Executive Summary / Key Takeaways

• Land-Heavy Strategy Creates Asymmetric Upside: ARL's 1,792 acres of developed and undeveloped land represent a unique asset base among small-cap REITs, providing non-rental income streams and development optionality that buffers cyclical pressure while competitors focus solely on income-producing properties.

• Commercial Segment Delivers Operational Leverage: The 87% NOI surge in Q3 2025, driven by Stanford Center occupancy gains, demonstrates management's ability to extract value from existing assets, though this strength is offset by multifamily development drag and a shrinking core portfolio.

• Externally-Managed Structure Imposes Persistent Discount: The related-party arrangement with Pillar Income Asset Management and 78.4% ownership of TCI creates governance complexity and transparency concerns that likely keep valuation compressed despite trading at 0.41x book value.

• Liquidity Windfall Masks Underlying Transition: The $738 million VAA joint venture gain provided temporary financial strength, but increased development spending ($59.2 million in nine months) and declining interest income signal a company in asset transition rather than stable growth mode.

Setting the Scene: A Land-Rich REIT in Transition

American Realty Investors, Inc., founded in 1999 as a Nevada corporation and headquartered in Dallas, Texas, operates as an externally advised real estate investment company with a distinctive asset-heavy strategy. Unlike pure-play multifamily REITs that focus exclusively on income-producing properties, ARL has built a portfolio that includes four office buildings totaling 1.06 million square feet, fourteen directly owned multifamily properties with 2,328 units, four multifamily developments comprising 906 units, and approximately 1,792 acres of developed and undeveloped land. This land bank represents both the company's primary differentiator and its most controversial asset—providing development optionality in a rising market but dragging on returns during periods of slow monetization.

The company's structure adds complexity to its investment case. ARL owns approximately 78.40% of Transcontinental Realty Investors, Inc. , through which substantially all operations are conducted. Day-to-day management is outsourced to Pillar Income Asset Management, a related party responsible for identifying investment opportunities, asset management, property development, and securing financing. This external management model, while providing expertise without corporate overhead, creates inherent conflicts of interest that institutional investors typically penalize with a valuation discount. The relationship means ARL's strategic decisions—acquisitions, dispositions, financing terms—are negotiated with entities under common control, limiting independent oversight and transparency.

ARL operates in two reportable segments evaluated by Net Operating Income (NOI): Residential (multifamily) and Commercial. The residential segment focuses on leasing apartment units and ancillary services like parking and storage, while the commercial segment generates revenue from office, industrial, and retail space leased to businesses and government agencies. As of September 30, 2025, total portfolio occupancy stood at 82%, with multifamily properties at 94% occupancy and commercial properties lagging at 57%. This bifurcation reveals a portfolio in transition: stable cash flows from fully leased apartments offset by underperforming commercial assets requiring active management.

The real estate investment trust landscape has evolved toward specialized, internally managed platforms with transparent governance. ARL's model harkens back to an earlier era of externally advised REITs, creating a structural disadvantage when competing for institutional capital. Competitors like Independence Realty Trust and Kennedy-Wilson offer investors clean governance and scale advantages, while ARL must constantly justify its complex ownership structure and related-party transactions.

Strategic Differentiation: Land as a Non-Linear Asset

ARL's 1,792 acres of land represent more than a passive asset—they function as a strategic option on future development and a source of non-recurring gains that smooth operational volatility. During the nine months ended September 30, 2025, the company sold 51 single-family lots from its Windmill Farms development for $2.3 million, generating a $1.8 million gain. In March 2025, ARL received $3.5 million from a condemnation settlement for 11.20 acres, producing a $3.1 million gain. These transactions demonstrate the land bank's ability to generate immediate cash returns unrelated to rental market cycles.

The Windmill Farms development in Kaufman County, Texas, exemplifies this strategy's dual nature. The company develops infrastructure for single-family lots, multifamily properties, and retail, with costs reimbursed through municipal bonds issued by local districts. As of September 30, 2025, District Receivables totaled $55.7 million, with $47.066 million in land lot development costs included in construction in progress. This public-private financing mechanism allows ARL to deploy capital efficiently while sharing development risk with municipal entities. However, it also creates dependency on local government cooperation and bond market conditions, introducing political and financing risk that pure rental REITs avoid.

The development pipeline further leverages this land advantage. Four multifamily projects—Alera (240 units, Lake Wales, FL), Bandera Ridge (216 units, Temple, TX), Merano (216 units, McKinney, TX), and Mountain Creek (234 units, Dallas, TX)—represent 906 units coming online between November 2025 and June 2027. Total projected costs are $206.814 million, with $151.919 million incurred as of September 30, 2025. During Q3 2025, ARL received initial completed units from Alera, Bandera Ridge, and Merano, allowing lease-up to commence. This development strategy transforms non-income-producing land into cash-generating assets, but creates a timing mismatch where capital is deployed years before revenue materializes.

