not part of this prospectus, contains certain additional information related to properties acquired by these prior real estate investment programs during the past three years. We will furnish copies of such tables to any prospective investor upon request and without charge. This prior performance information is included solely to provide prospective investors with background to be used to evaluate the real estate experience of our sponsor and its affiliates. The information summarized below is set forth in greater detail in the Prior Performance Tables for Program Properties included in this prospectus. The following discussion is intended to summarize briefly the objectives and performance of the prior real estate programs and to disclose any material adverse business developments sustained by them.

THE INFORMATION IN THIS SECTION AND THE TABLES REFERENCED HEREIN SHOULD NOT BE CONSIDERED AS INDICATIVE OF HOW WE WILL PERFORM. THIS DISCUSSION REFERS TO THE PERFORMANCE OF PRIOR PROGRAMS AND PROPERTIES SPONSORED BY OUR SPONSOR OR ITS AFFILIATES OVER THE PERIODS LISTED THEREIN. IN ADDITION, THE TABLES INCLUDED WITH THIS PROSPECTUS (WHICH REFLECT RESULTS OVER THE PERIODS SPECIFIED IN EACH TABLE) DO NOT MEAN THAT WE WILL MAKE INVESTMENTS COMPARABLE TO THOSE REFLECTED IN SUCH TABLES. IF YOU PURCHASE OUR SHARES, YOU WILL NOT HAVE ANY OWNERSHIP INTEREST IN ANY OF THE REAL ESTATE PROGRAMS DESCRIBED IN THE TABLES (UNLESS YOU ARE ALSO AN INVESTOR IN THOSE REAL ESTATE PROGRAMS).

Our Sponsor

Our sponsor and our advisor are owned and controlled by Mr. Lichtenstein, the Chairman of our Board of Directors. Our sponsor is one of the largest private commercial real estate owners and operators in the United States. Our sponsor has a portfolio of over 100 properties containing approximately 11,000 multifamily units, 1.3 million square feet of office space, 2.3 million square feet of industrial space, 4 hotels, and 4.5 million square feet of retail space. These residential, office, industrial, hospitality and retail properties are located in 19 states, the District of Columbia and Puerto Rico. Based in New York, and supported by regional offices in New Jersey, Maryland and Illinois, our sponsor employs approximately 450 staff and professionals. Our sponsor has extensive experience in the areas of investment selection, underwriting, due diligence, portfolio management, asset management, property management, leasing, disposition, finance, accounting and investor relations.

 

 

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Summary Information

Non-Public Program Properties

During the period January 1, 2002 to December 31, 2011, other than this investment program, our sponsor sponsored 15 non-public real estate investments programs, which all had similar investment objectives to this investment program. Each of these programs is similar to this investment public program because they invested in the same property types, (i.e., retail, residential, industrial and hospitality). As of December 31, 2011, our sponsor and its affiliates have raised approximately $445.3 million from 71 investors. As of December 31, 2011, our sponsor closed eleven of these 15 non-public real estate investment programs.

These 15 non-public real estate investment programs have acquired in aggregate 760 properties with an aggregate purchase price of approximately $9.4 billion. Our sponsor financed these programs primarily with institutional first mortgages. As of December 31, 2011, as a percentage of acquisition costs, approximately 88% were hospitality properties, 11% were retail properties, and 1% were residential properties. In addition, 99% were used properties and 1% were development properties, based upon aggregate purchase price. None were new properties.

The table below gives information about the properties purchased by region based upon aggregate purchase price:

Location		% of Total Purchase Price
Northeast			14	%
Southeast			30	%
Midwest			20	%
Southwest			14	%
West			21	%
Total United States			99	%
Canada			1	%
Total			100	%

As of December 31, 2011, these non-public real estate investment programs had sold or disposed of 736 properties, or 97% of the total 760 properties purchased.

The non-public real estate investment programs did not acquire any properties during the three years ended December 31, 2011.

Public Program Properties

During the period January 1, 2002 to December 31, 2011, other than this investment program, our sponsor sponsored one other public program, Lightstone I, a publicly offered non-traded REIT with a similar structure and investment objectives to ours. On May 22, 2005 (date of inception), Lightstone I commenced its initial public offering of its common stock for $10.00 per share subject to certain volume and other discounts, in a primary offering, and for $9.50 pursuant to a distribution reinvestment plan. Lightstone I closed its offering to new investors on October 10, 2008 after the maximum number of shares was sold. Lightstone I continues to offer and sell shares of its common stock to existing Lightstone I stockholders pursuant to its distribution reinvestment plan. In addition, on December 19, 2011, Lightstone I completed a tender offer repurchasing from its stockholders approximately 2.0 million shares of its common stock at a price of $9.80 per share, or an aggregate amount of approximately $20.0 million. On March 9, 2012, Lightstone I’s board of directors determined and approved an estimated net asset value per share of its common stock of $10.65 and confirmed the purchase price under the distribution reinvestment plan as $10.12 per common share, each as of December 31, 2011.

Through December 31, 2011, Lightstone I had raised net cash proceeds before costs of $294.5 million from 7,551 stockholders, including initial offering proceeds of $299.1 million, distribution reinvestment plan proceeds, redemptions and tendered shares. At the closing of the initial public offering, as of December 31, 2011, Lightstone I incurred approximately $23.8 million in selling commissions and dealer manager fees, and $6.3 million in organization and other offering expenses.

 

 

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During the period from the date of inception through December 31, 2011, Lightstone I purchased 60 properties, including interests in joint ventures and entities owning real properties as well as real estate secured through mortgage loan receivables acquired, for an aggregate acquisition cost of approximately $1.2 billion. These properties were purchased with a combination of offering proceeds, mortgage notes payable, equity interests and reinvestment of proceeds from dispositions.

The table below gives information about these properties by region in the United States:

Location		% of Total Purchase Price
Northeast			23	%
Southeast			46	%
Midwest			20	%
Southwest			9	%
West			2	%
Total			100	%

As of December 31, 2011, based on the aggregate purchase price of the 60 properties acquired including assumption of debt in joint ventures owning properties as well as real estate secured through mortgage note receivables acquired, 68% of Lightstone I’s purchased properties were retail, 12% were residential, 2% were hospitality, 11% were office and 7% were industrial. In addition, 98% were used properties and 2% were development properties, based upon aggregate purchase price. None were new properties. The development properties include two retail development projects currently under construction, one outlet mall in Grand Prairie, Texas, and one outlet mall in Livermore, California and a residential project expected to consist of approximately 200 units to be constructed on previously acquired land in Long Island City, New York. In addition, a retail power center located in Lake Jackson, Texas was constructed and opened in 2008.

From May 22, 2005 (date of inception) through December 31, 2011, Lightstone I disposed of 27 properties (primarily interests in entities owning real properties) of the 60 properties purchased, including the contribution of its interests in Prime Outlets Acquisition Company, Inc., or POAC, and Mill Run, LLC, or Mill Run, to Simon Properties Group, Inc., or Simon, on August 30, 2010 pursuant to the terms of a contribution agreement. In addition, Lightstone I disposed of a portion of its interest in the two retail outlet malls under construction to Simon, on December 9, 2011. The aggregate consideration received for the dispositions was approximately $297.2 million, including marketable securities valued at $59.5 million as of the date of dispositions.

During the period January 1, 2009 to December 31, 2011, Lightstone I purchased 30 properties, including interests in joint ventures and entities owning real properties as well as real estate secured through mortgage loan receivables acquired, for an aggregate acquisition cost of approximately $685.7 million. These properties were purchased with a combination of offering proceeds, mortgage notes payable, equity interests and reinvestment of proceeds from dispositions.

