0000898430-01-502516.txt : 20011009
0000898430-01-502516.hdr.sgml : 20011009
ACCESSION NUMBER: 0000898430-01-502516
CONFORMED SUBMISSION TYPE: S-2/A
PUBLIC DOCUMENT COUNT: 4
FILED AS OF DATE: 20010925
FILER:
COMPANY DATA:
COMPANY CONFORMED NAME: APEX MORTGAGE CAPITAL INC
CENTRAL INDEX KEY: 0001045956
STANDARD INDUSTRIAL CLASSIFICATION: REAL ESTATE INVESTMENT TRUSTS [6798]
IRS NUMBER: 954650863
STATE OF INCORPORATION: MD
FISCAL YEAR END: 1231
FILING VALUES:
FORM TYPE: S-2/A
SEC ACT: 1933 Act
SEC FILE NUMBER: 333-69448
FILM NUMBER: 1744564
BUSINESS ADDRESS:
STREET 1: 865 FIGUEROA STREET
STREET 2: STE 1800
CITY: LOS ANGELES
STATE: CA
ZIP: 90017
BUSINESS PHONE: 2132440461
S-2/A
1
ds2a.txt
AMENDMENT #1
As Filed with the Securities and Exchange Commission on September 25, 2001
Registration No. 333-69448
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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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AMENDMENT NO. 1
TO
FORM S-2
REGISTRATION STATEMENT
UNDER THE SECURITIES ACT OF 1933
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APEX MORTGAGE CAPITAL, INC.
(Exact name of registrant as specified in its charter)
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Maryland 95-4650863
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification Number)
865 South Figueroa Street
Los Angeles, California 90017
(213) 244-0440
(Address, including zip code, and telephone number, including area code, of
registrant's principal executive offices)
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Philip A. Barach
President and Chief Executive Officer
Apex Mortgage Capital, Inc.
865 South Figueroa Street
Los Angeles, California 90017
(213) 244-0440
(Name, address, including zip code, and telephone number, including area code,
of agent for service)
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copies to:
Peter T. Healy, Esq. William T. Quicksilver, Esq.
O'Melveny & Myers LLP Manatt, Phelps & Phillips, LLP
275 Battery Street, Suite 2600 11355 West Olympic Boulevard
San Francisco, California 94111 Los Angeles, California 90064
(415) 984-8700 (310) 312-4000
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Approximate date of commencement of proposed sale to the public: as soon as
practicable following the effective date of this registration statement.
If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, check the following box. [_]
If the registrant elects to deliver its latest annual report to security
holders, or a complete and legible facsimile thereof, pursuant to Item
11(a)(1) of this Form, check the following box. [_]
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following
box and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. [_]
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration number of the earlier effective registration statement for the
same offering. [_]
If this Form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, check the following box and list the Securities Act
registration number of the earlier effective registration statement for the
same offering. [_]
If delivery of the prospectus is expected to be made pursuant to Rule 434 of
the Securities Act, please check the following box. [_]
We hereby amend this Registration Statement on such date or dates as may be
necessary to delay its effective date until we 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 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 becomes effective. This prospectus is not +
+an offer to sell securities, and we are not soliciting offers to buy these +
+securities, in any state where the offer or sale is not permitted. +
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
SUBJECT TO COMPLETION, DATED SEPTEMBER 25, 2001
[Logo of Apex Mortgage]
Apex Mortgage Capital, Inc.
4,000,000 Shares
Common Stock
We are offering 4,000,000 shares of our common stock. Our common stock is
traded on the American Stock Exchange under the symbol "AXM." The last reported
sale price of our common stock on the American Stock Exchange on September 24,
2001 was $10.50 per share.
---------------
Investing in our common stock involves risks.
Please read "Risk Factors" beginning on page 6.
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Per Share Total
--------- -----
Public Offering Price.......................................... $ $
Underwriting Discounts and Commissions......................... $ $
Proceeds, Before Expenses, to Us............................... $ $
Neither the Securities and Exchange Commission nor any state securities
commission has approved or disapproved of these securities, or determined if
this prospectus is truthful or complete. Any representation to the contrary is
a criminal offense.
We have granted the underwriter a 30-day option to purchase up to an
additional 600,000 shares of our common stock to cover over-allotments, if any,
at the public offering price per share, less underwriting discounts and
commissions.
The underwriter expects the shares of our common stock will be ready for
delivery to purchasers on or about , 2001.
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Jolson Merchant Partners
The date of this prospectus is , 2001
No dealer, salesperson or other person is authorized to distribute any
information or to represent anything not contained in or incorporated by
reference in this prospectus. You must not rely on any unauthorized information
or representations. This prospectus is an offer to sell our common stock only
under circumstances and in jurisdictions where it is lawful to do so. The
information contained in this prospectus is current only as of its date.
----------------
TABLE OF CONTENTS
Page
----
Forward-Looking Statements............................................... ii
Prospectus Summary....................................................... 1
Risk Factors............................................................. 6
Use of Proceeds.......................................................... 16
Market Price and Dividends on Our Common Stock........................... 17
Capitalization........................................................... 18
Selected Financial Data.................................................. 19
Management's Discussion and Analysis of Financial Conditions and Results
of Operations........................................................... 21
Quantitative and Qualitative Disclosures About Market Risk............... 30
Our Company.............................................................. 34
Description of Securities................................................ 42
Material Changes......................................................... 47
Federal Income Tax Considerations........................................ 48
Selected Provisions of Maryland Law and Our Charter and Bylaws........... 57
Underwriting............................................................. 60
Experts.................................................................. 61
Legal Matters............................................................ 61
Where You Can Find More Information...................................... 62
Information Incorporated by Reference.................................... 62
Financial Statements..................................................... F-1
i
FORWARD-LOOKING STATEMENTS
This prospectus contains or incorporates by reference forward-looking
statements. Forward-looking statements are those that predict or describe
future events or trends and that do not relate solely to historical matters.
You can generally identify forward-looking statements as statements containing
the words "will," "believe," "expect," "anticipate," "intend," "estimate,"
"assume" or other similar expressions. You should not rely on our forward-
looking statements because the matters they describe are subject to known and
unknown risks, uncertainties and other unpredictable factors, many of which are
beyond our control, including the following:
. changes in short-term interest rates;
. changes in the markets for real estate assets and the general economy;
. increases in the prepayment rates related to our mortgage-related assets;
. our ability to use borrowings to finance the acquisition of our mortgage-
related assets;
. our ability to maintain our qualification as a real estate investment
trust for federal income tax purposes; and
. changes in government regulations affecting our business.
Other risks, uncertainties and factors, including those discussed under
"Risk Factors" in this prospectus or described in reports that we file from
time to time with the Securities and Exchange Commission, could cause our
actual results to differ materially from those projected in any forward-looking
statements we make. We are not obligated to publicly update or revise any
forward-looking statements, whether as a result of new information, future
events or otherwise.
ii
PROSPECTUS SUMMARY
This summary highlights the information contained elsewhere in this
prospectus. The summary is not complete and does not contain all of the
information you should consider before investing in our common stock. We urge
you to read this entire prospectus carefully, including the financial
statements, along with the information that is incorporated by reference into
this prospectus. You should consider the information discussed under "Risk
Factors" carefully before you decide to purchase our common stock. All
references to "we," "us" or the "Company" shall mean Apex Mortgage Capital,
Inc.
Our Business
We are a financial services company that primarily acquires United States
agency and other highly-rated single-family real estate fixed-rate and
adjustable-rate mortgage-related assets. We use our equity capital and borrowed
funds to generate income based on the difference between the yield on our
mortgage-related assets and the cost of our borrowings. We have elected to be
taxed as a real estate investment trust, or REIT, under the United States
internal revenue code. As long as we retain our REIT status, we generally will
not be subject to federal taxes on our income to the extent that we distribute
our net income to our stockholders. We operate in accordance with our
investment, leverage, interest rate risk management and REIT compliance
policies, which our board of directors reviews and approves at least annually.
We are managed pursuant to a management agreement with TCW Investment
Management Company.
As of June 30, 2001, we had $550,162,000 in assets, $505,150,000 in
liabilities and $45,012,000 in equity. As of that date, approximately 96% of
our assets consisted either of mortgage-backed securities guaranteed by an
agency of the United States government, such as the Government National
Mortgage Association, Fannie Mae and the Federal Home Loan Mortgage Corp., or
other mortgage-related securities rated AAA by one or more nationally
recognized rating agencies.
The Manager and Our Executive Officers
TCW Investment Management Company manages our day-to-day operations pursuant
to a management agreement and the direction and oversight of our board of
directors. A majority of our board of directors is unaffiliated with the
management company or The TCW Group, Inc., the parent company of the management
company. The management company's key officers and our investment management
team is comprised of selected members of The TCW Group, Inc.'s mortgage-backed
securities group, all of whom have experience in raising capital for, investing
in and managing fixed-income instruments. An external management structure
allows us to take advantage of the existing operational systems, expertise and
economies of scale associated with the management company's current business
operations.
The management company was established in 1987 as an investment adviser
registered with the Securities and Exchange Commission under the Investment
Advisers Act of 1940. The TCW Group, Inc. was established in 1971 and manages
both domestic and international investments for a range of clients with diverse
investment objectives. As of June 30, 2001, the TCW group of companies had
under management or committed to management approximately $80 billion, of which
$34.5 billion consisted of United States fixed-income instruments. Of that
$34.5 billion of fixed-income instruments, $22.8 billion consisted of mortgage-
related assets which are managed by the mortgage-backed securities group of the
TCW group of companies. The majority of our executive officers are senior
members of the mortgage-backed securities group.
1
Our primary executive officers are as follows:
. Philip A. Barach, President and Chief Executive Officer. Mr. Barach is
also a Group Managing Director and Chief Investment Officer of Investment
Grade Fixed Income of The TCW Group, Inc. and the management company, as
well as a member of The TCW Group Inc.'s mortgage-backed securities
group. Before joining The TCW Group, Inc. in 1987, Mr. Barach was
employed by Sun Life Insurance Company, where he was Senior Vice
President and Chief of Investments. Previously, Mr. Barach served as Head
of Fixed Income Investments for the State of California Retirement
System.
. Jeffrey E. Gundlach, Vice Chairman of the Board and Chief Investment
Officer. Mr. Gundlach is also a Group Managing Director of The TCW Group,
Inc. and the management company. Prior to joining The TCW Group, Inc. in
1985, Mr. Gundlach was employed by Transamerica Corporation's
Property/Casualty Insurance division as a Senior Loss Reserve Analyst
responsible for investment discount and funding strategies.
. David S. DeVito, Interim Chief Financial Officer and Controller. Mr.
DeVito was appointed our Interim Chief Financial Officer in August 2001
and has been our Controller since March 1999. Mr. DeVito is also a
Managing Director and Chief Financial Officer of The TCW Group, Inc. and
the management company and certain of its affiliates. Prior to joining
The TCW Group, Inc. in 1993, Mr. DeVito was a Senior Manager with
Deloitte & Touche LLP, specializing in serving the investment management
and securities broker/dealer industries.
Our Strategy
We will continue to implement the following strategies, through which we
expect to earn a net interest margin that will enable us to generate dividend
yields for stockholders:
. acquiring various types of mortgage-related assets;
. leveraging our portfolio of mortgage-related assets to achieve higher
returns on equity;
. financing our purchases of mortgage-related assets in the capital
markets; and
. mitigating interest rate volatility by utilizing hedging strategies.
We intend to acquire mortgage-related assets that we believe will maximize
returns on capital invested. Before making these investments, we consider the
amount and nature of the anticipated returns from the mortgage-related assets,
our ability to pledge the mortgage-related assets to secure collateralized
borrowings, and the costs associated with financing, hedging, managing,
securitizing and reserving for these mortgage-related assets.
We primarily invest in mortgage-related assets, which include short-term
investments, mortgage-backed securities, high-credit quality mortgage loans,
mortgage derivative securities and other investments.
We have established the following four primary operating policies to
implement our business strategy:
. the Investment Policy;
. the Leverage Policy;
. the Interest Rate Risk Management Policy; and
. the REIT Compliance Policy.
At June 30, 2001, we held $527,996,000 of mortgage-backed securities in our
portfolio, 76% of which were fixed-rate pass-through certificates, 20% of which
were collateralized mortgage obligations and 4% of
2
which were adjustable-rate pass-through certificates. In addition, at June 30,
2001, our portfolio of fixed-income securities held-for-trading had a weighted-
average coupon of 6.85% and a weighted-average life of 4.0 years.
At June 30, 2001, we had outstanding $501,604,000 of reverse repurchase
agreements with a weighted-average current borrowing rate of 3.80% and a
maturity of 1.0 months.
We may also continue to acquire other investments that may include equity
and debt securities issued by other primarily mortgage-related finance
companies, interests in mortgage-related collateralized bond obligations, other
subordinated interests in pools of mortgage-related assets, commercial mortgage
loans and securities and residential mortgage loans other than high-credit
quality mortgage loans. Although we expect that our other investments will be
limited to less than 10% of our total assets, we have no limit on how much of
our stockholders' equity will be allocated to other investments. There may be
periods in which other investments represent a large portion of our
stockholders' equity. In addition, we intend to allocate a portion of our
equity capital to the purchase of lower credit quality assets.