Competitors like IRT and KW lack this land-based development optionality. Their growth depends entirely on external acquisitions at market prices, making them price-takers in competitive bidding environments. ARL's ability to develop from its existing land bank provides a cost advantage—acquiring land at historical cost rather than current market value—potentially yielding higher development margins. However, this advantage is offset by execution risk: development timelines, lease-up velocity, and construction cost overruns can erode projected returns.

Financial Performance: Mixed Signals from a Transforming Portfolio

ARL's Q3 2025 results reflect a company navigating the tension between development investment and operational performance. Net income attributable to common shares was $0.1 million, or $0.01 per diluted share, a dramatic improvement from the $17.5 million loss in Q3 2024. However, this swing was driven primarily by a $24.2 million decrease in loss on real estate transactions, largely due to the prior-year $23.4 million Clapper litigation settlement. The core operational story is more nuanced.

The residential segment generated $8.528 million in revenue during Q3 2025, up 3.17% year-over-year, but NOI declined 5.66% to $3.419 million. Management attributed the $0.2 million NOI decrease to a $0.4 million drag from development properties (Alera, Bandera Ridge, Merano) partially offset by a $0.2 million increase from same-properties. For the nine-month period, multifamily NOI was essentially flat at $12.105 million, with same-property gains offset by development headwinds. This pattern reveals the cost of development: capital is tied up in non-income-producing construction, while operating expenses on development properties create negative NOI during lease-up.

The commercial segment tells a more compelling story. Q3 2025 revenue jumped 28.91% to $4.307 million, while NOI surged 87.73% to $1.866 million. Management attributed this performance entirely to increased occupancy at Stanford Center. For the nine-month period, commercial NOI rose 64.55% to $4.836 million. This operational leverage demonstrates ARL's ability to extract significant value from existing assets through active management and leasing. However, the segment's small scale—representing just one-third of total NOI—limits its ability to offset multifamily weakness.

Net interest income declined $1 million in Q3 2025 due to a $1.4 million decrease in interest income from reduced investment funds and lower rates, partially offset by a $0.4 million decrease in interest expense from loan payoffs. For the nine-month period, net interest income fell $3.9 million. This compression reflects the company's reduced cash position following the VAA distributions and increased development spending. The payoff of the $10.8 million 770 South Post Oak loan in May 2025 reduced interest expense but also consumed liquidity.

Cash flow patterns reveal the development strategy's funding requirements. Net cash used in operating activities increased $19.2 million for the nine-month period, driven by a $9 million decrease in accounts payable and other liabilities, increased tax provision, and lower interest income. Net cash used in investing activities increased $22.1 million, primarily due to $37.2 million in development spending, partially offset by $10.6 million in short-term investment redemptions and $5.8 million in real estate proceeds. Net cash provided by financing activities increased $40.5 million from $44.2 million in construction loan borrowings.

This funding structure—using construction loans to finance 92.7% of development costs ($54.9 million borrowed vs. $59.2 million spent)—minimizes equity dilution but increases leverage and refinancing risk. As of September 30, 2025, ARL was in compliance with all loan covenants, but the company faces $151.919 million in development costs already incurred with additional funding needed to complete projects.

Outlook and Execution: Development Timing is Everything

Management's guidance is cautiously optimistic but acknowledges execution risk. The company projects that cash and cash equivalents as of September 30, 2025, combined with cash from notes receivable and investments, will be sufficient to meet all requirements. However, management also notes that excess cash from property operations "might not be sufficient to discharge all obligations as they become due," indicating potential funding gaps that may require asset sales or additional borrowing.

The development timeline is critical. Alera, Bandera Ridge, and Merano are expected to complete between November 2025 and December 2025, with Mountain Creek following in June 2027. The lease-up velocity for these 906 units will determine whether development drag turns into NOI growth. Historical multifamily lease-up periods typically range from 12-24 months, suggesting the development properties may not contribute meaningfully to NOI until late 2026 or 2027. This creates a timing mismatch where capital is consumed today for returns that may not materialize for two years.

The commercial segment's trajectory depends on maintaining Stanford Center occupancy gains. At 57% occupancy, the property still has significant vacancy to fill. Management's ability to replicate this operational improvement across other commercial assets will determine whether the segment can become a more meaningful earnings contributor. The October 2025 sale of Villas at Bon Secour for $28 million—using proceeds to pay off the $18.767 million loan—demonstrates a disciplined approach to capital recycling, but also reduces the income-producing asset base.

Competitors are pursuing different strategies. Independence Realty Trust 's 30,502-unit multifamily portfolio generates $662.9 million in revenue with 11% quarterly growth and 2.7% same-store NOI growth, demonstrating the power of scale and operational efficiency. Kennedy-Wilson 's $550.5 million revenue base and 16.3% growth reflect active capital recycling through dispositions. ARL's development-heavy approach offers higher potential returns but carries greater execution risk and longer timelines.