The table below gives information about these properties by region in the United States:

Location		% of Total Purchase Price
Northeast			22	%
Southeast			43	%
Midwest			24	%
Southwest			8	%
West			3	%
Total			100	%

As of December 31, 2011, based on the aggregate purchase price of the 30 properties acquired, including assumption of debt in joint ventures owning properties, 97% of Lightstone I’s purchased properties were retail, 2% were residential and 1% were hospitality. In addition, 96% were used properties and 4% were development properties, based upon aggregate purchase price. None were new properties. The development

 

 

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properties include two retail development projects of 108 acres currently under construction, one outlet mall in Grand Prairie, Texas, and one outlet mall in Livermore, California and a residential project expected to consist of approximately 200 units to be constructed on previously acquired land in Long Island City, New York.

In February 2009, the Financial Industry Regulatory Authority, Inc., or FINRA, informed broker-dealers that sell shares of non-exchange traded REITs, such as Lightstone I, that broker-dealers may not report, in a customer account statement, an estimated value per share that is developed from data more than 18 months old. To assist broker-dealers in complying with the FINRA notice, on March 9, 2012, the board of directors of Lightstone I established an estimated value of Lightstone I common stock of $10.65 per share as of December 31, 2011. The shares of Lightstone I were originally sold at a gross offering price of $10.00 per share. The current fair value of the shares of common stock may be higher or lower than the valuation. There currently is no public market for the shares of Lightstone I’s common stock and Lightstone I does not expect one to develop. Lightstone I currently has no plans to list its shares of common stock on a national securities exchange or over-the-counter market, or to include its shares of common stock for quotation on any national securities market. Accordingly, it is not possible to determine the market value of the shares of common stock. Privately negotiated sales and sales through intermediaries currently are the only means available to a common shareholder to liquidate an investment in shares of Lightstone I’s common stock.

For more information regarding our sponsor’s Program Properties, see the prior performance tables in “Appendix A” of this prospectus. In addition, Table VI — Acquisition of Properties by Public Programs is not a part of this prospectus and is contained in Part II of the registration statement of which this prospectus is a part.

Liquidity Track Record

Public Program Properties

Lightstone I disclosed in its prospectus a timeframe of the tenth anniversary of the completion or termination of its initial public offering for listing its shares on a national securities exchange or seeking stockholder approval of either (1) an extension or amendment of the listing deadline; or (2) seek stockholder approval to adopt a plan of liquidation of Lightstone I. The timeframe for listing or seeking such stockholder approval has not yet occurred, and the program is still in operation as of December 31, 2011.

Recent Adverse Business Developments

General

The Program Properties generally have met and continue to meet their principal objectives. Certain of the Program Properties, however, have been adversely affected by market conditions. U.S. and international markets have recently experienced increased levels of volatility due to a combination of many factors, including decreasing values of residential and commercial real estate, limited access to credit, the collapse or near collapse of certain financial institutions, decreased consumer spending and a national and global recession. The liquidity disruptions in the credit markets have significantly limited the access to debt financing.

After an analysis of these factors, taking into account the dislocation in the credit markets, the valuation of the affected assets, the increased costs of borrowing and the fact that certain properties were not generating sufficient cash flow to cover their fixed costs, our sponsor elected to stop making payments on certain debt obligations for certain Program Properties, as described below. Unless otherwise indicated, these loans were nonrecourse obligations. Our sponsor believes that preservation of capital is paramount given the limited access to the credit markets, a recent global recession and uncertainty in the global economy. In the future, lenders may further tighten their lending standards and may require a larger equity contribution from our sponsor, but this effect likely will emanate from the prevailing market conditions and not from one default or a series of defaults from a borrower.

Public Program Properties

This section describes the recent adverse business developments affecting the properties owned by Lightstone I.

 

 

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As a result of Lightstone I defaulting on the debt related to three of the five apartment communities (of which one was located in Tampa, Florida, one was located in Charlotte, North Carolina and one was located in Greensboro, North Carolina) within its multi-family portfolio known as the Camden Portfolio due to the three properties no longer being economically beneficial to Lightstone I, the lender foreclosed on the three properties during the year ended December 31, 2010. As a result of the foreclosure transactions, the debt associated with these three properties of $51.4 million was extinguished and the obligations were satisfied with the transfer of the applicable properties’ assets and working capital and Lightstone I no longer has any ownership interests in these three properties.

Non-Public Program Properties

This section describes the recent adverse business developments affecting the non-public Program Properties. None of these properties is owned by Lightstone I or its affiliates.

PREIT Malls

In July 2009, our sponsor made a decision to stop infusing additional capital to fund the obligations on a portfolio of four regional malls acquired in late 2004 that had been refinanced in 2006 with a mortgage loan and two mezzanine loans in the aggregate amount of approximately $88.8 million: the Bradley Square Mall located in Cleveland, Tennessee; the Martinsburg Mall located in Martinsburg, West Virginia; the Mount Berry Square Mall located in Rome, Georgia and the Shenango Valley Mall located in Hermitage, Pennsylvania. These malls are included in the PREIT Malls program. The mortgage loan owed to Canadian Imperial Bank of Commerce was cross-collateralized by these malls in the principal amount of approximately $73.8 million and was in default.

These malls were placed into receivership. Subsequently, the Martinsburg Mall was sold to a third party by receivership sale on April 7, 2010; the Mount Berry Square Mall was foreclosed on July 6, 2010; the Bradley Square Mall was foreclosed on July 19, 2010; and the Shenango Valley Mall was transferred via an assignment of the ground lease in lieu of foreclosure on July 26, 2010. As a result of the foregoing transfers, our sponsor no longer has any ownership interests in these properties.

SFN Portfolio

Beginning in July 2009, our sponsor decided to stop infusing additional capital to fund the debt obligations on a mortgage loan secured by a four-property industrial portfolio located in Pennsylvania known as SFN Portfolio. The portfolio had been generating negative cash flows since 2006, and as a result the sponsor decided to discontinue its debt service payments on the mortgage loan with a then outstanding principal balance of approximately $30.1 million. These four properties were subsequently sold in a sheriff’s sale between March 28, 2011 and June 1, 2011 thereby concluding the foreclosure process as a result of which our sponsor no longer has any ownership interests in these properties.

CT-MA Portfolio

Our sponsor decided to stop infusing additional capital to fund the debt obligations on a retail property known as Wintonbury Mall located in Bloomfield, CT. There is an outstanding principal indebtedness of approximately $3.8 million as of December 2009. The loan is owed to GEMSA Loan Services, L.P., and has been transferred to special servicer, LNR Property LLC. The property had been generating negative cash flow over the past couple of years, and as a result, our sponsor decided to discontinue its debt service payments since December 2009. The lender issued a notice of default on January 8, 2010, and Lightstone has had an ongoing dialogue with the servicers since that time.

Lightstone Member II

In 2010, our sponsor made a decision to stop contributing additional capital to pay the debt obligations on a mezzanine loan in the aggregate principal amount of approximately $7.7 million secured by Brazos Mall and Shawnee Mall, two regional malls located in Lake Jackson, Texas and Shawnee, Oklahoma, respectively. The mezzanine debt matured on or about January 2010. These properties are included in the Lightstone Member II program. Additionally, the approximately $39.5 million of senior indebtedness on these properties was also in maturity default since January 2010. The properties had not been generating sufficient cash flow from operations to satisfy certain maintenance covenants contained in the financing documents for the senior

 

 

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mortgage loan and had been unable to pay the mortgage and mezzanine indebtedness. On February 22, 2011 and March 1, 2011, the lender completed the foreclosures of Shawnee Mall and Brazos Mall, respectively, and took title to the properties, and as a result, our sponsor no longer has any ownership interests in these properties.