In order to manage and mitigate the interest rate risk associated with the
purchase and leverage of mortgage-related assets, we will continue to use
various hedging techniques and instruments. These include interest rate swaps,
forward contracts on various United States treasury notes, interest rate caps
and similar financial instruments.
In order to reduce the impact of prepayment risk in our portfolio of
mortgage-related assets, we generally maintain a diversified portfolio with a
variety of prepayment characteristics and exercise caution when purchasing
mortgage-related assets with any significant market price premium.
Our leverage policy attempts to strike a balance between the under-
utilization of leverage, which reduces potential returns to stockholders, and
the over-utilization of leverage, which could reduce our ability to meet our
obligations during periods of adverse market conditions. We have established a
leverage policy to seek to control the type and amount of leverage used to fund
the acquisition of our mortgage-related assets, and to provide guidelines for
using secured borrowings in the form of uncommitted secured borrowings and
committed secured borrowings.
We generally expect to maintain a debt-to-equity ratio of between 8.0 and
12.0, although the ratio may vary from time to time depending upon market
conditions and other factors that our management deems relevant. For purposes
of calculating this ratio, we assume our equity is equal to the value of our
investment portfolio on a marked-to-market basis, less the book value of our
obligations under repurchase agreements and other collateralized borrowings. At
June 30, 2001, our debt-to-equity ratio was approximately 11.2.
General Information
We were incorporated in Maryland on September 15, 1997 and commenced
operations on December 9, 1997. Our principal executive offices are located at
865 South Figueroa Street, Suite 1800, Los Angeles, California 90017, and our
telephone number is (213) 244-0440. Our Internet address is www.apexreit.com.
The information contained on our website and on any websites linked by our
website, however, is not a part of this prospectus and you should not rely on
such information in deciding whether to invest in our company.
3
Recent Developments
Quarterly Dividends
On March 20, 2001, our board of directors declared a first quarter 2001
dividend distribution of $0.35 per share of our common stock, which was paid on
April 20, 2001 to stockholders of record on March 31, 2001. On June 20, 2001,
our board of directors increased the quarterly dividend payment on our common
stock from $0.35 per share to $0.40 per share, which was paid on July 20, 2001
to stockholders of record on June 29, 2001. Dividends on our common stock will
be paid only if and when declared by our board of directors, which may not
declare dividends in the future at any particular rate.
The Relationship Between The TCW Group, Inc. and Societe Generale, S.A.
On April 11, 2001, The TCW Group, Inc. and certain of its stockholders, and
Societe Generale, S.A., Societe Generale Asset Management, S.A., or SGAM, a
wholly-owned subsidiary of Societe Generale, and certain other parties entered
into an acquisition agreement and plan of reorganization pursuant to which SGAM
agreed to acquire a controlling interest in The TCW Group, Inc. The first step
in the acquisition closed on July 6, 2001 and as a result of this transaction,
Societe Generale controls The TCW Group, Inc. and TCW Investment Management
Company.
The Offering
Common stock offered...................................... 4,000,000 shares(/1/)
Common stock outstanding after this offering.............. 9,753,000 shares(/2/)
American Stock Exchange trading symbol.................... AXM
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(1) Excludes a 30-day option granted to the underwriter to purchase up to
600,000 additional shares of common stock.
(2) Does not give effect to the issuance of: (a) 878,000 shares of common stock
issuable upon the exercise of currently outstanding stock options as of
June 30, 2001, and (b) shares which may be issued upon the exercise of the
over-allotment option granted to the underwriter.
4
Summary Financial Data
The summary financial data as of December 31, 2000 and 1999 and the three
years in the period ended December 31, 2000 are derived from our audited
financial statements incorporated by reference and included in this prospectus.
The summary financial data as of December 31, 1998 and 1997 and for the year
ended December 31, 1998 and the period from December 9, 1997 to December 31,
1997 are derived from audited financial statements not included in this
prospectus. The summary financial data for the six-month periods ended June 30,
2000 and 2001 are derived from our unaudited financial statements for those
periods included in this prospectus. You should read this summary financial
data together with "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and our audited and unaudited financial statements
and notes thereto that are included in this prospectus beginning on page F-1.
Period from
December 9 Six Months
to Ended June 30,
December 31, Year Ended December 31, (unaudited)
------------ ----------------------------- --------------------
1997 1998 1999 2000 2000 2001
------------ --------- --------- --------- --------- ---------
(in thousands, except for per share data)
Statement of Operations
Data:
Interest income......... $ 428 $ 41,975 $ 52,517 $ 42,834 $ 23,030 $ 20,784
Interest expense........ 111 36,007 42,345 33,779 18,278 12,064
Net interest income..... 317 5,968 10,172 9,055 4,752 8,720
Net operating
income(/1/)............ 150 4,500 9,174 8,460 4,712 8,645
Net gain (loss) on
investment
transactions........... -- 1,047 1,938 (36,703) (7,532) (6,840)
Net income (loss)....... $ 150 $ 5,547 $ 11,112 $ (28,243) $ (2,820) $ 1,374
Weighted average number
of diluted shares
outstanding............ 6,700,100 6,190,000 5,779,000 5,753,000 5,753,000 5,819,000
Diluted net income
(loss) per share....... $ 0.02 $ 0.90 $ 1.92 $ (4.91) $ (0.49) $ 0.24
Dividends declared per
share.................. $ 0.04 $ 1.07 $ 1.72 $ 1.51 $ 0.81 $ 0.75
At June 30,
At December 31, (unaudited)
------------------------------------------ --------------------
1997 1998 1999 2000 2000 2001
------------ --------- --------- --------- --------- ---------
(in thousands, except for per share data)
Balance Sheet Data:
Total assets............ $ 271,307 $ 865,478 $ 735,745 $ 614,073 $ 579,559 $ 550,162
Total liabilities....... 178,310 777,448 679,704 569,690 531,223 505,150
Stockholders' equity.... $ 92,997 $ 88,030 $ 56,041 $ 44,383 $ 48,336 $ 45,012
Book value per share.... $ 13.88 $ 15.30 $ 9.74 $ 7.71 $ 8.40 $ 7.82
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(/1/) Net operating income represents interest income earned on fixed-income
securities less cost of borrowings on reverse repurchase agreements plus
dividend income from equity securities less general and administrative
expenses. The cost of hedging the portfolio of fixed-income securities
with short positions on United States treasury notes is not included in
net operating income, but is instead included in net gain (loss) on
investment transactions. If the cost of hedging the portfolio of fixed-
income securities with short positions on United States treasury notes
were included in the net operating income calculations, the Company's net
operating income would be reduced.
5
RISK FACTORS
An investment in our common stock involves various risks. You should
carefully consider the following risk factors in conjunction with the other
information contained and incorporated by reference in this prospectus before
purchasing our common stock. If any of the risks discussed in this prospectus
actually occur, our business, operating results, prospects or financial
condition could be harmed. This could cause the market price of our common
stock to decline and could cause you to lose all or part of your investment.
Risks Related to our Business
We may incur losses on our fixed-rate investments during periods of rising
interest rates.
We generally fund our acquisition of fixed-rate mortgage-related assets with
short-term borrowings. During periods of rising interest rates, our costs
associated with borrowings used to fund acquisition of fixed-rate assets are
subject to increases while the income we earn from these assets remains
substantially fixed. This reduces the net interest spread between the fixed-
rate mortgage-related assets that we purchase and our borrowings used to
purchase them, which could cause us to suffer a loss. For example, our losses
incurred in 2000 arose in part as a result of the reduced net interest spread
between our fixed-rate mortgage-related assets and our borrowings used to
purchase them.
Interest rate caps on our adjustable-rate mortgage-related assets may reduce
our income during periods of rising interest rates.
Periodic and lifetime interest rate caps typically apply to adjustable-rate
mortgage-related assets, which limit the amount that an applicable asset's
interest rate can increase or decrease during any particular period. Our
borrowings will not be subject to similar limitations on any increases in the
applicable interest rate. If interest rates increase, the rates we pay on our
borrowings could increase without limitation, while the interest rates we
receive on our mortgage-related assets could be limited. This problem is
magnified for our adjustable-rate mortgage-related assets that are not fully
indexed. Further, some adjustable-rate mortgage-related assets may be subject
to periodic payment caps that result in a portion of the interest being
deferred and added to the principal outstanding. As a result, we could receive
less cash income on adjustable-rate mortgage-related assets than we need to pay
interest on our related borrowings. These factors could lower our net interest
income or cause us to suffer a net loss during periods of rising interest
rates.
Interest rate mis-matches between our adjustable-rate mortgage-related assets
and our borrowings used to fund our purchases of the assets may reduce our
income during periods of changing interest rates.
We fund most of our acquisitions of adjustable-rate mortgage-related assets
with borrowings that have interest rates based on indices and repricing terms
similar to, but of shorter maturities than, the interest rate indices and
repricing terms of the mortgage-related assets. Therefore, in most cases the
interest rate indices and repricing terms of the mortgage-related assets that
we acquire and their funding sources will not be identical, thereby creating an
interest rate mismatch between assets and liabilities. While the historical
spread between relevant short-term interest rate indices has been relatively
stable, there have been periods when the spread between these indices was
volatile. During periods of changing interest rates, these mismatches could
reduce our net income, dividend yield or the market price of our common stock.
Failure to design or implement an effective hedging strategy to manage interest
rate risk may decrease our income from our mortgage-related assets and may
cause us to incur losses.
We develop and use an objective interest rate risk management strategy, also
called a hedging strategy, in an effort to minimize the impact of interest rate
changes. However, developing an objective and effective hedging strategy is
difficult, and no strategy can completely insulate us from risks associated
with interest rate changes. Hedging techniques involving the use of mortgage
derivative securities are highly complex and may
6
produce volatile returns. In addition, hedging strategies typically involve
transaction costs that increase dramatically during periods of rising and
fluctuating interest rates. These hedging techniques may not have a beneficial
impact on our net income. Our net losses incurred in 2000 were in part a result
of ineffective hedging strategies.
In addition, the REIT provisions of the tax code may substantially limit our
ability to engage in hedging transactions. In particular, our hedging
activities are limited by the tax code's asset rules and sources-of-income
rules applicable to REITs. These constraints in the tax code may prevent us
from effectively implementing the optimal hedging strategies that would further
insulate our net income from changes in the interest rates.
If we incorrectly predict the level of prepayments that our mortgage-related
assets will experience, we may select an inappropriate and, thus, ineffective
hedging strategy.
We select hedging techniques based partly on predicted levels of prepayments
by mortgage borrowers of our mortgage-related assets. Many mortgage borrowers
have the option of prepaying their mortgages under specified conditions.
Prepayment rates tend to decrease during periods of rising interest rates and
to increase during periods of declining interest rates. Fixed-rate assets
generally are acquired with a projected weighted average life based on
assumptions regarding prepayments. In general, when we acquire a fixed-rate
mortgage-related asset or a capped adjustable-rate mortgage-related asset with
borrowed money, we enter into an interest rate swap agreement or other hedging
instrument in order to fix our borrowing costs for a period close to the
expected average life of the fixed-rate or capped rate asset. This strategy is
designed to protect us from rising interest rates by fixing our borrowing costs
for the expected lifetime of the asset. Whether our selected hedging strategy
is effective will depend significantly upon whether we correctly predict the
level of prepayments by the borrowers of our mortgages.
If prepayments of our mortgage-related assets are slower than we predict,
then the life of our mortgage-related assets will be longer and the
effectiveness of our hedging techniques will be reduced. However, if prepayment
rates decline, as often occurs in a rising interest rate environment, the life
of the mortgage-related asset could extend beyond the term of the swap
agreement or other hedging instrument. This situation would negatively impact
our profits since the income we earn on the fixed-rate asset will remain fixed,
but after the expiration of the hedging instrument our borrowing costs will
become variable. This is also known as extension risk. We may have to refinance
our borrowing at the new, higher prevailing interest rate, thus reducing or
eliminating our net interest income from the mortgage-related asset. This
situation may also cause the market value of our mortgage-related assets to
decline, with little or no offsetting gain from the related hedging
transactions. In some situations, we may be forced to sell assets and incur
losses to maintain adequate liquidity. Our hedging activity is also limited by
the requirements of the tax code applicable to us as a REIT.
Conversely, if prepayments of our mortgage-related assets are faster than we
predict, as may occur in a falling interest rate environment, the average life
of our mortgage-related assets becomes shorter than the life of the related
hedging instrument. If this were to happen, we may be forced to reinvest our
funds in mortgage-related assets with interest rates lower than that of the
related hedging instrument, which would result in the narrowing of interest
rate spreads or may cause losses.
Increased levels of prepayments from mortgage-related assets may also decrease
net interest income.