Risks and Asymmetries: When Development Becomes a Liability

The central risk to ARL's thesis is development execution. If lease-up velocity at Alera, Bandera Ridge, and Merano falls short of projections, the $151.919 million in capitalized costs will generate lower returns, compressing overall portfolio yields. Construction cost overruns could further erode margins. The company incurred $59.2 million in development costs during the nine-month period, with $54.9 million funded by construction loans. This 92.7% loan-to-cost ratio leaves minimal equity cushion if project values decline.

Financing risk is material. The Mountain Creek construction loan provides $27.5 million at SOFR plus 3.45%, but as of September 30, 2025, no borrowings had been made. With interest rates elevated, funding the remaining $55 million in development costs will be more expensive than initially projected. The Windmill Farms loan matures February 28, 2026, at 7.50% interest, and the New Concept Energy (NCE) loan matures September 30, 2027, at SOFR-based rates. Refinancing risk is concentrated in the next 18 months.

The Nixdorf litigation represents a contingent liability that could materially impact liquidity. The January 2025 appellate court reversal of a favorable jury verdict and remand for new trial creates uncertainty. ARL filed a Petition for Writ of Mandamus in February 2025, but if the new trial proceeds and results in an adverse judgment, the company could face a significant cash outlay similar to the $23.4 million Clapper settlement.

Related-party transactions pose ongoing governance risk. The cash management agreement with Pillar was amended in 2024 to change the interest rate from prime plus one to SOFR, but the underlying conflict remains. All investment decisions, asset management, and financing arrangements are negotiated with a related party, limiting arm-length pricing and independent oversight. This structure typically warrants a 15-20% valuation discount relative to internally managed peers.

On the positive side, the land bank provides asymmetric upside. If Texas and Florida markets experience strong population growth and housing demand, ARL's 1,792 acres could appreciate significantly, creating non-linear value creation through development or sale. The condemnation settlement in March 2025 demonstrates that even unplanned land sales can generate substantial gains ($3.1 million on $3.5 million proceeds). This optionality is absent in competitors' portfolios.

Valuation Context: Asset Value Trapped by Governance

At $15.30 per share, ARL trades at a market capitalization of $247.13 million, representing 0.41x book value of $37.52 per share. This deep discount to net asset value reflects the market's assessment of governance risk and operational complexity. The price-to-earnings ratio of 42.50x appears elevated for a company with minimal earnings, but earnings are depressed by development drag and one-time litigation costs.

Enterprise value of $462.19 million implies an EV/Revenue multiple of 9.42x and EV/EBITDA of 69.73x. These multiples are not meaningful for an asset-heavy REIT where depreciation obscures true cash flow. More relevant metrics include debt-to-equity of 0.28x, which is conservative relative to peers: Independence Realty Trust carries 0.64x, AHH 1.91x, and Kennedy-Wilson 2.96x. This low leverage provides financial flexibility but may indicate under-utilization of capital.

The company's return on equity of 0.86% and return on assets of -0.30% lag most competitors. Independence Realty Trust achieves 0.64% ROE with much larger scale, while AHH (AHH) generates 3.56% ROE despite higher leverage. ARL's negative ROA reflects the drag from non-income-producing land and development properties, while peers focus on fully stabilized assets.

Trading at a 59% discount to book value, ARL's valuation implies the market believes either that stated asset values are overstated or that governance complexity permanently impairs value realization. The recent land sales at gains support the carrying values, suggesting the discount stems primarily from governance concerns rather than asset quality issues.

Peer comparisons highlight the valuation gap. Transcontinental Realty Investors, Inc. (TCI), which shares ARL's management structure and geographic focus, trades at 0.51x book value with similar operational challenges. In contrast, Independence Realty Trust (IRT) trades at 1.16x book and Kennedy-Wilson (KW) at 1.84x, reflecting institutional confidence in their governance and growth prospects. ARL's valuation suggests it will continue trading at a discount until it simplifies its structure or demonstrates consistent NOI growth from its development pipeline.

Conclusion: A Value Play with Governance Handcuffs

ARL's investment case centers on a simple tension: substantial asset value trapped by a complex, externally managed structure. The 1,792-acre land bank provides optionality that competitors cannot replicate, offering potential for non-linear gains through development and strategic sales. The commercial segment's operational leverage demonstrates management's ability to extract value from existing assets. However, the multifamily development pipeline creates near-term earnings drag, and the related-party management structure imposes a persistent governance discount.

The key variables that will determine whether this thesis plays out are lease-up velocity at the three near-complete developments and the resolution of the Nixdorf litigation. If Alera, Bandera Ridge, and Merano achieve stabilized occupancy within 18 months, the development drag will convert to NOI growth, potentially narrowing the valuation discount. Conversely, lease-up delays or adverse litigation outcomes could pressure liquidity and force distressed asset sales.

For investors, ARL represents a high-risk, high-reward proposition. The 0.41x book value multiple offers substantial downside protection if asset values are real, but the governance structure may prevent that value from being realized. Until the company demonstrates it can convert its land bank into consistent earnings growth while simplifying its ownership structure, it will likely continue trading at a discount to net asset value—a value play with permanent handcuffs.