Extended Stay Hotels

In June 2007, our sponsor acquired Extended Stay Hotels, Inc., or Extended Stay, for approximately $8.0 billion, $7.4 billion of which was financed with mortgage and mezzanine loans. The acquisition of Extended Stay, which was included in the DL-DW Holdings LLC program, involved the acquisition of approximately 684 hotels located in 44 states and Canada. Our sponsor contributed approximately $200 million of the total approximately $600 million of equity to finance the acquisition of Extended Stay.

As a result of the downturn in the economy, Extended Stay experienced declines in revenues per available hotel room and resulting cash flows from operations. In anticipation of the amortization payments commencing in June 2009, Extended Stay engaged restructuring advisors in September 2008 to assist it in a comprehensive restructuring of its indebtedness. Extended Stay had reached an agreement with some lenders for an out-of-court debt restructuring, but it was unable to complete the restructuring outside of Chapter 11 under the United States Bankruptcy Code. On June 15, 2009, Extended Stay filed for Chapter 11 protection under the United States Bankruptcy Code. David Lichtenstein and Joseph Teichman were officers and/or directors of various Extended Stay subsidiaries that filed for Chapter 11 protection with Extended Stay. Bruno de Vinck and Peyton Owen were directors of some of the Extended Stay subsidiaries that filed for Chapter 11 protection with Extended Stay.

In June 2007, affiliates of Extended Stay and our sponsor purchased two hotels located in Findlay, Ohio and Wilkes-Barre, Pennsylvania as part of the $8.0 billion acquisition of Extended Stay. Extended Stay financed this acquisition with a mortgage loan in the principal amount of $8.5 million secured by these two hotels. The acquisition financing was provided by Bank of America, N.A. These hotels are owned by entities that are debtors in the mentioned Chapter 11 bankruptcy cases.

The transaction pursuant to which Extended Stay emerged from bankruptcy discussed below included the appointment of a Litigation Trustee charged with pursuing claims in the name of Extended Stay for the benefit of its creditors. In June 2011, the Litigation Trustee filed a number of lawsuits against the seller, the buyer and the lending banks that were party to the original 2007 acquisition of Extended Stay, and most of its officers and directors. The lawsuits allege that the 2007 acquisition was a fraudulent conveyance and various breaches of fiduciary duties. David Lichtenstein, Peyton H. Owen, Jr., Bruno de Vinck and Joseph E. Teichman are all defendants in these suits. Each of the mentioned defendants believe the suits to be entirely without merit and does not anticipate them to result in any loss.

In October 2010, Centerbridge Partners, L.P. and Paulson & Co. Inc., each on behalf of various investment funds and accounts managed by them, and Blackstone Real Estate Partners VI L.P., on behalf of itself and its parallel funds and related alternative vehicles, purchased the Extended Stay chain for $3.9 billion in a transaction approved by the Bankruptcy Court. Our sponsor no longer has any ownership interest in Extended Stay.

Creditors in Extended Stay’s Chapter 11 proceeding will have no recourse against us or any of our current assets or future assets that we may acquire as a result of Extended Stay’s Chapter 11 proceeding. Our sponsor believes that the Extended Stay Bankruptcy proceedings will not affect its ability to meet its obligations to purchase subordinated profits interests with cash or interests in real property of equivalent value.

Additional Adverse Business Developments

Other Matters

In addition to the adverse developments described above, over time some of our sponsor’s prior programs have acquired troubled properties or mortgage bonds or loans that were troubled at the time of their acquisition. For example, Lightstone I acquired a sub-leasehold interest in an office building located at 1407 Broadway, New York, New York in 2007, which was also subject to risk of an adverse outcome in

 

 

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litigation. In addition, in January 2012 our sponsor made the decision to not make the maturity debt payment on the mortgage note payable of $127.3 million associated with the 1407 Broadway property. Our sponsor is in ongoing discussions with the lender to either extend or restructure the mortgage note payable. None of the troubled properties or mortgage bonds or loans has prevented the programs from meeting their objectives.

Additional Information on Lightstone I

We will provide, upon request, for no fee, a copy of the Annual Reports on Form 10-K filed with the SEC within the previous 24 months by Lightstone I to the extent the same are required to be filed. We will also provide, upon request, for a reasonable fee, the exhibits to each such Form 10-K. A request for an Annual Report on Form 10-K should be addressed to Lightstone Value Plus Real Estate Investment Trust, Inc., 1985 Cedar Bridge Ave., Suite 1, Lakewood, New Jersey 08701, Attention: Investor Relations.

Undertakings

Potential investors are encouraged to examine the Program Properties Prior Performance Tables included in this prospectus for more detailed information regarding the prior experience of our sponsor and its affiliates with respect to such Program Properties. Table VI — Acquisition of Properties by Public Programs is not a part of this prospectus and is contained in Part II of the registration statement of which this prospectus is a part.

 

 

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MANAGEMENT

Overview

Mr. Lichtenstein, who wholly owns our sponsor, The Lightstone Group, is one of the largest private commercial real estate owners and operators in the United States. Our sponsor has a portfolio of over 100 properties containing approximately 11,000 multifamily units, 1.3 million square feet of office space, 2.3 million square feet of industrial space, 4 hotels, and 4.5 million square feet of retail space. These residential, office, industrial, hospitality and retail properties are located in 19 states, the District of Columbia and Puerto Rico. Based in New York, and supported by regional offices in New Jersey, Maryland and Illinois, our sponsor employs approximately 450 staff and professionals. For a description of the recent adverse developments that have affected and may continue to affect some of our sponsor’s properties, see the section of this prospectus captioned “Prior Performance of Affiliates of Our sponsor — Recent Adverse Business Developments.”

Mr. Lichtenstein also is our promoter and our Chief Executive Officer and Chairman of our Board of Directors.

Our General Management

We operate under the direction of our Board of Directors. Our Board of Directors is responsible for the overall management and control of our affairs. Investment decisions will be made either by our advisor or by our Board of Directors. As described in greater detail under “Our Advisor” below, our advisor will be responsible for making investment decisions where the purchase price of a particular property is less than $15,000,000 and the investment does not exceed stated leverage limitations. Where such leverage limitations are exceeded, or where the purchase price is equal to or greater than $15,000,000, investment decisions will be made by our Board of Directors.

During 2011, our Board of Directors held eight meetings, including our annual stockholders’ meeting held on September 20, 2011, and the entire Board of Directors was present at all of the meetings, except for the meetings held on March 4, 2011 and March 21, 2011, from which David Lichtenstein was absent. During 2012, our Board of Directors has held four meetings, including in conjunction with our annual stockholders’ meeting on July 30, 2012, and the entire Board of Directors was present at all of the meetings.

Our Directors and Executive Officers

Pursuant to our charter, the term of office for each director is one year and until his or her successor is duly elected and qualifies. Pursuant to our bylaws, officers are elected annually, except that our Chief Executive Officer and President may appoint Vice Presidents, Assistant Secretaries or Assistant Treasurers.

The following table sets forth certain information as of June 30, 2012, with respect to our directors and executive officers serving in such capacity.

Name		Age		Principal Occupation and Positions Held		Term of Office Will Expire (1)		Served as a Director Since
David Lichtenstein		51		Chief Executive Officer and Chairman of the Board of Directors		2013		2008
Edwin J. Glickman		80		Independent Director		2013		2008
George R. Whittemore		62		Independent Director		2013		2008
Shawn R. Tominus		53		Independent Director		2013		2008
Bruno de Vinck		66		Senior Vice President, Secretary and Director		2013		2008
Peyton Owen		55		President and Chief Operating Officer		N/A		N/A
Joseph Teichman		38		General Counsel		N/A		N/A
Donna Brandin		55		Chief Financial Officer and Treasurer		N/A		N/A

(1)

Until the occurrence of the next annual shareholders meeting in 2013.