We anticipate that a substantial portion of adjustable-rate mortgage-related
assets may bear initial interest rates that are lower than their "fully
indexed" rates, which are equivalent to the applicable index rate plus a
margin. If an adjustable-rate mortgage-related asset is prepaid prior to or
soon after the time of adjustment to a fully indexed rate, we will have held
the mortgage-related asset while it was less profitable and lost the
opportunity to receive interest at the fully indexed rate over the remainder of
its expected life. In addition, the prepayment of a mortgage-related asset that
we purchased at a premium would result in our immediately writing-off any
remaining capitalized premium amount and, consequently, suffering a
corresponding reduction in net interest income. We may also acquire mortgage
derivative securities that represent the right to receive
7
interest only or a disproportionately large amount of interest, which would
similarly experience a lower rate of return in the event of faster than
expected prepayments. Finally, if we are unable to acquire new mortgage-related
assets to replace the prepaid mortgage-related assets, our financial condition,
cash flow and results of operations could suffer.
We face potential net interest losses and operating losses in connection with
our substantial use of leverage when purchasing mortgage-related assets.
We borrow substantial sums against our existing mortgage-related assets to
acquire additional mortgage-related assets and thereby to increase the overall
size of our mortgage-related asset portfolio. We generally expect that up to
92% of our total mortgage-related assets will be financed with borrowed funds.
Our leveraging strategy increases the risks of our operations in several
ways.
. The use of leverage increases our risk of loss resulting from various
factors, including rising interest rates, downturns in the economy or
deteriorations in the conditions of any of our mortgage-related assets.
. A majority of our borrowings are secured by our mortgage-related assets,
primarily under reverse repurchase agreements. These loans are "marked-
to-market" based on the market value of the mortgage-related assets
pledged to secure the specific borrowings at a given time. Some mortgage-
related assets may be cross-collateralized to secure multiple borrowing
obligations to a particular lender. A decline in the market value of the
mortgage-related assets used to secure these debt obligations could limit
our ability to borrow or result in lenders requiring us to pledge
additional collateral to secure our borrowings. In that situation, we
could be required to sell mortgage-related assets under adverse market
conditions in order to obtain the additional collateral required by the
lender. If these sales are made at prices lower than the carrying value
of the mortgage-related assets, we would experience losses.
. A default of a mortgage-related asset that constitutes collateral for a
loan could also result in an involuntary liquidation of the mortgage-
related asset, including any cross-collateralized mortgage-related
assets. This would result in a loss to us of the difference between the
value of the mortgage-related asset upon liquidation and the amount
borrowed against the mortgage-related asset.
. To the extent we are compelled to liquidate qualified REIT assets to
repay debts, our compliance with the REIT rules regarding our assets and
our sources of income could be negatively affected, which would
jeopardize our status as a REIT. Losing our REIT status would cause us to
lose tax advantages applicable to REITs and may decrease our overall
profitability and distributions to our stockholders.
In these ways, the use of leverage increases our risk of loss and may reduce
our net income by increasing the risks associated with other risk factors,
including a decline in the market value of our mortgage-related assets or a
default of a mortgage-related asset.
We may invest in "inverse floaters," which generally experience greater
volatility in their market prices, thus exposing us to greater risk with
respect to their rate of return.
We may acquire a type of securities called "inverse floaters," which may
behave similarly to securities that are leveraged since their interest rates
usually vary by a magnitude much greater than the magnitude of the index rate
of interest. The leverage-like characteristics of inverse floaters result in
greater volatility in their market prices. Thus, our acquisition of inverse
floaters exposes us to the risk of greater volatility in our portfolio, which
could adversely affect our net income and overall profitability.
8
We depend on borrowings to purchase mortgage-related assets. If we fail to
obtain or renew sufficient funding on favorable terms, we will be limited in
our ability to acquire mortgage-related assets and our earnings and
profitability could decline.
We depend on short-term borrowings to fund acquisitions of mortgage-related
assets. Accordingly, our ability to achieve our investment objectives depends
on our ability to borrow money in sufficient amounts and on favorable terms. In
addition, we must be able to renew or replace our maturing short-term
borrowings on a continuous basis. Moreover, we are dependent upon a few lenders
to provide the primary credit facilities for our purchases of mortgage-related
assets.
If we are not able to renew or replace maturing borrowings, we may be
required to sell our mortgage-related assets under adverse market conditions
and may incur permanent capital losses as a result. In addition, the failure to
renew or replace mature borrowings may require us to terminate hedge positions,
which could result in further losses. Any number of these factors in
combination may cause difficulties for us, including a possible liquidation of
a major portion of our portfolio at disadvantageous prices with consequent
losses, which may render us insolvent.
Possible market developments could cause our lenders to require us to pledge
additional assets as collateral. If our assets are insufficient to meet the
collateral requirements, then we may be compelled to liquidate particular
assets at an inopportune time.
Possible market developments, including a sharp rise in interest rates, a
change in prepayment rates or increasing market concern about the value or
liquidity of one or more types of mortgage-related assets in which our
portfolio is concentrated, may reduce the market value of our portfolio, which
may cause our lenders to require additional collateral. This requirement for
additional collateral may compel us to liquidate our assets at a
disadvantageous time, thus adversely affecting our operating results and net
profitability. For example, our losses incurred in 2000 resulted in part by our
decision to liquidate assets in response to a decline in the market value of
our investment portfolio.
Our use of repurchase agreements to borrow funds may give our lenders greater
rights in the event that either we or a lender files for bankruptcy.
Our borrowings under repurchase agreements may qualify for special treatment
under the bankruptcy code, giving our lenders the ability to avoid the
automatic stay provisions of the bankruptcy code and to take possession of and
liquidate our collateral under the repurchase agreements without delay in the
event that we file for bankruptcy. Furthermore, the special treatment of
repurchase agreements under the bankruptcy code may make it difficult for us to
recover our pledged assets in the event that a lender files for bankruptcy.
Thus, the use of repurchase agreements exposes our pledged assets to risk in
the event of a bankruptcy filing by either a lender or us.
Because we invest in assets that experience periods of illiquidity, we may lose
profits or be prevented from earning capital gains if we cannot sell mortgage-
related assets at an opportune time.
We bear the risk of being unable to dispose of our mortgage-related assets
at advantageous times or in a timely manner because mortgage-related assets
experience periods of illiquidity. The lack of liquidity may result from the
absence of a willing buyer or an established market for these assets, as well
as legal or contractual restrictions on resale. As a result, the illiquidity of
mortgage-related assets may cause us to lose profits or the ability to earn
capital gains.
9
Because the majority of our portfolio is classified as held-for-trading,
changes in the market value of our portfolio could result in increased net
income volatility, including the reporting of net losses.
On January 1, 2001, we adopted Statement of Financial Accounting Standards,
or SFAS, No. 133, Accounting for Derivative Instruments and Hedging Activities,
as amended, and reclassified our existing mortgage-related assets portfolio
from the available-for-sale category of SFAS No. 115 to the held-for-trading
category. The primary impact of this accounting change is that both unrealized
and realized gains and losses on our mortgage-related assets portfolio and the
related hedging instruments will be included in net income each reporting
period. This will likely significantly increase the volatility of our quarterly
earnings in future periods. In periods in which the fair market value of our
mortgage-related assets portfolio net of hedging transactions were to decline
in value, we could report net losses that could be material.
Because we depend on the management company and its personnel for successful
operations, the loss of any of its key personnel could severely and
detrimentally affect our operations.
We depend on the diligence, experience and skill of the officers and
employees of the management company for the selection, structuring and
monitoring of our mortgage-related assets and associated borrowings. We depend
on our officers and directors to monitor the management company. Currently, our
senior officers are Messrs. Barach, Gundlach and DeVito. We have not entered
into employment agreements with our senior officers, nor do we require the
management company to employ specific personnel or to dedicate employees solely
to our business. These individuals are free to engage in competitive activities
in our industry. The loss of any key person could harm our entire business,
financial condition, cash flow and results of operations.
Our board of directors may change our operating policies and strategies without
prior notice or stockholder approval.
Summaries of our current operating policies and strategies are contained in
the annual and quarterly reports we file with the Securities and Exchange
Commission, which are incorporated by reference in this prospectus. However,
our board of directors can modify or waive these policies without prior notice
and without stockholder approval. We cannot predict the effect any changes to
our current operating policies and strategies may have on our business and
operating results or our stock price, however, the effects may be adverse.
Risks Related to Conflicts of Interest
Since the management company may receive a significant fee if we terminate the
management agreement, we may not be able to economically terminate the
management agreement in the event that the management company fails to meet our
expectations.
If we terminate the management agreement, or if we decide not to renew it,
then we may have to pay a significant fee to the management company. The actual
amount of the fee is not known because the fair market value of the management
agreement cannot be determined in advance with certainty. Paying this fee would
reduce the cash available for distribution to stockholders and may cause us to
suffer a net operating loss. Consequently, we may not be able to terminate the
management agreement economically even if we are dissatisfied with the
management company's performance.
The management company and its affiliates may allocate mortgage-related
opportunities to other entities, and thus may divert attractive investment
opportunities away from us.
The management company and its affiliates purchase and manage mortgage
securities for third-party accounts. The management company has no obligation
to make investment opportunities available to us. As a result, the management
company may face a conflict of interest between allocating assets and other
mortgage-related opportunities to us or to other accounts managed by it or its
affiliates. In addition, the management
10
company and its affiliates may from time to time purchase mortgage securities
for their own accounts. These conflicts may result in decisions or allocations
of mortgage securities by the management company that are not in our best
interest.
The compensation structure for the management company creates an incentive for
the management company to increase the riskiness of our mortgage portfolio in
order to maximize its compensation.
In addition to its base management compensation, the management company
earns incentive compensation for each fiscal year equal to 30% of our net
income in excess of the amount that would produce an annualized return on
equity equal to the ten-year United States treasury rate plus 1%. As a result,
the management company shares in our profits but not in our losses.
Consequently, as the management company evaluates for us different mortgage-
related assets for investment and different investment strategies, there is a
risk that the management company will cause us to assume more risk than is
prudent in an attempt to increase its incentive compensation. Other key
criteria related to determining appropriate investments and investment
strategies, including the preservation of capital, may be unduly ignored at the
expense of the management company's emphasis on maximization of income.
Because the management company may render services to other mortgage investors,
this could reduce the amount of time and effort that the management company
devotes to us and, consequently, our profitability and overall management could
suffer.
The management agreement does not restrict the right of the management
company or any of its officers, directors, employees or affiliates from doing
business, including the rendering of advice in the purchase of mortgage-related
assets that meet our investment criteria, with any other person or entity. The
management company may also advise other mortgage-related entities, including
REITs, that invest in residential or commercial mortgages or other residential
and non-residential mortgage securities. However, members of the mortgage-
backed securities group of The TCW Group, Inc. or any successor group will not
provide any active management services to a residential mortgage REIT, other
than ourselves, that invests primarily in high-quality mortgage securities
comparable to our investments. In addition to the management company's ability
to do business with any other third party, the management agreement does not
specify a minimum time period that the manager and its personnel must devote to
us. The ability of the management company to engage in these business
activities could reduce their time and effort dedicated to managing us.
Risks Related to REIT Compliance and Other Matters
If we are disqualified as a REIT, we will be subject to tax as a regular
corporation and face substantial tax liability.
We currently operate, and we intend to continue to operate, so as to qualify
as a REIT under the tax code. However, we may not remain qualified as a REIT in
the future. Qualification as a REIT involves the application of highly
technical and complex tax code provisions for which only a limited number of
judicial or administrative interpretations exist. If we fail to qualify as a
REIT in any tax year, then:
. we would be taxed as a regular domestic corporation, which, among other
things, means being disallowed from deducting distributions to
stockholders in computing taxable income and being subject to federal
income tax on our taxable income at regular corporate rates;
. any resulting tax liability could be substantial and would reduce the
amount of cash available for distribution to stockholders; and
. unless we were entitled to relief under applicable statutory provisions,
we would be disqualified from treatment as a REIT for the subsequent four
taxable years following the year during which we lost our qualification,
and thus, our cash available for distribution to stockholders would be
reduced for each of the years during which we were not permitted to
qualify as a REIT.
11
Even if we remain qualified for taxation as a REIT, we may be subject to
federal taxes based on some of our activities, which could result in decreased
cash available for distribution to our stockholders.
Complying with REIT requirements may cause us to forego otherwise attractive
opportunities.
In order to qualify as a REIT for federal income tax purposes, we must
continually satisfy tests concerning, among other things, our sources of
income, the nature and diversification of our mortgage-related assets, the
amounts we distribute to our stockholders and the ownership of our stock. We
may also be required to make distributions to stockholders at disadvantageous
times or when we do not have funds readily available for distribution. Thus,
compliance with REIT requirements may hinder our ability to operate solely on
the basis of maximizing profits.
Complying with REIT requirements may limit our ability to hedge effectively.