 

 

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DAVID LICHTENSTEIN is the Chairman of our Board of Directors and Chief Executive Officer. Mr. Lichtenstein founded both American Shelter Corporation and The Lightstone Group. From 1988 to the present, Mr. Lichtenstein has served as Chairman of our Board of Directors and Chief Executive Officer of The Lightstone Group, directing all aspects of the acquisition, financing and management of a diverse portfolio of multi-family, lodging, retail and industrial properties located in 25 states, the District of Columbia and Puerto Rico. From 2004 to the present, Mr. Lichtenstein has served as the Chairman of the board of directors and Chief Executive Officer of Lightstone I and Lightstone Value Plus REIT LLC, its advisor. Mr. Lichtenstein was the president and/or director of certain subsidiaries of Extended Stay that filed for Chapter 11 protection with Extended Stay. Extended Stay and its subsidiaries filed for bankruptcy protection on June 15, 2009 so they could reorganize their debts in the face of looming amortization payments. Extended Stay emerged from bankruptcy on October 8, 2010. Mr. Lichtenstein is no longer affiliated with Extended Stay. Mr. Lichtenstein is also a member of the International Council of Shopping Centers and the National Association of Real Estate Investment Trusts, Inc., or NAREIT, an industry trade group. Mr. Lichtenstein has been selected to serve as a director due to his extensive experience and networking relationships in the real estate industry, along with his experience in acquiring and financing real estate properties.

EDWIN J. GLICKMAN is one of our independent directors and the Chairman of our audit committee. From 2004 to the present, Mr. Glickman has served as a member of the board of directors of Lightstone I. In January 1995, Mr. Glickman co-founded Capital Lease Funding, a leading mortgage lender for properties net leased to investment grade tenants, where he remained as Executive Vice President until May 2003. Mr. Glickman was previously a trustee of publicly traded RPS Realty Trust from October 1980 through May 1996 and Atlantic Realty Trust from May 1996 to March 2006. Mr. Glickman graduated from Dartmouth College. Mr. Glickman has been selected to serve as an independent director due to his extensive experience in mortgage lending and finance.

GEORGE R. WHITTEMORE is one of our independent directors. From July 2006 to the present, Mr. Whittemore has served as a member of the board of directors of Lightstone I. Mr. Whittemore also presently serves as Audit Committee Chairman of Prime Group Realty Trust, as a Director of Village Bank Financial Corporation in Richmond, Virginia and as a Director of Supertel Hospitality, Inc. in Norfolk, Nebraska, all publicly traded companies. Mr. Whittemore previously served as President and Chief Executive Officer of Supertel Hospitality Trust, Inc. from November 2001 until August 2004 and as Senior Vice President and Director of both Anderson & Strudwick, Incorporated, a brokerage firm based in Richmond, Virginia, and Anderson & Strudwick Investment Corporation, from October 1996 until October 2001. Mr. Whittemore has also served as a Director, President and Managing Officer of Pioneer Federal Savings Bank and its parent, Pioneer Financial Corporation, from September 1982 until August 1994, and as President of Mills Value Adviser, Inc., a registered investment advisor. Mr. Whittemore is a graduate of the University of Richmond in Virginia. Mr. Whittemore has been selected to serve as an independent director because of his extensive experience in accounting, banking, finance and real estate.

SHAWN R. TOMINUS is one of our independent directors. Since July 2006 to the present, Mr. Tominus has served as a member of the board of directors of Lightstone I. Mr. Tominus is the founder and President of Metro Management, a real estate investment and management company founded in 1994 which specializes in the acquisition, financing, construction and redevelopment of residential, commercial and industrial properties. He also serves as a member of the audit committee of Prime Group Realty Trust, a publicly traded REIT located in Chicago. Mr. Tominus has over 25 years experience in real estate and serves as a national consultant focusing primarily on market and feasibility analysis. Prior to his time at Metro Management, Mr. Tominus held the position of Senior Vice President at Kamson Corporation, where he managed a portfolio of over 5,000 residential units as well as commercial and industrial properties. Mr. Tominus has been selected to serve as an independent director because of his extensive experience, and networking relationships, in the real estate industry, along with his experience in acquisitions, construction and redevelopment of real estate.

 

 

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BRUNO DE VINCK is our Senior Vice President, secretary and a director. Mr. de Vinck is a Senior Vice President with The Lightstone Group, and has been employed by the Lightstone Group since April 1994 to the present. From 2004 to the present, Mr. de Vinck also has served as Chief Operating Officer, Senior Vice President, Secretary and a member of the board of directors of Lightstone I and Lightstone Value Plus REIT LLC, its advisor. Mr. de Vinck is also a director of the privately held Park Avenue Bank Corp, and he was a director of the privately held Park Avenue Bank that was taken over by the FDIC in March 2010. He was also a director of Prime Group Realty Trust, a publicly registered REIT, from 2005 through 2011. Mr. de Vinck was previously General Manager of JN Management Co. from November 1992 to January 1994, AKS Management Co., Inc. from September 1988 to July 1992 and Heritage Management Co., Inc. from May 1986 to September 1988. In addition, Mr. de Vinck worked as Senior Property Manager at Hekemien & Co. from May 1975 to May 1986, as a Property Manager at Charles H. Greenthal & Co. from July 1972 to June 1975 and in sales and residential development for McDonald & Phillips Real Estate Brokers from May 1970 to June 1972. From July 1982 to July 1984 Mr. de Vinck was the founding President of the Ramsey Homestead Corp., a not-for-profit senior citizen residential health care facility and, from July 1984 until October 2004, was Chairman of its board of directors. Mr. de Vinck studied Architecture at Pratt Institute and then worked for the Bechtel Corporation from February 1966 to May 1970. Mr. de Vinck was also a director of certain subsidiaries of Extended Stay that filed for Chapter 11 protection with Extended Stay. Extended Stay and its subsidiaries filed for bankruptcy protection on June 15, 2009 so they could reorganize their debts in the face of looming amortization payments. Extended Stay emerged from bankruptcy on October 8, 2010. Mr. de Vinck is no longer affiliated with Extended Stay. Mr. de Vinck has been selected to serve as a director because of his extensive experience in the real estate industry.

PEYTON OWEN is our President and Chief Operating Officer and also serves as President and Chief Operating Officer of The Lightstone Group and Lightstone I. Prior to joining The Lightstone Group in July 2007, Mr. Owen served as President and Chief Executive Officer of Equity Office Properties LLC from February 2007 to June 2007, as Executive Vice President and Chief Operating Officer of Equity Office Properties Trust from October 2003 to February 2007, and as Chief Operating Officer of Jones Lang LaSalle Inc.’s Americas Region from April 1999 to October 2003. Prior to April 1999, Mr. Owen held positions as Executive Vice President and Chief Operating Officer, Chief of Staff, and Leasing Director with LaSalle Partners, Inc., and as Regional Sales Director at Liebherr-America, Inc. Mr. Owen earned a Bachelor of Science in Mechanical Engineering at the University of Virginia and a Masters of Business Administration from the University of Virginia’s Darden School. Mr. Owen was also a director of certain subsidiaries of Extended Stay that filed for Chapter 11 protection with Extended Stay. Extended Stay and its subsidiaries filed for bankruptcy protection on June 15, 2009 so they could reorganize their debts in the face of looming amortization payments. Extended Stay emerged from bankruptcy on October 8, 2010. Mr. Owen is no longer affiliated with Extended Stay.

JOSEPH E. TEICHMAN is our General Counsel and also serves as General Counsel of Lightstone I. Mr. Teichman also serves as Executive Vice President and General Counsel of our sponsor and our advisor as well as Lightstone I’s advisor. Prior to joining The Lightstone Group in January 2007, Mr. Teichman practiced law at the law firm of Paul, Weiss, Rifkind, Wharton & Garrison LLP in New York, NY from September 2001 to January 2007. Mr. Teichman earned a J.D. from the University of Pennsylvania Law School and a B.A. from Beth Medrash Govoha, Lakewood, New Jersey. Mr. Teichman is licensed to practice law in New York and New Jersey. Mr. Teichman was also a director of certain subsidiaries of Extended Stay that filed for Chapter 11 protection with Extended Stay. Extended Stay and its subsidiaries filed for bankruptcy protection on June 15, 2009 so they could reorganize their debts in the face of looming amortization payments. Extended Stay emerged from bankruptcy on October 8, 2010. Mr. Teichman is no longer affiliated with Extended Stay.

DONNA BRANDIN is our Chief Financial Officer and Treasurer and also serves as the Chief Financial Officer and Treasurer of Lightstone I. Ms. Brandin also serves as the Executive Vice President, Chief Financial Officer and Treasurer of our sponsor and as the Chief Financial Officer and Treasurer of our advisor and Lightstone I’s advisor. Prior to joining The Lightstone Group in April 2008, Ms. Brandin held the position of Executive Vice President and Chief Financial Officer of US Power Generation from September 2007 through November 2007 and before that was the Executive Vice President and Chief Financial Officer of Equity Residential, the largest publicly traded apartment REIT in the country, from August 2004 through

 

 

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September 2007. Prior to joining Equity Residential, Ms. Brandin held the position of Senior Vice President and Treasurer for Cardinal Health from June 2000 through August 2004. Prior to 2000, Ms. Brandin held various executive-level positions at Campbell Soup, Emerson Electric Company and Peabody Holding Company. Ms. Brandin earned a Bachelor of Science at Kutztown University and a Masters in Finance at St. Louis University and is a certified public accountant.

In determining the composition of our Board of Directors, our goals were to assemble a board that, as a whole, possesses the appropriate balance of professional and real estate industry knowledge, financial expertise and high-level management experience to bring a diverse set of skills and experiences to our Board of Directors as a whole to oversee our business. To that end, our board includes directors who complement and strengthen the skills of other members and who also exhibit integrity, collegiality, sound business judgment and other qualities that we view as critical to effective functioning of our Board of Directors. The brief biographies above include information, as of the date of this prospectus, regarding the specific and particular experience, qualifications, attributes or skills of each director or nominee that led our Board of Directors to believe that the director should serve on our Board of Directors.

Committees of Our Board of Directors

Our charter authorizes our Board of Directors to establish such committees as it deems appropriate, so long as a majority of the members of each committee are independent directors and in the case of the audit committee, all members are independent directors. Currently, we have the committees listed below.

Audit Committee.   Our Board of Directors has established an audit committee consisting of our three independent directors, Mr. Glickman, Mr. Whittemore and Mr. Tominus. These independent directors include at least one person who is a financial expert (Mr. Glickman and Mr. Whittemore), as defined by applicable rules promulgated by the SEC. Our audit committee operates pursuant to a written charter adopted by our Board of Directors. Among other things, the audit committee charter calls upon the audit committee to:

•

oversee the accounting and financial reporting processes and compliance with legal and regulatory requirements on behalf of our Board of Directors and report the results of its activities to our Board of Directors;

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be directly and solely responsible for the appointment, retention, compensation, oversight, evaluation and, when appropriate, the termination and replacement of our independent auditors;

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review the annual engagement proposal and qualifications of our independent auditors;

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prepare an annual report as required by applicable SEC disclosure rules;

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review the integrity, adequacy and effectiveness of our internal controls and financial disclosure process;

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review and approve all related party transactions, including all transactions with our advisor; and

•

manage our relationship with our advisor under the advisory agreement.

The audit committee shall have such additional powers, duties and responsibilities as may be delegated by our Board of Directors or contained in the audit committee charter approved by our Board of Directors. A copy of our audit committee charter is available on our website at www.lightstonecapitalmarkets.com. The contents of this website are not incorporated by reference in or otherwise a part of this prospectus.

Nominating Individuals to Serve as Directors.   Our Board of Directors does not have a nominating committee for the purpose of nominating individuals to serve as directors. All members of our Board of Directors participate in the consideration of director nominees. The primary functions of the members of our Board of Directors relating to the consideration of director nominees is to identify individuals qualified to serve on our Board of Directors.

Our Board of Directors annually reviews the appropriate experience, skills and characteristics required of directors in the context of our business. This review includes, in the perceived review of the needs of our Board of Directors at that time, issues of knowledge, experience, judgment and skills relating to the

 

 

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understanding of the real estate industry, accounting or financial expertise. This review also includes the candidate’s ability to attend regular board meetings and to devote a sufficient amount of time and effort in preparation for such meetings.

Corporate Governance

Code of Business Conduct and Ethics.   Our Board of Directors has established a code of business conduct and ethics. Among other matters, the code of business conduct and ethics was designed to deter wrongdoing and promote:

•

honest and ethical conduct, including the ethical handling of actual or apparent conflicts of interest between personal and professional relationships;

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full, fair, accurate, timely and understandable disclosure in our SEC reports and other public communications;

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compliance with applicable governmental laws, rules and regulations;

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prompt internal reporting of violations of the code to appropriate persons identified in the code; and

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accountability for adherence to the code.

Waivers to the code of business conduct and ethics may only be granted by our independent directors. If our independent directors grant any waivers of the elements listed above to any of our officers, we expect to announce the waiver within four business days on our website at www.lightstonecapitalmarkets.com. The contents of this website are not incorporated by reference in or otherwise a part of this prospectus.

Independent Directors

Our Board of Directors has determined that each of our independent directors is independent within the meaning of the applicable (i) provisions set forth in our charter, (ii) requirements set forth in the Exchange Act, and the applicable SEC rules, and (iii) rules of the New York Stock Exchange, or the NYSE, although our shares are not listed on the NYSE. Our Board applied the NYSE rules governing independence as part of its policy of maintaining strong corporate governance practices.

Our charter provides that in order to be considered an independent director, the director may not, on the date of determination or for two years prior to the date of determination:

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own any interest in our sponsor, our advisor or their affiliates, other than us;

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be or have been employed by our advisor, our sponsor or their affiliates, or by us or our affiliates;

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serve as an officer of our sponsor, our advisor or any of their affiliates;

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perform services, other than as a member of our Board of Directors;

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serve as a director or trustee, including as a member of our Board of Directors, of more than three REITs organized or controlled by the sponsor or advised by our advisor; or

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maintain a “material” business or professional relationship with our sponsor, our advisor or any of their affiliates. A business or professional relationship qualifies as “material” if the aggregate gross revenue derived by the director from our sponsor, our advisor and their affiliates exceeds five percent of either the director’s annual gross income during either of the last two years or the director’s net worth on a fair market value basis.

In addition, an independent director may not maintain, or have maintained, any of these prohibited associations either directly or indirectly. According to our charter, an indirect association with the sponsor or our advisor includes circumstances in which a spouse, parent, child, sibling, mother- or father-in-law, son- or daughter-in-law or brother- or sister-in-law is or has been associated with our sponsor, our advisor, any of their affiliates or us.