The REIT provisions of the tax code may substantially limit our ability to
hedge mortgage-related assets and related borrowings by requiring us to limit
our income in each year from "qualified hedges," together with any other income
not generated from qualified REIT real estate assets, to less than 25% of our
gross income. In addition, we must limit our aggregate income from hedging and
services from all sources, other than from qualified REIT real estate assets or
qualified hedges, to less than 5% of our annual gross income. As a result, we
may have to limit our use of advantageous hedging techniques, which may result
in greater risks associated with changes in the interest rates. If we were to
violate the 25% or 5% limitations, we may have to pay a penalty tax equal to
the amount of income in excess of those limitations. In the case of a willful
violation, we could lose our REIT status for federal income tax purposes.
Complying with REIT requirements may force us to liquidate otherwise attractive
investments.
In order to qualify as a REIT, we must also ensure 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. The
remainder of our investment in securities cannot include more than 10% of the
outstanding voting securities of any one issuer or 10% of the total value of
the outstanding securities of any one issuer. In addition, no more than 5% by
value of our assets can consist of the securities of any one issuer. If we fail
to comply with these requirements, we must dispose of a portion of our assets
within 30 days after the end of the calendar quarter in order to avoid losing
our REIT status and suffering adverse tax consequences.
Complying with REIT requirements may force us to borrow to make distributions
to stockholders.
From time to time, we may generate taxable income greater than our net
income for financial reporting purposes from, among other things, amortization
of capitalized purchase premiums, or our taxable income may be greater than our
cash flow available for distribution to stockholders. If we do not have other
funds available in these situations, we may be unable to distribute
substantially all of our taxable income as required by the REIT provisions of
the tax code. Thus, we could be required to borrow funds, sell a portion of our
mortgage-related assets at disadvantageous prices or find another alternative.
These options could increase our costs or reduce our equity.
Failure to maintain an exemption from the Investment Company Act would
adversely affect our results of operations.
We conduct our business in a manner that allows us to avoid being regulated
as an investment company under the Investment Company Act. The Investment
Company Act exempts entities that are primarily engaged in the business of
purchasing or otherwise acquiring "mortgages and other liens on and interests
in real estate." Under the SEC's current interpretation, qualification for this
exemption requires us to maintain at least 55% of our assets directly in
specific types of real estate interests, including, among other things,
mortgage loans and qualifying pass-through certificates, which are securities
representing interests in "pools" of mortgage loans
12
secured by residential real property in which payments of both interest and
principal on the securities are generally made monthly. In order to constitute
a qualifying real estate interest under this 55% requirement, a real estate
interest must meet various criteria. For instance, unless the mortgage
securities in which we may invest represent all the certificates issued with
respect to an underlying pool of mortgage loans, they may be treated as
securities separate from the underlying mortgage loans. Thus, in attempting to
avoid being regulated as an investment company under the Investment Company
Act, we may forego acquiring otherwise attractive mortgage-related assets. If
we fail to continue to qualify for an exemption from registration as an
investment company, our ability to use leverage would be substantially reduced
and we would be unable to conduct our business as planned.
Risks Related to Our Securities and Other Matters
Our stock price may be volatile, which could result in substantial losses for
our stockholders.
The market price of our common stock could be subject to wide fluctuations
in response to a number of factors, including:
. issuing new equity securities pursuant to this offering or otherwise;
. the amount of our common stock outstanding and the trading volume of our
stock;
. actual or anticipated changes in our future financial performance;
. changes in financial estimates of us by securities analysts;
. competitive developments, including announcements by us or our
competitors of new products or services or significant contracts,
acquisitions, strategic partnerships, joint ventures or capital
commitments;
. the operating and stock performance of our competitors;
. changes in interest rates; and
. additions or departures of key personnel at the management company.
We may incur excess inclusion income that would increase the tax liability of
our stockholders.
In general, dividend income that a tax-exempt entity receives from us should
not constitute unrelated business or trade income as defined in Section 512 of
the tax code, or UBTI. If, however, we realize excess inclusion income and
allocate it to stockholders, this income cannot be offset by net operating
losses. If the stockholder is a tax-exempt entity, then this income would be
fully taxable as UBTI under Section 512 of the tax code. If the stockholder is
foreign, then it would be subject to federal income tax withholding on this
income without reduction pursuant to any otherwise applicable income-tax
treaty.
Excess inclusion income would be generated if we were to issue debt
obligations with two or more maturities and the terms of the payments on these
obligations bore a relationship to the payments that we received on our
mortgage-related assets securing those debt obligations. We generally structure
our borrowing arrangements in a manner designed to avoid generating significant
amounts of excess inclusion income. We do, however, enter into various reverse
repurchase agreements that have differing maturity dates and afford the lender
the right to sell any pledged mortgage securities if we default on our
obligations. The IRS may determine that these borrowings give rise to excess
inclusion income that should be allocated among stockholders. Furthermore, some
types of tax-exempt entities, including, without limitation, voluntary employee
benefit associations and entities that have borrowed funds to acquire their
shares of our common stock, may be required to treat a portion of or all of the
dividends they may receive from us as UBTI. We also invest in equity securities
of other REITs. If we were to receive excess inclusion income from another
REIT, we may be required to distribute the excess inclusion income to our
shareholders which may result in the recognition of UBTI.
13
Our charter does not permit ownership of over 9.8% of our common or preferred
stock and attempts to acquire our common or preferred stock in excess of the
9.8% limit are void.
For the purpose of preserving our REIT qualification and for other reasons,
our charter prohibits direct or constructive ownership of more than 9.8% of the
lesser of the total number or value of the outstanding shares of our common
stock or more than 9.8% of the outstanding shares of our preferred stock. Our
charter's constructive ownership rules are complex and may cause the
outstanding stock owned by a group of related individuals or entities to be
deemed to be constructively owned by one individual or entity. As a result, the
acquisition of less than 9.8% of the outstanding stock by an individual or
entity could cause that individual or entity to own constructively in excess of
9.8% of the outstanding stock, and thus be subject to our charter's ownership
limit. Any attempt to own or transfer shares of our common or preferred stock
in excess of the ownership limit shall be void, and will result in the shares
being transferred by operation of law to a charitable trust.
Because provisions contained in Maryland law, our charter, our bylaws and our
stockholder rights plan may have an anti-takeover effect, investors may be
prevented from receiving a "control premium" for their shares.
Provisions contained in our charter and bylaws, as well as Maryland
corporate law, may have anti-takeover effects that delay, defer or prevent a
takeover attempt, which may prevent stockholders from receiving a "control
premium" for their shares. For example, these provisions may defer or prevent
tender offers for our common stock or purchases of large blocks of our common
stock, thereby limiting the opportunities for our stockholders to receive a
premium for their common stock over then-prevailing market prices. These
provisions include the following:
Ownership limit. The ownership limit in our charter limits related
investors, including, among other things, any voting group, from acquiring over
9.8% of our common stock without our permission.
Preferred stock. Our charter authorizes our board of directors to issue
preferred stock in one or more classes and to establish the preferences and
rights of any class of preferred stock issued. These actions are to be taken
without soliciting stockholder approval.
Staggered board. Our board of directors is divided into three classes of
directors. The terms of each class expire in different years. Directors of each
class serve for a three-year term and until their successors are elected and
qualified. The affirmative vote of two-thirds of all outstanding common stock
is required to remove a director.
Maryland business combination statute. Under the Maryland General
Corporation Law, some "business combinations" between a Maryland corporation
and any person who owns, directly or indirectly, 10% or more of the voting
power of the corporation's shares of capital stock must be approved by holders
of at least 80% of the voting shares. In addition, a holder of 10% or more of
the voting power of a corporation's shares may not engage in a business
combination with the corporation for five years following the date he or she
became a 10% holder.
Maryland control share acquisition statute. Maryland law provides that
"control shares" of a corporation acquired in a "control share acquisition"
shall have no voting rights except to the extent approved by a vote of two-
thirds of the votes eligible under the statute to be cast on the matter, unless
the corporation has opted out of the Control Share Acquisition statute.
"Control shares" are voting shares of beneficial interest that, if aggregated
with all other shares of beneficial interest previously acquired by the
acquiror, would entitle the acquiror to exercise voting power in electing
directors within one of the following ranges of voting power: one-fifth or more
but less than one-third, one-third or more but less than a majority or a
majority of all voting powers.
14
Control shares do not include shares of beneficial interest the acquiring
person is then entitled to vote as a result of previously having obtained
stockholder approval. A "control share acquisition" means the acquisition of
control shares, subject to some exceptions.
If voting rights are not approved at a stockholders meeting then, subject to
some conditions and limitations, the issuer may redeem any or all of the
control shares for fair value not previously approved. If voting rights for
control shares are approved at a stockholders meeting and the acquiror becomes
entitled to vote a majority of the shares of beneficial interest entitled to
vote, all other stockholders may exercise appraisal rights.
Our bylaws contain a provision exempting from the control share acquisition
statute any and all acquisitions by any person of our common stock. However,
our board of directors may decide to amend or eliminate the provision at any
time in the future.
Shareholder rights plan. We have adopted a shareholder rights plan that may
discourage any investor from acquiring over 15% of our common stock because,
upon this type of acquisition without board approval, all other common
stockholders will have the right to purchase a specified amount of our common
stock at a 50% discount from the market price. Our shareholder rights plan is
incorporated by reference as an exhibit to the registration statement of which
this prospectus is a part.
Future offerings of debt securities, which would be senior to our common stock
upon liquidation, or equity securities, which would dilute our existing
stockholders and may be senior to our common stock for the purposes of dividend
distributions, may adversely affect the market price of our common stock.
In the future, we may attempt to increase our capital resources by making
additional offerings of debt or equity securities, including commercial paper,
medium-term notes, senior or subordinated notes and classes of preferred stock
or common stock. Upon liquidation, holders of our debt securities and shares of
preferred stock and lenders with respect to other borrowings will receive a
distribution of our available assets prior to the holders of our common stock.
Additional equity offerings by us may dilute the holdings of our existing
stockholders or reduce the market price of our common stock, or both. Our
preferred stock, if issued, would have a preference on dividend payments that
could limit our ability to make a dividend distribution to the holders of our
common stock. Because our decision to issue securities in any future offering
will depend on market conditions and other factors beyond our control, we
cannot predict or estimate the amount, timing or nature of our future
offerings. Thus, our stockholders bear the risk of our future offerings
reducing the market price of our common stock or diluting their stock holdings
in us.
15
USE OF PROCEEDS
We intend to use the net proceeds from the sale of our common stock in this
offering to purchase mortgage-related assets consistent with our investment
policy. The net proceeds from the sale of 4,000,000 shares of our common stock
in this offering will be approximately $39.1 million, based on an assumed
offering price of $10.50 per share after deducting the underwriting discounts
and commissions and estimated expenses of the offering, assuming the
underwriter does not exercise its over-allotment option. Pending full
investment in the desired mix of mortgage-related assets, funds will be
committed to short-term investments.
16
MARKET PRICE AND DIVIDENDS ON OUR COMMON STOCK
Market Information
Commencing December 4, 1997, our common stock traded on the New York Stock
Exchange. Effective February 8, 2001, we ceased trading on the New York Stock
Exchange and commenced trading our common stock on the American Stock Exchange
under the symbol "AXM." As of the date of this prospectus, the approximate
number of record holders of our common stock is 64. The last reported sale
price of our common stock on the American Stock Exchange on September 24, 2001
was $10.50 per share. The following table sets forth the high and low closing
sale prices for our common stock for the 12 months ending December 31, 2000 and
1999 and through September 10, 2001.
1999 2000 2001
Closing Sale Prices Closing Sale Prices Closing Sale Prices
------------------- -------------------- --------------------
High Low High Low High Low
------------------- ---------- --------- ---------- ---------
1st Quarter............. $ 13.50 $ 9.88 $ 10.56 $ 8.75 $ 9.73 $ 6.89
2nd Quarter............. $ 13.94 $ 12.13 $ 10.19 $ 8.50 $ 11.69 $ 9.10
3rd Quarter............. $ 13.56 $ 11.50 $ 9.00 $ 7.06 $ 12.46 $ 9.90
4th Quarter............. $ 12.69 $ 10.06 $ 7.35 $ 6.80 -- --
Dividends
We pay cash dividends on a quarterly basis. We declared total cash dividends
to the holders of our common stock for the three months ended June 30, 2001 and
the fiscal years ended December 31, 2000 and 1999, of $0.40 per share, $1.51
per share and $1.72 per share, respectively. The following table lists the cash
dividends declared on each share of our common stock for our most recent 14
fiscal quarters.