 

 

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To be considered independent under the NYSE rules, our Board of Directors must determine that a director does not have a material relationship with us (either directly or as a partner, shareholder or officer of an organization that has a relationship with any of those entities, including The Lightstone Group and its affiliates). Under the NYSE rules, a director will not be independent if, within the last three years:

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the director is or has been employed by us or The Lightstone Group;

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an immediate family member of the director is or has been employed by us or The Lightstone Group as an executive officer;

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the director, or an immediate family member of the director, has received more than $120,000 during any 12-month period in direct compensation from us or The Lightstone Group, other than director and committee fees and pension or other forms of deferred compensation for prior service (provided such compensation is not contingent in any way on continued service);

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the director (i) is a current partner or employee of a present internal or external auditor of us or The Lightstone Group or (ii) was a partner or employee of such a firm and personally worked on our audit within that time;

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an immediate family member of the director (i) is a current partner of a present internal or external auditor of us or The Lightstone Group, (ii) is a current employee of such a firm and personally works on our audit, or (iii) is or was a partner or employee of such a firm and worked on our audit within that time;

•

one of our executive officers serves or served on the compensation committee or the board of directors of a company which at the same time employs or has employed the director or an immediate family member of the director, as an executive officer; or

•

the director was an executive officer or an employee (or an immediate family member of the director was an executive officer) of a company that has made payments to, or received payments from, us or The Lightstone Group for property or services in an amount which, in any of the last three fiscal years, exceeded the greater of $1,000,000 or 2% of such other company’s consolidated gross revenues.

Our independent directors are responsible for reviewing our fees and expenses on at least an annual basis and with sufficient frequency to determine that the expenses incurred are in the best interest of our stockholders. Our independent directors performed such reviews for the years ended December 31, 2011, 2010 and 2009 and for the period April 28, 2008 (date of inception) through December 31, 2008. Our independent directors may determine from time to time during or after this offering to increase or decrease the fees and expenses payable to our advisor or any of its affiliates. Our independent directors will also be responsible for reviewing the performance of our advisor and determining that the compensation to be paid to our advisor is reasonable in relation to the nature and quality of services performed and our investment performance and that the provisions of the advisory agreement are being carried out. Specifically, our independent directors will consider factors such as:

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our net assets and net income;

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the amount of the fees paid to our advisor in relation to the size, composition and performance of our investments;

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the success of our advisor in generating appropriate investment opportunities;

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rates charged to other REITs, especially REITs of similar structure and other investors by advisors performing similar services;

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additional revenues realized by our advisor and its affiliates through their relationship with us, whether we pay them or they are paid by others with whom we do business;

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the quality and extent of service and advice furnished by our advisor;

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the performance of our investment portfolio; and

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the quality of our portfolio relative to the investments generated by our advisor for its own account.

 

 

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Compensation of Directors

We have no standing compensation committee. Our entire Board of Directors determines matters relating to director and officer compensation. Our Board of Directors designs our director compensation with the goals of attracting and retaining highly qualified individuals to serve as independent directors and to fairly compensate them for their time and efforts. Because of our unique attributes as a REIT, service as an independent director on our Board requires broad expertise in the fields of real estate and real estate investment.

We pay each of our independent directors an annual fee of $30,000 and are responsible for reimbursement of their out-of-pocket expenses, as incurred. Pursuant to our Employee and Director Incentive Restricted Share Plan, in lieu of receiving his or her annual fee in cash, an independent director is entitled to receive the annual fee in the form of our common stock or a combination of common stock and cash.

Compensation of Officers

Our officers do not receive any cash compensation from us for their services as our officers. We may compensate our officers with restricted shares of our common stock in accordance with our Employee and Director Incentive Restricted Share Plan. Our Board of Directors (including a majority of our independent directors) will determine if and when any of our officers will receive restricted shares of our common stock. Additionally, our officers are officers of one or more of our affiliates and are compensated by those entities (including our sponsor), in part, for their services rendered to us.

Employee and Director Incentive Restricted Share Plan

We have adopted our Employee and Director Incentive Restricted Share Plan to:

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furnish incentives to individuals chosen to receive restricted shares because they are considered capable of improving our operations and increasing profits;

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encourage selected persons to accept or continue employment with our advisor and its affiliates; and

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increase the interest of our employees, officers and directors in our welfare through their participation in the growth in the value of our shares of common stock.

The Employee and Director Incentive Restricted Share Plan provides us with the ability to grant awards of restricted shares to our directors, officers and full-time employees (in the event we ever have employees), full-time employees of our advisor and its affiliates, full-time employees of entities that provide services to us, directors of our advisor or of entities that provide services to us, certain of our consultants and certain consultants to our advisor and its affiliates or to entities that provide services to us. The total number of shares of common stock reserved for issuance under the Employee and Director Incentive Restricted Share Plan is equal to 0.5% of our outstanding shares on a fully diluted basis at any time, not to exceed 255,000 shares.

Restricted share awards entitle the recipient to common shares from us under terms that provide for vesting over a specified period of time or upon attainment of pre-established performance objectives. Such awards would typically be forfeited with respect to the unvested shares upon the termination of the recipient’s employment or other relationship with us. Restricted shares may not, in general, be sold or otherwise transferred until restrictions are removed and the shares have vested. Holders of restricted shares may receive cash distributions prior to the time that the restrictions on the restricted shares have lapsed. Any distributions payable in common shares shall be subject to the same restrictions as the underlying restricted shares.

The guidance under Code Section 409A provides that there is no deferral of compensation merely because the value of property (received in connection with the performance of services) is not includible in income by reason of the property being substantially nonvested (as defined in Code Section 83). Accordingly, it is intended that the restricted share grants will not be considered “nonqualified deferral compensation.”

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Our Advisor

Our advisor is a Delaware limited liability company and is wholly owned by our sponsor. Our advisor was formed on April 29, 2008. The following table sets forth information regarding the executive officers of our advisor as of June 30, 2012.

Name		Age		Position
David Lichtenstein		51		Chief Executive Officer
Bruno de Vinck		66		Chief Operating Officer and Secretary
Joseph E. Teichman		38		General Counsel
Donna Brandin		55		Chief Financial Officer and Treasurer

The biographies of David Lichtenstein, Bruno de Vinck, Joseph E. Teichman, and Donna Brandin are set forth above in “Our Directors and Executive Officers.”

Our Advisory Agreement

Experience of Our Advisor.   Mr. Lichtenstein has over 20 years of experience in identifying, acquiring financing, refinancing and operating real property investments. For a further discussion of the experience of Mr. Lichtenstein, see “— Our Directors and Executive Officers.” Our Board of Directors will determine that any successor advisor possesses sufficient qualifications to perform our advisory function for us and justify the compensation provided for in its contract with us.

Duties of Our Advisor.   Under the terms of our advisory agreement, our advisor generally has responsibility for our day-to-day operations. Many of the services to be performed by our advisor in managing our day-to-day activities are summarized below. This summary is provided to illustrate the material functions which our advisor will perform for us as our advisor, and it is not intended to include all of the services which may be provided to us by our advisor or by third parties. Under the terms of the advisory agreement, our advisor undertakes to use its best efforts to present to us investment opportunities consistent with our investment policies and objectives as adopted by our Board of Directors. In its performance of this undertaking, our advisor, either directly or indirectly by engaging an affiliate or third party, shall, subject to the authority of our Board of Directors:

•

find, present and recommend to us real estate investment opportunities consistent with our investment policies, acquisition strategy and objectives;

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structure the terms and conditions of transactions pursuant to which acquisitions of properties will be made;

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acquire properties on our behalf in compliance with our investment objectives and strategies;

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arrange for the financing and refinancing of properties;

•

administer our bookkeeping and accounting functions;

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serve as our consultant in connection with policy decisions to be made by our Board of Directors, managing our properties or causing them to be managed by another party; and

•

render other services as our Board of Directors deems appropriate.