Cash Dividends
Declared
Per Share
--------------
2001
Second Quarter ended June 30, 2001........................ $0.40
First Quarter ended March 31, 2001........................ $0.35
2000
Fourth Quarter ended December 31, 2000.................... $0.35
Third Quarter ended September 30, 2000.................... $0.35
Second Quarter ended June 30, 2000........................ $0.35
First Quarter ended March 31, 2000........................ $0.46
1999
Fourth Quarter ended December 31, 1999.................... $0.46
Third Quarter ended September 30, 1999.................... $0.46
Second Quarter ended June 30, 1999........................ $0.42
First Quarter ended March 31, 1999........................ $0.38
1998
Fourth Quarter ended December 31, 1998.................... $0.30
Third Quarter ended September 30, 1998.................... $0.27
Second Quarter ended June 30, 1998........................ $0.25
First Quarter ended March 31, 1998........................ $0.25
We intend to pay quarterly dividends and to make distributions to our
stockholders of all or substantially all of our taxable income each year,
subject to some adjustments, so as to qualify for the tax benefits accorded to
a REIT under the tax code. All distributions will be made by us at the
discretion of our board of directors and will depend on our taxable earnings,
our financial condition, maintenance of our REIT status and such other factors
as our board of directors may deem relevant from time to time.
17
CAPITALIZATION
The following table sets forth our actual capitalization at June 30, 2001,
and our capitalization as adjusted to give effect to the issuance of 4,000,000
shares of our common stock in this offering at an assumed price of $10.50 per
share, assuming that the underwriter does not exercise its over-allotment
option.
June 30, 2001
---------------------
As
Actual Adjusted(1)
-------- -----------
(In thousands,
except share data)
Stockholders' Equity:
Preferred stock, par value $0.01 per share; 50,000,000
shares authorized; no shares outstanding............. $ -- $ --
Common stock, par value $0.01 per share; 100,000,000
authorized;
5,753,000 shares issued and outstanding; 9,753,000
shares issued and outstanding as adjusted............ 58 98
Additional paid-in capital............................ 82,802 121,827
Accumulated deficit................................... (40,465) (40,465)
Accumulated other comprehensive income(/2/)........... 2,617 2,617
-------- --------
Total stockholders' equity........................... $ 45,012 $ 84,077
======== ========
--------
(1) After deducting estimated underwriting discounts and commissions and
estimated offering expenses payable by us, and assuming no exercise of the
underwriter's over-allotment option to purchase up to an additional 600,000
shares of our common stock.
(2) Represents unrealized gains resulting from marked-to-market adjustments on
our available-for-sale securities, including the impact or impairment
charges recorded in prior periods.
18
SELECTED FINANCIAL DATA
The selected financial data as of December 31, 2000 and 1999 and the three
years in the period ended December 31, 2000 are derived from our audited
financial statements incorporated by reference and included in this prospectus.
The selected financial data as of December 31, 1998 and 1997 and for the year
ended December 31, 1998 and the period from December 9, 1997 to December 31,
1997 are derived from audited financial statements not included in this
prospectus. The selected financial data for the six months ended June 30, 2000
and 2001 are derived from our unaudited financial statements for these periods.
You should read this selected financial data together with "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
our audited and unaudited financial statements and notes thereto that are
included in this prospectus beginning on page F-1.
Period From
December 9 Six Months Ended
to June 30,
December 31, Year Ended December 31, (unaudited)
------------ ----------------------------- --------------------
1997 1998 1999 2000 2000 2001
------------ --------- --------- --------- --------- ---------
(in thousands, except for per share data)
Statement of Operations
Data:
Interest income......... $ 428 $ 41,975 $ 52,517 $ 42,834 $ 23,030 $ 20,784
Interest expense........ 111 36,007 42,345 33,779 18,278 12,064
--------- --------- --------- --------- --------- ---------
Net interest income..... 317 5,968 10,172 9,055 4,752 8,720
Dividend income......... -- 636 2,387 1,139 724 494
--------- --------- --------- --------- --------- ---------
Total operating income.. 317 6,604 12,559 10,194 5,476 9,214
General and
administrative
expenses(/1/).......... 167 2,104 3,385 1,734 764 569
--------- --------- --------- --------- --------- ---------
Net operating
income(/2/)............ 150 4,500 9,174 8,460 4,712 8,645
Net gain (loss) on
investment
transactions........... -- 1,047 1,938 (36,703) (7,532) (6,840)
Reclassification of
previously unrealized
gains(/3/)............. -- -- -- -- -- 1,742
Cumulative effect of
change in accounting
principle(/4/)......... -- -- -- -- -- (2,173)
--------- --------- --------- --------- --------- ---------
Net income (loss)....... $ 150 $ 5,547 $ 11,112 $ (28,243) $ (2,820) $ 1,374
========= ========= ========= ========= ========= =========
Net income (loss) per
basic share............ $ 0.02 $ 0.90 $ 1.93 $ (4.91) $ (0.49) $ 0.24
Net income (loss) per
diluted share.......... 0.02 0.90 1.92 (4.91) (0.49) 0.24
Dividends declared per
share.................. $ 0.04 $ 1.07 $ 1.72 $ 1.51 $ 0.81 $ 0.75
Weighted average number
of shares outstanding:
Basic.................. 6,700,100 6,190,000 5,753,000 5,753,000 5,753,000 5,753,000
Diluted................ 6,700,100 6,190,000 5,779,000 5,753,000 5,753,000 5,819,000
--------
(1) General and administrative expenses include incentive compensation of $619
and $1,714 to TCW Investment Management Company for the years ended
December 31, 1998 and 1999, respectively. No incentive compensation was
recorded for the other periods.
(2) Net operating income represents interest income earned on fixed-income
securities less cost of borrowings on reverse repurchase agreements plus
dividend income from equity securities less general and administrative
expenses. The cost of hedging the portfolio of fixed-income securities with
short positions on United States treasury notes is not included in net
operating income, but is instead included in net gain (loss) on investment
transactions. If the cost of hedging the portfolio of fixed-income
securities with short positions on United States treasury notes were
included in the net operating income calculations, the Company's net
operating income would be reduced.
(3) In conjunction with the adoption of SFAS No. 133 on January 1, 2001, we
reclassified $2,173 of net losses on unrealized and deferred gains and
losses on investment securities and forward contracts from accumulated
other comprehensive income to current income.
(4) In conjunction with the adoption of SFAS No. 133 on January 1, 2001, we
reclassified mortgage securities from the available-for-sale category to
the trading category for investments accounted for under SFAS No. 115,
resulting in the reclassification of $1,742 net unrealized gains from
accumulated other comprehensive income to current income.
19
At December 31,
----------------------------------- At June 30,
2001
1997 1998 1999 2000 (Unaudited)
-------- -------- -------- -------- -----------
(in thousands, except for per share data)
Balance Sheet Data:
Fixed-income
securities............. $265,880 $829,712 $701,143 $600,131 $533,463
Equity securities....... -- 16,422 17,481 9,068 10,240
Total assets............ 271,307 865,478 735,745 614,073 550,162
Reverse repurchase
agreements............. 87,818 767,908 672,660 545,434 501,604
Total liabilities....... 178,310 777,448 679,704 569,690 505,150
Stockholders' equity.... $ 92,997 $ 88,030 $ 56,041 $ 44,383 $ 45,012
Book value per share.... $ 13.88 $ 15.30 $ 9.74 $ 7.71 $ 7.82
20
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
General
We were incorporated in Maryland on September 15, 1997, primarily to acquire
United States agency and other highly-rated, single-family real estate fixed-
rate and adjustable-rate mortgage-related assets. We commenced operations on
December 9, 1997 following the initial public offering of our common stock. We
use our equity capital and borrowed funds to seek to generate income based on
the difference between the yield on our mortgage-related assets and the cost of
our borrowings. We have elected to be taxed as a REIT under the tax code and,
thus, we will not generally be subject to federal taxes on our income to the
extent that we distribute our net income to our stockholders and maintain our
qualification as a REIT.
Results of Operations
Three Month Period Ended June 30, 2001 Compared to June 30, 2000
For the quarter ended June 30, 2001, our net income was $400,000, or $0.07
per share on both a basic and diluted basis, based on a weighted average of
5,753,000 and 5,819,000 shares outstanding, respectively. That compares to a
net loss of $5,115,000, or $0.89 per share both on basic and diluted basis,
based on a weighted average of 5,753,000 shares outstanding for the quarter
ended June 30, 2000. Net interest income for the quarter ended June 30, 2001
was $4,776,000 consisting of interest income on mortgage assets and cash
balances less interest expense on reverse repurchase agreements compared to
$2,304,000 for the quarter ended June 30, 2000. We reported dividend income of
$306,000 from dividends on equity investments for the quarter ended June 30,
2001. We reported dividend income of $354,000 from dividends on equity
investments for the quarter ended June 30, 2000.
During the quarter ended June 30, 2001, we incurred a net loss on investment
transactions of $4,382,000 which is reported in our statement of operations.
The loss consisted of a realized $65,000 gain on the sale of $1,712,000 of
equity securities, realized $866,000 gain on the sale of $59,109,000 of fixed-
income securities held-for-trading, reported losses of $3,141,000 from the net
decrease in fair market value of fixed-income securities held-for-trading and a
realized $2,172,000 net loss on closed forward contracts. We realized a net
loss on investment transactions of $7,532,000 primarily from the sale of
mortgage-backed securities and equity securities for the quarter ended June 30,
2000. The asset sales during that quarter occurred in response to the added
risk associated with an overall increase in interest rate and mortgage spread
volatility. Specifically, at the beginning of the second quarter 2000, we had a
portfolio of primarily fixed-rate mortgage securities financed by approximately
92% short-term borrowings and 8% equity capital. As interest rates rose
significantly during the quarter, the value of the mortgage securities in the
portfolio declined. Although we had entered into short positions on United
States treasury notes as part of a hedging strategy, the value of mortgage
securities in general declined more than that of comparable treasuries during
the period. Accordingly, the decline in value of the mortgage securities was
greater than the offsetting gains recognized from hedging. This net decline in
value increased the effective leverage, and therefore risk, of the portfolio as
the ratio of debt-to-equity increased. Assets were then sold in order to
decrease the debt-to-equity ratio as asset sales decrease debt but do not
decrease equity on a fully marked-to-market basis. The asset sales resulted in
a loss of $6,558,000. This loss represents the difference between the sale
proceeds and the amortized cost of the assets sold. The remaining loss reported
during the quarter primarily represents an impairment charge on one of our
equity investments to adjust the cost basis to fair market value in response to
an other than temporary decline in value.
We incurred operating expenses of $300,000 for the quarter ended June 30,
2001 consisting of management fees, audit, tax, legal, printing, insurance and
other expenses compared to $241,000 for the quarter ended June 30, 2000.
21
The following table reflects the average balances for each category of our
interest earning assets as well as our interest bearing liabilities, with the
corresponding effective yield or rate of interest annualized.
For the Quarter
Ended June 30, For the Quarter
2001 Ended June 30, 2000
------------------ ----------------------
Average Effective Average Effective
Balance Yield Balance Yield
-------- --------- ----------- ----------
(dollars in thousands)
Interest earning assets:
Mortgage securities............... $536,103 7.05% $ 632,288 6.64%
Other fixed-income assets......... 6,532 17.34% 7,024 16.69%
Cash and cash equivalents......... 4,017 3.39% 6,234 6.74%
-------- ----- ----------- --------
Total interest earning assets..... 546,652 7.14% 645,546 6.75%
-------- ----- ----------- --------
Interest bearing liabilities:
Reverse repurchase agreements..... 527,693 3.78% 585,494 5.87%
-------- ----- ----------- --------
Net interest earning assets and
spread............................ $ 18,959 3.36% $ 60,052 0.88%
======== ===== =========== ========
The effective yield data is computed by dividing the annualized net interest
income or expense, including certain hedging transactions as applicable, into
the average daily balance shown.
The following table reflects the average balances for our equity securities.
For the Quarter
Ended June 30, For the Quarter
2001 Ended June 30, 2000
----------------- -------------------
Effective Effective
Average Dividend Average Dividend
Balance Yield Balance Yield
------- --------- -------------------
(dollars in thousands)
Equity securities....................... $12,535 9.76% $ 16,624 8.52%
Six Month Period Ended June 30, 2001 Compared to June 30, 2000
For the six months ended June 30, 2001, our net income was $1,374,000, or
$0.62 per share on a basic basis and $0.61 per share on a diluted basis, based
on a weighted average of 5,753,000 and 5,819,000 shares outstanding,
respectively. That compares to a net loss of $2,820,000 or $0.49 per share on
both a basic and diluted basis, based on a weighted average of 5,753,000 shares
outstanding for the six months ended June 30, 2000. Net interest income for the
six months ended June 30, 2001 was $8,720,000 consisting of interest income on
fixed-income securities and cash balances less interest expense on reverse
repurchase agreements compared to $4,752,000 for the six months ended June 30,
2000. We reported dividend income of $494,000 from dividends on equity
investments for the six months ended June 30, 2001 compared to $724,000 for the
six months ended June 30, 2000.
We incurred operating expenses of $569,000 for the six months ended June 30,
2001, consisting of management fees, professional, printing, insurance and
other expenses. For the six months ended June 30, 2000, we incurred operating
expenses of $764,000 consisting of management fees, professional, printing,
insurance and other expenses.