Our advisor may not acquire any property with a purchase price that is equal to or greater than $15,000,000 or finance any such acquisition, on our behalf, without the prior approval of a majority of our Board of Directors. The actual terms and conditions of transactions involving investments in such properties will be determined in the sole discretion of our advisor, subject at all times to the approval of our Board of Directors. Conversely, our advisor may acquire any real property with purchase price that is lower than $15,000,000, or finance any such acquisition, on our behalf, without the prior approval of our Board of Directors, if the following conditions are satisfied: (i) the investment in the property would not, if consummated, violate our investment guidelines, (ii) the investment in the property would not, if consummated, violate any restrictions on indebtedness; and (iii) the consideration to be paid for such properties does not exceed the fair market value of such properties, as determined by a qualified independent real estate appraiser selected by our advisor.

 

 

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Likewise, our advisor may not arrange for the financing and refinancing of properties without a satisfactory showing that such a higher level of borrowing is appropriate, the approval of the Board of Directors (including a majority of independent directors) and disclosure to stockholders if such financing or refinancing, when consummated, causes the total long-term permanent leverage on all of our properties, in the aggregate, to exceed 75% of such properties’ fair market value. The actual terms and conditions of financing and refinancing transactions will be determined in the sole discretion of our advisor, subject at all times to Board of Directors approval. However, our advisor may arrange for the financing and refinancing of properties, without the approval of the Board of Directors, if such financing or refinancing, when consummated, does not cause the aggregate long-term permanent leverage on all of our properties, in the aggregate, to exceed 75% of such properties’ fair market value. Our advisor can also arrange for short-term indebtedness having a maturity of two years or less.

Finally, our advisor may not arrange for the financing and refinancing of properties without a satisfactory showing that such a higher level of borrowing is appropriate, the approval of our Board of Directors (including a majority of independent directors) and disclosure to stockholders if such financing or refinancing, when consummated, causes the total leverage on all of our properties, in the aggregate, to exceed 300% of our net assets. Net assets means our total assets, other than intangibles, at cost before deducting depreciation, reserves for bad debt or other non-cash reserves less our total liabilities, calculated at least quarterly on a basis consistently applied. In addition, our aggregate borrowings, secured and unsecured, must be reasonable in relation to our net assets and reviewed by our Board of Directors at least quarterly. The actual terms and conditions of financing and refinancing will be determined in the sole discretion of our advisor, subject at all times to approval of our Board of Directors. However, our advisor may arrange for the financing and refinancing of properties, without the approval of our Board of Directors, if such financing or refinancing, when consummated, does not cause the total leverage on all of our properties, in the aggregate, to exceed 300% of our net assets. In addition, our advisor may not arrange for mortgage loans, including construction loans, on any one property if the aggregate amount of all mortgage loans outstanding on the property, including our loans, would exceed 85% of the property’s appraised value, unless substantial justification exists and the loans would not exceed the property’s appraised value.

Term of the Advisory Agreement.   The advisory agreement had an initial term of one year and is renewable for successive one-year terms upon the mutual consent of the parties. It may be terminated by either party, by mutual consent of the parties or by a majority of our independent directors, as the case may be, upon 60 days’ written notice. If the advisory agreement is terminated, our advisor must cooperate with us and take all reasonable steps requested by our Board of Directors to assist it in making an orderly transition of the advisory function. We will also have to pay our advisor any accrued but unpaid fees and expenses, as set forth below.

Compensation to Advisor.   The advisory agreement provides for our advisor to be paid fees in connection with services provided to us (see “Compensation Table”). These fees include acquisition and asset management fees.

We will not reimburse our advisor or its affiliates for services for which our advisor or its affiliates are entitled to compensation in the form of a separate fee. If our advisor or its affiliates perform services that are outside of the scope of the advisory agreement, we will compensate them at rates and in amounts agreed upon by our advisor and our independent directors. We will reimburse our advisor for acquisition expenses up to a maximum amount which, collectively with all acquisition fees and expenses, will not exceed, in the aggregate, 5% of the gross contractual purchase price (including any mortgage assumed) of the property acquired.

Other than as set forth in the following paragraph, our advisor bears the expenses it incurs in connection with performing its duties under the advisory agreement. These include salaries and fringe benefits of its directors and officers, travel costs and other administrative expenses of its directors or officers.

We may reimburse our advisor for certain costs it incurs in connection with the services it provides to us including, but not limited to: (i) organization costs in an amount up to 2% of gross offering proceeds, which include actual legal, accounting, printing and expenses attributable to preparing the SEC registration statement, qualification of the shares for sale in the states and filing fees incurred by our advisor, as well as reimbursements for salaries and direct expenses of its employees, including, without limitation, employee

 

 

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benefits, while engaged in registering the shares and other organization costs, other than selling commissions and the dealer manager fee; (ii) advertising expenses, expense reimbursements, and legal and accounting fees; (iii) the actual cost of goods and materials used by us and obtained from entities not affiliated with our advisor; (iv) administrative services (including personnel costs; provided , however , that no reimbursement shall be made for costs of personnel to the extent that such personnel perform services in transactions for which our advisor receives a separate fee); and (v) rent, leasehold improvement costs, utilities or other administrative items generally constituting our advisor’s overhead. We will not reimburse our advisor for any services for which we will pay our advisor a separate fee. We will reimburse our advisor for such costs only to the extent that we have proceeds remaining from the sale of subordinated profits interests after paying all dealer manager fees and selling commissions in connection with the offering. Our sponsor will reimburse us for any amounts that we reimburse to our advisor that are not paid with remaining proceeds from the sale of subordinated profits interests.

Fees Payable Upon Termination of the Advisory Agreement.   If the advisory agreement is terminated by reason of a change of control, by us without cause, by our advisor for good reason or upon our liquidation, our advisor will be entitled to receive payment of any earned but unpaid compensation and expense reimbursements accrued as of the date of termination. In the event of the termination of the advisory agreement, Lightstone SLP II LLC may elect to (i) receive cash in an amount equal to the cash purchase price per subordinated profits interest and the value of the contributed interests in real property (with such value determined at the time of contribution) per subordinated profits interest, or (ii) retain the subordinated profits interests and receive distributions in accordance with the terms of such interests.

Our advisor will be entitled to receive all accrued but unpaid compensation in cash within 30 days of the effective date of the termination.

Reimbursement by Advisor.   Unless our stockholders amend our charter, our advisor must reimburse us for the amounts, if any, by which our total REIT operating expenses paid during the previous fiscal year exceed the greater of:

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2% of our average invested assets for the four consecutive fiscal quarters then ended; or

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25% of our net income for that fiscal year;

provided , however , only so much of the excess specified above will be required to be reimbursed by the end of the twelve-month period in which the expenses were incurred as our Board of Directors, including a majority of our independent directors, determines should justifiably be reimbursed in light of such unusual or non-recurring factors. Within 60 days after the end of the quarter for which the excess occurred the stockholders will be sent a written disclosure and explanation of the factors our independent directors considered in arriving at the conclusion that the higher total operating expenses were justified. If total operating expenses exceed the limitations described above and if our directors are unable to conclude that the excess was justified, then our advisor will reimburse us the amount by which the aggregate annual total operating expenses we paid or incurred exceed the limitation. Our advisor must make the reimbursement within 60 days after the end of such fiscal year. Operating expenses are defined for this purpose as being exclusive of those expenses incurred in the operation of properties we have acquired, acquisition fees and related expenses paid to our advisor, depreciation and amortization expenses, and financing related expenses such as fees paid to lenders and interest expense paid on borrowings by the REIT or our Operating Partnership.

Limitation of Fees and Reimbursements.   Our advisor will not be entitled to acquisition fees or reimbursements of organizational or acquisition expenses if (a) offering proceeds, (b) acquisition-related indebtedness (with respect to acquisition fees and expenses only), or (c) capital proceeds (with respect to acquisition fees and expenses payable in connection with a reinvestment of capital), as applicable, are insufficient.

Liability and Indemnification of Advisor.   Under the advisory agreement, we are also required to indemnify our advisor and to pay or reimburse reasonable expenses in advance of final disposition of a proceeding with respect to our advisor’s acts or omissions. For details regarding these limitations and

 

 

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circumstances under which we are required or authorized to indemnify and to advance expenses to our advisor, see “Limitation of Liability and Indemnification of Directors, Officers and Our Advisor.”

Other Activities of Advisor and its Affiliates.   Our advisor and its affiliates expect to engage in other business ventures and, as a result, their resources will not be dedicated exclusively to our business. However, pursuant to the advisory agreement, our advisor must devote sufficient resources to the administration of our company to discharge its obligations. Our advisor may assign the advisory agreement to an affiliate upon approval of a majority of our independent directors. We may assign or transfer the advisory agreement to a successor entity.

Amendment of the Advisory Agreement.   The advisory agreement can be amended by a written instrument that is signed by all of the parties to that agreement (or their successors or assigns, where applicable).

Potential Acquisition of Advisor.   Many REITs which are listed on a national stock exchange are considered “self-administered,” since the employees of such a REIT perform all significant management functions. In contrast, REITs that are not self-administered, like us, typically engage a third party, such as our advisor and our property managers, to perform management functions on their behalf. If for any reason our independent directors determine that we should become self-administered, the advisory agreement permits us to acquire the business conducted by our advisor (including all of its assets). As the parent of our advisor and thus the recipient of the proceeds from such sale, our sponsor has an incentive to achieve our listing on a national stock exchange and thus cause our independent directors to determine that we should become self-administered. See “Conflicts of Interest.” Any such transaction will occur, if at all, only if our Board of Directors obtains a fairness opinion from a recognized financial advisor or institution providing valuation services to the effect that the consideration to be paid therefor is fair, from a financial point of view, to our stockholders.

If at any time the shares become listed on a national securities exchange (New York Stock Exchange or NASDAQ), we will negotiate in good faith with our advisor a fee structure appropriate for an entity with a perpetual life. Our independent directors must approve the new fee structure negotiated with our advisor. The fee paid to our advisor in connection with such listing likely will be paid in the form of an interest bearing promissory note that will be repaid from the net sale proceeds of each sale after the date of the termination or listing, although we may pay this fee with cash or shares of our common stock, or any combination of the foregoing. At the time of such listing, we may, however, at our discretion, pay all or a portion of such promissory note with shares of our common stock. If shares are used for payment, we do not anticipate that they will be registered under the Securities Act and, therefore, will be subject to restrictions on transferability. The market value of our outstanding stock for purposes of the promissory note will be calculated based on the average market value of the shares issued and outstanding at listing over the 30 trading days beginning 180 days after the shares are first listed or included for quotation.

Our Property Managers and the Management Agreements

Our Property Managers, Paragon and Beacon, are both affiliates of our sponsor and provide property management services to us under the terms of management agreements. Our Property Managers provide services in connection with the rental, leasing, operation and management of our properties. We have agreed to pay our Property Managers a monthly management fee of 5% of the gross revenues from our residential and retail properties. In addition, for the management and leasing of our office and industrial properties, we will pay our Property Managers property management and leasing fees of up to 4.5% of gross revenues from our office and industrial properties. In addition, for the management of our lodging properties, we will pay our third-party property managers property management fees up to 5% of gross revenues. We may pay our property managers a separate fee for the one-time initial rent-up or leasing-up of newly constructed office and industrial properties in an amount not to exceed the fee customarily charged in arm’s-length transactions by others rendering similar services in the same geographic area for similar properties as determined by a survey of brokers and agents in such area.

Notwithstanding the foregoing, our property managers may be entitled to receive higher fees in the event our property managers demonstrate to the satisfaction of a majority of our directors (including a majority of our independent directors) that a higher competitive fee is justified for the services rendered.

 

 

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Our property managers will also be paid a monthly fee for any extra services equal to no more than that which would be payable to an unrelated party providing the services.

Our property managers may subcontract their duties for a fee that may be less than the fee provided for in the management services agreements. In the event that one of our property managers subcontracts its duties with respect to some or all of our properties, the fees payable to such parties for such services will be deducted from the monthly management fee payable to such property manager by us or paid directly by such property manager.

Paragon manages, leases, develops and redevelops certain of our sponsor’s factory outlet malls and retail properties. Paragon is headquartered in Baltimore, Maryland.

Beacon is a significant manager in the multi-family residential housing sector and oversees the management of approximately 11,000 multifamily units. Beacon is headquartered in Lakewood, New Jersey, with offices in the Northeast, Southeast and Midwest regions of the U.S.

The property management agreements can be amended by written instrument executed by the party against whom the amendment is asserted. Such management agreements can be terminated after one year and will terminate upon written notice from our Operating Partnership to our Property Manager of negligence or misconduct in the performance of its duties. The property management agreements will also terminate upon bankruptcy, receivership, reorganization or similar financial difficulties relating to the insolvency of either of our Property Managers.

Our Dealer Manager

Orchard Securities, our dealer manager, is registered under the applicable U.S. federal and state securities laws. It is a member firm of FINRA and has qualified as a broker-dealer in all 50 states.

We will pay selling commissions of up to 7% of gross offering proceeds to participating broker-dealers. We may also pay to Orchard Securities a dealer manager fee of up to 3% of gross offering proceeds before reallowance to participating broker-dealers. Orchard Securities, in its sole discretion, may reallow to such participating broker-dealers a portion of its dealer manager fee of up to 3% of the gross offering proceeds.

Set forth below is a table that demonstrates the approximate compensation that will be paid to our dealer manager.

		Follow-On Offering Per Share				Follow-On Offering –  Maximum Cash Sales of Subordinated Profits Interests (1)				Follow-On Offering – No Cash Sales of Subordinated Profits Interests
Price to public		$	10.00			$	300,000,000			$	300,000,000
Selling commissions paid by us			(0.70	)			(21,000,000	)			(21,000,000	)
Selling commissions funded using proceeds from sale of subordinated profits interests			0.70				21,000,000				—
Dealer manager fee paid by us			(0.30	)			(9,000,000	)			(9,000,000	)
Dealer manager fee funded using cash proceeds from sale of subordinated profits interests (1)			0.30				9,000,000				—
Proceeds to Lightstone Value Plus Real Estate Investment Trust II, Inc.		$	10.00			$	300,000,000			$	270,000,000

(1)

From our inception through June 30, 2012, our sponsor elected to contribute equity interests totaling 45.1% in Brownmill in exchange for 44 subordinated profits interests with an aggregate value of $4.4 million, and in order to fulfill its semiannual commitment to purchase subordinated profits interests during the first half of 2011, Lightstone SLP II LLC purchased two subordinated profits interests for $0.2 million in cash during the second quarter of 2011. For purposes of estimating the dealer manager fees that will be funded using cash proceeds from the sale of subordinated profits interests, we are assuming that our sponsor does not elect to continue to contribute interests in real property in lieu of cash in exchange for subordinated profits interests. However, our sponsor may continue to elect to contribute