During the six months ended June 30, 2001, we incurred a net loss on
investment transactions of $6,840,000 which is reported in the statement of
operations. The loss consisted of a $65,000 gain on the sale of $1,712,000 of
equity securities, a realized $4,311,000 gain on the sale of $201,917,000 of
fixed-income
22
securities held-for-trading, a reported gain of $38,000 from the net increase
in fair market value of fixed-income securities held-for-trading and a realized
$11,254,000 loss on closed forward contracts. We realized a net loss on
investment transactions of $7,532,000 primarily from the sale of mortgage-
backed securities and equity securities for the six months ended June 30, 2000.
On January 1, 2001, we adopted Statement of Financial Accounting Standards,
or SFAS, No. 133, Accounting for Derivative Instruments and Hedging Activities
and the related amendments. This adoption resulted in a transition adjustment
that reclassified $2,173,000 of net losses on unrealized and deferred gains and
losses on investment securities and forward contracts from accumulated other
comprehensive income to current income. Also, deferred gains on interest rate
swaps previously designated as hedges were reclassified from other liabilities
to accumulated other comprehensive income.
Also on January 1, 2001, we reclassified $594,469,000 of our mortgage
securities from the available-for-sale category to the trading category for
investments accounted for under SFAS No. 115. This change resulted in the
reclassification of $1,742,000 net unrealized gains from accumulated other
comprehensive income to current income, in addition to net unrealized gains
included in the SFAS No. 133 transition adjustment discussed above.
No such accounting changes were made during the six months ended June 30,
2000.
The following table reflects the average balances for each category of our
interest earning assets as well as our interest bearing liabilities, with the
corresponding effective yield or rate of interest annualized.
For the Six Months
Ended June 30, For the Six Months
2001 Ended June 30, 2000
------------------ ----------------------
Average Effective Average Effective
Balance Yield Balance Yield
-------- --------- ----------- ----------
(dollars in thousands)
Interest earning assets:
Mortgage securities............ $556,667 7.22% $ 671,037 6.64%
Other fixed-income assets...... 6,615 18.17% 7,083 16.35%
Cash and cash equivalents...... 3,682 4.13% 5,452 5.94%
-------- ----- ----------- --------
Total interest earning assets.. 566,964 7.33% 683,572 6.74%
Interest bearing liabilities:
Reverse repurchase agreements.. 545,055 4.43% 623,725 5.86%
-------- ----- ----------- --------
Net interest earning assets and
spread......................... $ 21,909 2.90% $ 59,847 0.88%
======== ===== =========== ========
The effective yield data is computed by dividing the annualized net interest
income or expense, including certain hedging transactions as applicable, into
the average daily balance shown.
The following table reflects the average balances for our equity securities.
For the Six
Months Ended June For the Six Months
30, 2001 Ended June 30, 2000
----------------- -------------------
Effective Effective
Average Dividend Average Dividend
Balance Yield Balance Yield
------- --------- -------------------
(dollars in thousands)
Equity securities....................... $12,774 7.73% $ 17,997 8.05%
23
Year Ended December 31, 2000 Compared to 1999
For the year ended December 31, 2000, our net loss was $28,243,000, or $4.91
per share on a basic and diluted basis, based on a weighted average of
5,753,000 shares outstanding. These figures compare to our net income of
$11,112,000, or $1.93 per share on a basic basis and $1.92 on a diluted basis,
based on a weighted average of 5,753,000 and 5,779,000 shares outstanding,
respectively, for the year ended December 31, 1999. Our net interest income for
the year ended December 31, 2000 was $9,055,000 consisting of interest income
on mortgage assets and cash balances, less interest expense on reverse
repurchase agreements, compared to $10,172,000 for the year ended December 31,
1999. We reported dividend income of $1,139,000 from dividends on equity
investments for the year ended December 31, 2000, compared to $2,387,000 for
the year ended December 31, 1999. We reported net losses on investment
transactions of $36,703,000 consisting primarily of an impairment charge of
$18,284,000 on certain fixed-rate mortgage securities that may be sold prior to
maturity, an impairment charge of $4,326,000 on some equity securities, the
recognition of the associated unrealized loss and deferred hedging losses on
the impaired assets of $8,425,000, a loss of $5,795,000 on the sale of
$193,953,000 of fixed-income securities and a gain of $126,000 on the sale of
equity securities during the year ended December 31, 2000. We realized a net
gain of $1,938,000, primarily from the sale of equity investments, for the year
ended December 31, 1999. We incurred operating expenses of $1,734,000 for the
year ended December 31, 2000 consisting of incentive fees, management fees,
audit, tax, legal, printing, insurance and other expenses compared to
$3,385,000 for the year ended December 31, 1999.
The following table reflects the average balances for each category of our
interest earning assets as well as our interest bearing liabilities, with the
corresponding effective yield or rate of interest annualized for the periods
indicated.
For the Year Ended For the Year Ended
December 31, 2000 December 31, 1999
------------------ ------------------
Average Effective Average Effective
Balance Yield Balance Yield
-------- --------- -------- ---------
(dollars in thousands)
Interest earning assets:
Mortgage securities..................... $622,350 6.67% $772,464 6.65%
Other fixed-income assets............... 6,945 16.09% 5,822 14.40%
Cash and cash equivalents............... 3,588 4.96% 6,322 4.76%
-------- ----- -------- -----
Total interest earning assets........... 632,883 6.76% 784,608 6.69%
Interest bearing liabilities:
Reverse repurchase agreements........... 576,190 5.86% 732,960 5.78%
-------- ----- -------- -----
Net interest earning assets and spread... $ 56,693 0.91% $ 51,648 0.91%
======== ===== ======== =====
The effective yield data is computed by dividing the annualized net interest
income or expense, including hedging transactions, into the average daily
balance shown.
The following table reflects the average balances for our equity securities.
For the Year For the Year
Ended December Ended December
31, 2000 31, 1999
----------------- -----------------
Effective Effective
Average Dividend Average Dividend
Balance Yield Balance Yield
------- --------- ------- ---------
(dollars in thousands)
Equity securities........................... $15,578 7.31% $18,763 12.73%
24
Losses Incurred During 2000
During the second quarter of 2000, in response to the added risk associated
with an overall increase in interest rate and mortgage spread volatility, we
sold $96,513,000 of our mortgage-backed securities. Specifically, at the
beginning of the second quarter 2000, we owned a portfolio of primarily fixed-
rate mortgage securities financed by approximately 92% short-term borrowings
and 8% equity capital. As interest rates rose significantly during the quarter,
the value of the mortgage securities in the portfolio declined. Although we had
entered into short positions on United States treasury notes as part of our
hedging strategy, the value of mortgage securities in general declined more
than that of comparable treasuries during the period. Accordingly, the decline
in value of our mortgage securities was greater than the offsetting gains we
recognized from hedging. This net decline in value increased the effective
leverage, and therefore risk, of our portfolio as the ratio of debt-to-equity
increased. Assets were then sold in order to decrease our debt-to-equity ratio
since asset sales decrease debt but do not decrease equity on a fully marked-
to-market basis. The asset sales resulted in a loss of $6,558,000, which
represented the difference between the sale proceeds and the amortized cost of
the assets sold.
During the third quarter of 2000, we recorded an impairment charge of
$30,077,000, primarily on our fixed-rate mortgage securities, including a
charge for the related deferred hedging losses. The impairment charges
represented an other-than-temporary decline in the fair value, as of September
30, 2000, of investments held that we no longer intended to hold until
maturity. We made the decision not to hold the securities until maturity in
order to take advantage of other opportunities in the marketplace that we
deemed potentially more attractive. Specifically, the value of certain of our
mortgage securities were trading at higher valuations than other mortgage
securities available in the market place with similar risk reward profiles.
Further, the cost basis yield of the existing portfolio, including the impact
of deferred hedging costs prior to the impairment charge, was generally
expected to be below that of funding costs at that time. Accordingly, the
strategy of selling assets with lower cost basis yields in favor of purchasing
assets with current market yields was designed to improve operating earnings in
future periods.
Year Ended December 31, 1999 Compared to 1998
For the year ended December 31, 1999, our net income was $11,112,000, or
$1.93 per share on a basic basis and $1.92 on a diluted basis, based on a
weighted average of 5,753,000 and 5,779,000 shares outstanding, respectively.
These figures compare to $5,547,000, or $0.90 per share on both a basic and
diluted basis, based on a weighted average of 6,190,000 shares outstanding for
the year ended December 31, 1998. Our net interest income for the year ended
December 31, 1999 was $10,172,000, consisting of interest income on mortgage
assets and cash balances, less interest expense on reverse repurchase
agreements, compared to $5,968,000 for the year ended December 31, 1998. We
reported dividend income of $2,387,000 from dividends on equity investments for
the year ended December 31, 1999 compared to $636,000 for the year ended
December 31, 1998. We reported a net gain on investment transactions of
$1,938,000, primarily from the sale of equity securities during the year ended
December 31, 1999. We realized a net gain of $1,047,000, primarily from the
sale of mortgage-backed securities and other investments for the year ending
December 31, 1998. We incurred operating expenses of $3,385,000 for the year
ended December 31, 1999, consisting of incentive fees, management fees, audit,
tax, legal, printing, insurance and other expenses, compared to $2,104,000 for
the year ended December 31, 1998.
25
The following table reflects the average balances for each category of our
interest earning assets as well as our interest bearing liabilities, with the
corresponding effective yield or rate of interest annualized.
For the Year Ended For the Year Ended
December 31, 1999 December 31, 1998
------------------ ------------------
Average Effective Average Effective
Balance Yield Balance Yield
-------- --------- -------- ---------
(dollars in thousands)
Interest earning assets:
Mortgage securities..................... $772,464 6.65% $670,559 6.13%
Other fixed-income assets............... 5,822 14.40% 1,324 14.37%
Cash and cash equivalents............... 6,322 4.76% 13,923 5.10%
-------- ----- -------- -----
Total interest earning assets........... 784,608 6.69% 685,806 6.12%
Interest bearing liabilities:
Reverse repurchase agreements........... 732,960 5.78% 624,865 5.76%
-------- ----- -------- -----
Net interest earning assets and spread... $ 51,648 0.91% $ 60,941 0.36%
======== ===== ======== =====
The effective yield data is computed by dividing the annualized net interest
income or expense, including hedging transactions, into the average daily
balance shown.
The following table reflects the average balances for our equity securities.
For the Year
Ended December For the Year Ended
31, 1999 December 31, 1998
----------------- -------------------
Effective Effective
Average Dividend Average Dividend
Balance Yield Balance Yield
------- --------- -------------------
(dollars in thousands)
Equity securities........................ $18,763 12.73% $ 3,718 17.10%
The effective yield data is computed by dividing the annualized net interest
income or expense into the average daily balance shown.
Financial Condition
Fixed-Income Securities
At June 30, 2001 and December 31, 2000, we held $533,463,000 and
$600,131,000 of fixed-income securities, respectively. The original maturity of
a significant portion of the fixed-income securities ranges from 15 to 30
years. The actual maturity is subject to change based on the prepayments of the
underlying mortgage loans.
26
The following table is a schedule of fixed-income securities held as
available for sale listed by security type.
June 30, 2001 December 31, 2000
------------------------- -------------------------
Percent of Percent of
Total Securities Total Securities
Fixed-Income Securities Carrying Available-for- Carrying Available-for-
Available-for-Sale Value Sale Value Sale
----------------------- -------- ---------------- -------- ----------------
(dollars in thousands)
Mortgage Securities:
Adjustable-rate(1)....... -- 0.00% $ 40,253 6.71%
Fixed-rate............... -- 0.00% 554,216 92.35%
Other fixed-income
securities............... $5,467 100.00% 5,662 0.94%
------ ------ -------- ------
Totals................... $5,467 100.00% $600,131 100.00%
====== ====== ======== ======
The following table is a schedule of fixed-income securities held-for-
trading at June 30, 2001 listed by security type.
June 30, 2001
-------------------------
Percent of
Carrying Total Securities
Fixed-Income Securities Held-for-Trading Value Held-for-Trading
---------------------------------------- -------- ----------------
(dollars in thousands)
Mortgage Securities:
Adjustable-rate...................................... $ 19,359 3.67%
Fixed-rate........................................... 508,637 96.33%
-------- ------
Totals............................................... $527,996 100.00%
======== ======
The following table shows various weighted average characteristics of the
fixed-income securities held as available-for-sale by us at June 30, 2001.
Par as a Weighted
Par Percent of Adjusted Market Current Average
Security Type Amount Category Cost Basis Price Coupon Life(2)
------------- ------- ---------- ---------- ------ ------- --------
(dollars in thousands)
Other fixed-income
securities............. $10,400 100.00% 62.47% 52.57% 14.86% 1.3
The following table shows various weighted average characteristics of the
fixed-income securities held-for-trading by us at June 30, 2001.
Par as a Weighted
Par Percent of Adjusted Market Current Average
Security Type Amount Category Cost Basis Price Coupon Life(2)
------------- -------- ---------- ---------- ------ ------- --------
(dollars in thousands)
20-year agency pass-
throughs............... $214,959 40.54% 97.21% 99.48% 6.50% 4.7
30-year agency pass-
throughs............... 187,047 35.28% 100.24% 99.98% 6.90% 5.1
AAA CMOs................ 109,218 20.60% 95.28% 98.69% 6.68% 4.9
-------- ------ ------ ------ ---- ---
Total fixed-rate
holdings............... $511,224 96.42% 97.91% 99.49% 6.68% 4.9
Adjustable-rate
holdings............... 19,024 3.58% 100.98% 101.76% 7.63% 1.0
-------- ------ ------ ------ ---- ---
Category total.......... $530,248 100.00% 98.02% 99.58% 6.72% 4.8
======== ====== ====== ====== ==== ===
--------
(1) At December 31, 2000, the interest rate indices for 97% and 3% of the
adjustable-rate mortgage securities were based on the one-year United
States treasury rate and the six-month London Inter-Bank Offered Rate,
respectively.
(2) The weighted average life of the fixed-rate mortgage securities is based
upon market prepayment expectations as of the dates shown. The actual
weighted average life could be longer or shorter depending on the actual
prepayment rates experienced over the life of the securities. The weighted
average life shown for the adjustable-rate mortgage assets represents the
average time until the next coupon reset date. All averages are shown in
years.
27
The following table shows various weighted average characteristics of the
fixed-income securities held as available-for-sale by us at December 31, 2000.
Percent of Adjusted Weighted
Par Total Par Cost Market Current Average
Security Type Amount Amount Basis Price Coupon Life(1)
------------- -------- ---------- -------- ------ ------- --------
(dollars in thousands)
15-year agency/AAA pass-
throughs............... $145,251 23.91% 98.00% 99.90% 6.50% 4.5
20-year agency pass-
throughs............... 230,193 37.88% 97.00% 99.30% 6.50% 5.6
30-year agency pass-
throughs............... 54,759 9.01% 99.65% 101.23% 7.41% 5.0
AAA CMOs................ 127,759 21.03% 95.68% 97.92% 6.80% 6.4
-------- ------ ------ ------ ----- ---
Total fixed-rate
holdings............... $557,962 91.83% 97.22% 99.33% 6.80% 5.4
Other fixed-income
securities............. 10,400 1.71% 64.31% 54.44% 15.89% 1.8
Adjustable-rate
holdings............... 39,253 6.46% 102.49% 102.55% 8.00% 0.6
-------- ------ ------ ------ ----- ---
Category total.......... $607,615 100.00% 96.99% 98.77% 6.90% 5.1
======== ====== ====== ====== ===== ===
--------
(1) The weighted average life of the fixed-rate mortgage securities is based
upon market prepayment expectations as of the dates shown. The actual
weighted average life could be longer or shorter depending on the actual
prepayment rates experienced over the life of the securities. The weighted
average life shown for the adjustable-rate mortgage assets represents the
average time until the next coupon reset date. All averages are shown in
years.
Equity Securities
At June 30, 2001 and December 31, 2000 we held $10,240,000 and $9,068,000 of
equity securities as available-for-sale, respectively. Equity securities
consist primarily of investments in equities issued by other real estate
investment trusts.
At June 30, 2001, equity securities consisted of the following.
Shares Held Adjusted Cost Fair Value
----------- ------------- ----------
(in thousands)
Common Stock:
Dynex Capital, Inc. ...................... 75 $ 122 $ 148
------ -------
Total common stock....................... 122 148
------ -------
Convertible Preferred Stock:
Capstead Mortgage Corporation, Series B... 515 4,365 6,118
Dynex Capital, Inc., Series A............. 53 420 578
Dynex Capital, Inc., Series B............. 150 1,167 1,838
Dynex Capital, Inc., Series C............. 108 968 1,558
------ -------
Total convertible preferred stock........ 6,920 10,092
------ -------
Total equity securities.................... $7,042 $10,240
====== =======
28
At December 31, 2000, equity securities consisted of the following.
Shares Held Adjusted Cost Fair Value
----------- ------------- ----------
(in thousands)
Common Stock:
American Residential Investment Trust,
Inc. ................................... 109 $ 611 $ 238
Anworth Mortgage Asset Corporation....... 222 994 900
Dynex Capital, Inc. ..................... 75 122 75
------ ------
Total common stock...................... 1,727 1,213
------ ------
Convertible Preferred Stock:
Capstead Mortgage Corporation, Series B.. 520 4,408 5,492
Dynex Capital, Inc., Series A............ 53 420 427
Dynex Capital, Inc., Series B............ 150 1,167 1,088
Dynex Capital, Inc., Series C............ 108 968 848
------ ------
Total convertible preferred stock....... 6,963 7,855
------ ------
Total equity securities................... $8,690 $9,068
====== ======
Hedging Instruments
We may elect not to enter into hedging activities or, if we do enter into
hedging activities, they may not have the desired beneficial impact on our
results of operations or financial condition. Moreover, no hedging activity can
completely insulate us from the risks associated with changes in interest rates
and prepayment rates.
Hedging involves risk and typically involves costs, including transaction
costs. These costs increase dramatically as the period covered by the hedging
increases and during periods of rising and volatile interest rates. We may
increase our hedging activity, and thus increase our hedging costs during these
periods when interest rates are volatile or rising and hedging costs have
increased. In general, we intend to hedge as much of the interest rate risk as
the management company determines is in the best interest of our stockholders
given the cost of the hedging transactions and our desire to maintain our REIT
status. Our policies do not contain specific requirements as to the percentages
or amount of interest rate risk that the management company is required to
hedge.
At June 30, 2001, we had open forward contracts to sell United States
treasury notes with terms stated below (dollars in thousands).
Fair Average
Current Average Value of Termination Unrealized
Notional Amount Contract Price Contracts Date Gains (Losses)
--------------- -------------- --------- ----------- -------------
$379,900 102.552 $389,594 7/23/2001 ($158)
At December 31, 2000, we had open forward contracts to sell United States
treasury notes with terms stated below (dollars in thousands).
Average
Current Average Fair Value of Termination Unrealized
Notional Amount Contract Price Contracts Date Gains (Losses)
--------------- -------------- ------------- ----------- -------------
$575,000 101.099 $585,048 1/19/2001 ($3,731)
The contracts were entered into to mitigate the negative impact of rising
interest rates on certain fixed-income securities that generally have a market
weighted average duration approximately equal to the contracts shown above.
29
Liabilities
We have entered into reverse repurchase agreements to finance certain of
our mortgage-backed securities. These agreements are secured by a portion of
our mortgage-backed securities and bear interest rates that have historically
moved in close relationship to the London Inter-Bank Offered Rate.
At June 30, 2001, we had outstanding $501,604,000 of reverse repurchase
agreements with a weighted average current borrowing rate of 3.80% and a
maturity of 1.0 month. The reverse repurchase agreements were collateralized
by securities with an estimated fair value of $515,338,000.
At December 31, 2000, we had outstanding $545,434,000 of reverse repurchase
agreements with a weighted average current borrowing rate of 6.61% and a
maturity of 1.1 months. The reverse repurchase agreements were collateralized
by mortgage-backed securities with an estimated fair value of $564,274,000.
We had $3,546,000 and $24,256,000 of other liabilities at June 30, 2001 and
December 31, 2000, respectively, consisting primarily of accrued interest
payable, unrealized loss on forward contracts and payables for unsettled
securities at June 30, 2001 and deferred gain on interest rate swaps, accrued
interest payable and payables for unsettled securities at December 31, 2000.
We anticipate settling all other liabilities within one year.
Other Matters
At June 30, 2001, we held equity securities and senior unsecured notes
issued by Dynex Capital, Inc. with fair market values of $4,122,000 and
$4,000,000, respectively. During the year ended December 31, 1999, Dynex
Capital, Inc. suspended the payment of dividends on its preferred stock.
Accordingly, we are no longer recognizing dividend income on our equity
investments in Dynex Capital, Inc. Dynex Capital, Inc. is currently paying
interest on its senior notes. Accordingly, we are recognizing interest income
on the senior note investments issued by Dynex Capital, Inc. If Dynex Capital,
Inc. were to suspend payment of interest on its senior notes, interest income
recognized by us would be negatively impacted.
Inflation
Virtually all of our assets and liabilities are financial in nature. As a
result, interest rates and other factors drive our performance far more than
does inflation. Changes in interest rates do not necessarily correlate with
inflation rates or changes in inflation rates. Our financial statements are
prepared in accordance with generally accepted accounting principles and our
dividends are determined by our net income as calculated for tax purposes; in
each case, our activities and balance sheet are measured with reference to
historical cost or fair market value without considering inflation.
Quantitative and Qualitative Disclosures About Market Risk
Our two primary components of market risk are interest rate risk and equity
price risk, as discussed below.
Interest Rate Risk
Effect on Net Interest Income. We invest in fixed-rate mortgage assets that
we fund with short-term borrowings. During periods of rising interest rates,
the borrowing costs associated with funding such fixed-rate assets are subject
to increase while the income earned on such assets may remain substantially
unchanged. This results in a narrowing of the net interest spread between the
related assets and borrowings and may even result in losses. We may enter into
derivative transactions to seek to mitigate the negative impact of a rising
interest rate environment. Hedging techniques will be based, in part, on
assumed levels of prepayments of our mortgage assets. If prepayments are
slower or faster than assumed, the life of the mortgage assets will be longer
or shorter, which would reduce the effectiveness of our hedging techniques and
may result in losses on such transactions. Hedging techniques involving the
use of derivative securities are highly complex and may produce volatile
returns. Our hedging activity will also be limited by the asset and sources of
income requirements applicable to us as a REIT.
30
We also invest in adjustable-rate mortgage assets that are typically subject
to periodic and lifetime interest rate caps that limit the amount an
adjustable-rate mortgage asset's interest rate can change during any given
period, as well as the minimum rate payable. Our borrowings will not be subject
to similar restrictions. In a period of increasing interest rates, interest
rates on our borrowings could increase without limitation by caps, while the
interest rates on our mortgage assets are generally limited by caps. This
problem will be magnified to the extent we acquire mortgage assets that are not
fully indexed. Further, some adjustable-rate mortgage assets may be subject to
periodic payment caps that result in some portion of the interest being
deferred and added to the principal outstanding. This could result in us
receiving less cash income on our adjustable-rate mortgage assets than is
required to pay interest on the related borrowings. These factors could lower
our net interest income or cause a net loss during periods of rising interest
rates, which would negatively impact our financial condition, cash flows and
results of operations.
We fund a substantial portion of our acquisitions of adjustable-rate
mortgage assets with borrowings that have interest rates based on indices and
repricing terms similar to, but of somewhat shorter maturities than, the
interest rate indices and repricing terms of the mortgage assets. Thus, in most
cases the interest rate indices and repricing terms of our mortgage assets and
our funding sources will not be identical, thereby creating an interest rate
mismatch between assets and liabilities. While the historical spread between
relevant short-term interest rate indices has been relatively stable, there
have been periods, especially during the 1979-1982 and 1994 interest rate
environments, when the spread between such indices was volatile. During periods
of changing interest rates, this type of interest rate mismatch could
negatively impact our financial condition, cash flows and results of
operations.
Extension Risk. Fixed-rate assets are generally acquired with a projected
weighted average life based on assumptions regarding prepayments. In general,
when a fixed-rate mortgage asset is acquired with borrowings, we may, but we
are not required to, enter into an interest rate swap agreement or other
hedging instrument that effectively fixes our borrowing costs for a period
close to the anticipated average life of the related asset. This strategy is
designed to protect us from rising interest rates because the borrowing costs
are fixed for the duration of the asset. However, if prepayment rates decrease
in a rising interest rate environment, the life of the mortgage asset could
extend beyond the term of the swap agreement or other hedging instrument. This
situation could negatively impact us as borrowing costs would no longer be
fixed after the end of the hedging instrument, while the income earned on the
asset would remain fixed. This situation may also cause the market value of our
mortgage assets to decline with little or no offsetting gain from the related
hedging transactions. In some situations, we may be forced to sell assets and
incur losses to maintain adequate liquidity.
Prepayment Risk. Fixed-rate assets in combination with hedging instruments
are also subject to prepayment risk. In falling interest rate scenarios, the
fixed-rate mortgage assets may prepay faster, shortening the average life in
comparison with the related hedging instrument. If this were to happen, we
would potentially need to reinvest at rates lower than that of the related
hedging instrument. This situation may result in the narrowing of interest rate
spreads or may cause losses.
Prepayment rates generally increase when prevailing interest rates fall
below the interest rates on existing mortgage assets. In addition, prepayment
rates generally increase when the difference between long-term and short-term
interest rates declines. Prepayments of mortgage assets could adversely affect
our results of operations in several ways. A substantial portion of our
adjustable-rate mortgage assets bear initial "teaser" interest rates that are
lower than their "fully indexed" rates, or the applicable index plus a margin.
In the event that this type of adjustable-rate mortgage asset is prepaid prior
to or soon after the time of adjustment to a fully indexed rate, we will have
held the mortgage asset while it was less profitable and lost the opportunity
to receive interest at the fully indexed rate over the expected life of the
adjustable-rate mortgage asset. In addition, the prepayment of any mortgage
asset that we had purchased at a premium would result in the immediate write-
off of any remaining capitalized premium amount and consequent reduction of our
net interest income by that amount. Finally, in the event that we are unable to
acquire new mortgage assets to replace the prepaid mortgage assets, our
financial condition, cash flow and results of operations could be materially
harmed.
Forward Contract Risk. We may also enter into forward contracts to sell
United States treasury notes in addition to or instead of interest rate swap
agreements. These forward contracts are generally expected to
31
mitigate the impact of rising interest rates on the fair value of our fixed-
income securities. However, if the interest rate spread between mortgage
securities and United States treasury notes were to widen, the fair value of
our portfolio would generally be expected to decline. In addition, the use of
forward contracts to sell United States treasury notes generally does not
directly impact borrowing costs in the same manner as interest rate swap
agreements. Therefore, the use of such forward contracts could result in net
income volatility during periods of interest rate volatility.
Effect on Fair Value. Another component of interest rate risk is the effect
changes in interest rates will have on the market value of our assets. This is
the risk that the market value of our assets will increase or decrease at
different rates than that of our liabilities, including our hedging
instruments.
We primarily assess our interest rate risk by estimating the duration of our
assets and the duration of our liabilities, including all hedging instruments.
Duration essentially measures the market price volatility of financial
instruments as interest rates change. We generally calculate duration using
various financial models and empirical data.
The following sensitivity analysis table shows the estimated impact on the
fair value of our interest rate sensitive investments net of our hedging
instruments and reverse repurchase agreement liabilities assuming rates
instantaneously fall 100 basis points and rise 100 basis points.
Fair Value for Scenario
Shown
----------------------------
Interest Interest
Rates Rates
Fall 100 Rise 100
Basis Basis
Points Unchanged Points
-------- --------- --------
(dollars in thousands,
except per share amounts)
Interest rate sensitive instruments.......... $36,064 $31,701 $ 24,778
Change in fair value......................... $ 4,363 -- $ (6,923)
Change as a percent of fair value............ 0.82% -- (1.30%)
Change as a percent of stockholders' equity
as of June 30, 2001......................... 9.69% -- (15.38%)
Change on a per share basis.................. $ 0.76 -- $ (1.20)
It is important to note that the impact of changing interest rates on fair
value can change significantly when interest rates change beyond 100 basis
points from current levels. Therefore, the volatility in fair value for us
could increase significantly when interest rates change beyond 100 basis
points. In addition, there are other factors that impact the fair value of our
interest rate sensitive investments and hedging instruments, including the
shape of the yield curve, market expectations as to future interest rate
changes and other market conditions. Accordingly, there may be differences
between the fair value changes shown above and actual changes in fair value as
interest rates change and those differences may be material.
We have established an interest rate risk management policy that is intended
to mitigate the negative impact of changing interest rates. We generally intend
to mitigate interest rate risk by targeting the difference between the market
weighted average duration on our mortgage-related assets funded with secured
borrowings to the market weighted average duration of such borrowings to one
year or less, taking into account all hedging transactions. We generally do not
intend to have any specific duration target for the portion our mortgage-
related assets that are not funded by secured borrowings.
We may not be able to limit such duration differences and there may be
periods of time when the duration difference will be greater than one year.
Beginning with the quarter ended March 31, 2001, we reclassified our fixed-
income securities that are generally subject to a hedging strategy from the
available-for-sale category to the held-for-trading category of SFAS No. 115.
This change is expected to increase the volatility of net income as both
changes in the fair
32
market value and actual realized gains and losses of the fixed-income
securities and the related hedging instruments will now flow through net income
each reporting period.
Equity Price Risk
Another component of market risk for us is equity price risk, which is the
risk that the market value of our equity investments will decrease. The
following table shows the impact on our fair value as the price of our equity
securities change, assuming price decreases of 10% and increases of 10%. Actual
price decreases or increases may be greater or smaller.
Fair Value for Scenario
Shown
----------------------------
Prices Prices
Decrease Increase
10% Unchanged 10%
-------- --------- --------
(dollars in thousands,
except per share amounts)
Equity investments............................ $ 9,216 $10,240 $11,264
Change in fair value.......................... $(1,024) -- $ 1,024
Change as a percent of fair value............. (10%) -- 10%
Change as a percent of stockholders' equity as
of June 30, 2001 ............................ (2.3%) -- 2.3%
Change on a per share basis................... $ (0.18) -- $ 0.18
Although there is no direct link between changes in fair value and changes
in earnings in many cases, a decline in our fair value may translate into
decreased earnings over the remaining life of our investment portfolio. If the
fair market value of our portfolio were to decline significantly, our overall
liquidity may be impaired, which could result in us being required to sell
assets at losses. Our analysis of risks is based on management's experience,
estimates, models and assumptions. These analyses rely on models of financial
information which utilize estimates of fair value and interest rate
sensitivity. Actual economic conditions or implementation of investment
decisions by the management company may produce results that differ
significantly from the estimates and assumptions used in our models and the
projected results shown in the above tables and in this prospectus. These
analyses contain certain forward-looking statements and are subject to the Safe
Harbor contained in the Private Securities Litigation Reform Act of 1995.
Liquidity and Capital Resources
Our primary sources of funds as of June 30, 2001 and December 31, 2000,
consisted of reverse repurchase agreements totaling $501,604,000 and
$545,434,000, respectively. We expect to continue to borrow funds in the form
of reverse repurchase agreements. At June 30, 2001, we had borrowing
arrangements with over 20 different investment banking firms. Increases in
short-term interest rates could negatively impact the valuation of our mortgage
assets which could limit our borrowing ability or cause our lenders to initiate
margin calls.
We will also rely on the cash flow from operations, primarily monthly
principal and interest payments to be received on the mortgage assets, for
liquidity.
We believe that equity capital, combined with the cash flow from operations
and the utilization of borrowings, will be sufficient to enable us to meet
anticipated liquidity requirements. If our cash resources are at any time
insufficient to satisfy our liquidity requirements, we may be required to
liquidate mortgage assets or sell debt or additional equity securities. If
required, the sale of mortgage assets at prices lower than the carrying value
of such assets would result in losses.
We may in the future increase our capital resources by making additional
offerings of equity and debt securities, including classes of preferred stock,
common stock, commercial paper, medium-term notes, CMOs and senior or
subordinated notes. All debt securities, other borrowings, and classes of
preferred stock will be senior to our common stock in a liquidation of our
company. The effect of additional equity offerings may be the dilution of
stockholders' equity or the reduction of the price of shares of our common
stock, or both. We are unable to estimate the amount, timing or nature of
additional offerings as they will depend upon market conditions and other
factors.
33
OUR COMPANY
Overview
We were incorporated in Maryland on September 15, 1997 and commenced
operations on December 9, 1997. We primarily acquire United States agency and
other highly-rated single-family real estate fixed-rate and adjustable-rate
mortgage-related assets. We use our equity capital and borrowed funds to seek
to generate income based on the difference between the yield on our mortgage-
related assets and the cost of our borrowings. We have elected to be taxed as
a real estate investment trust, or REIT, under the tax code and, thus, we will
not generally be subject to federal taxes on our income to the extent that we
distribute our net income to our stockholders and maintain our qualification
as a REIT. We operate in accordance with our operating policies, which are
approved by our board of directors at least annually.
TCW Investment Management Company manages our day-to-day operations
pursuant to a management agreement and the direction and oversight of our
board of directors. A majority of our board of directors is unaffiliated with
the management company or The TCW Group, Inc., the parent company of the
management company. The management company's key officers and our investment
management team are comprised of selected members of The TCW Group, Inc.'s
mortgage-backed securities group, all of whom have experience in raising
capital for, investing in and managing fixed-income instruments. An external
management structure allows us to take advantage of the existing operational
systems, expertise and economies of scale associated with the management
company's current business operations. We currently have no employees.
Pursuant to the management agreement, the management company is primarily
involved in two activities:
. asset and liability management, including acquisition, financing,
hedging, management and disposition of mortgage-related assets, and
credit and prepayment risk management; and
. capital management, including oversight of our structuring, analysis,
capital raising and investor relations activities.
In conducting these activities, the management company formulates our
operating strategies, arranges for the acquisition of mortgage-related assets
by us, arranges for various types of financing for the acquisition of
mortgage-related assets, monitors the performance of our mortgage-related
assets and provides certain administrative and managerial services in
connection with our operations. The management company is required to manage
our business affairs in conformity with the policies that are approved and
monitored by our board of directors.
The management company receives annual base management compensation equal
to 3/4 of 1% of average net invested capital. The management company is also
entitled to receive incentive compensation for each fiscal year equal to 30%
of our net income in excess of the amount of net income required to produce an
annualized return on equity equal to the ten-year United States treasury rate
plus 1%. The management agreement may be renewed for additional one-year terms
at the discretion of the unaffiliated directors, unless previously terminated
by us or the management company upon written notice. Except in the case of a
termination or non-renewal by us for cause, upon termination or non-renewal of
the management agreement, we must pay the management company a termination or
non-renewal fee, which is equal to the fair market value of the management
agreement without regard to our termination right, as determined by an
independent appraisal.
The management company was established in 1987 as an investment adviser
registered with the Securities and Exchange Commission under the Investment
Advisers Act of 1940. The TCW Group, Inc. was established in 1971 and manages
both domestic and international investments for a range of clients with
diverse objectives. As of June 30, 2001, the TCW group of companies had under
management or committed to management approximately $80 billion, of which
$34.5 billion consisted of United States fixed-income instruments. Of that
$34.5 billion of fixed-income instruments, $22.8 billion consisted of
mortgage-related assets which are managed by the mortgage-backed securities
group of the TCW group of companies. The majority of our executive officers
are senior members of the mortgage-backed securities group.
34
Our executive officers are as follows:
. Philip A. Barach, President and Chief Executive Officer. Mr. Barach is
also a Group Managing Director and Chief Investment Officer of Investment
Grade Fixed Income of The TCW Group, Inc. and the management company, as
well as a member of The TCW Group Inc.'s mortgage-backed securities
group. Before joining The TCW Group, Inc. in 1987, Mr. Barach was
employed by Sun Life Insurance Company, where he was Senior Vice
President and Chief of Investments. Previously, Mr. Barach served as Head
of Fixed Income Investments for the State of California Retirement
System.
. Jeffrey E. Gundlach, Vice Chairman of the Board and Chief Investment
Officer. Mr. Gundlach is also a Group Managing Director of The TCW Group,
Inc. and the management company. Prior to joining The TCW Group, Inc. in
1985, Mr. Gundlach was employed by Transamerica Corporation's
Property/Casualty Insurance division as a Senior Loss Reserve Analyst
responsible for investment discount and funding strategies.
. David S. DeVito, Interim Chief Financial Officer and Controller. Mr.
DeVito was appointed our Interim Chief Financial Officer in August 2001
and has been our Controller since March 1999. Mr. DeVito is also a
Managing Director and Chief Financial Officer of The TCW Group, Inc. and
the management company and certain of its affiliates. Prior to joining
The TCW Group, Inc. in 1993, Mr. DeVito was a Senior Manager with
Deloitte & Touche LLP, specializing in serving the investment management
and securities broker/dealer industries.
. Joseph J. Galligan, Senior Vice President. Mr. Galligan is also a
Managing Director of The TCW Group, Inc. and the management company.
Prior to joining The TCW Group, Inc. in 1991, Mr. Galligan was a Vice
President at Smith Barney in the Mortgage-Backed Specialist Group. Prior
to that time, he spent five years at First Boston as a Vice President in
the same area. In addition, Mr. Galligan spent over three years at
Scudder Stevens & Clark as a Portfolio Manager/Trader.
. Michael E. Cahill, Secretary. Mr. Cahill is also a Managing Director and
General Counsel of the management company, The TCW Group, Inc. and
certain of its affiliates. Prior to joining TCW in 1991, Mr. Cahill was
Senior Vice President and General Counsel of Act III Communications.
Previously, he was in private law practice with O'Melveny & Myers and,
prior to that time, with Shenas, Robbins, Shenas & Shaw in San Diego.
Our Strategy
Our strategy is to use our expertise to acquire various types of mortgage-
related assets, leverage this portfolio of mortgage-related assets to achieve
higher returns on stockholders' equity and finance the purchases in the capital
markets. By implementing this strategy, we expect to earn a net interest margin
which would generate dividend yields that provide a competitive rate of returns
for stockholders.
We intend to acquire investments that we believe will maximize returns on
capital invested after considering: (i) the amount and nature of the
anticipated returns from the investment; (ii) our ability to pledge the
investment to secure collateralized borrowings; and (iii) the costs associated
with financing, hedging, managing, securitizing and reserving for these
investments.
We generally invest primarily in mortgage-related assets that may include
short-term investments, mortgage-backed securities, high-credit quality
mortgage loans, mortgage derivative securities and other investments. Our
purchases of these assets are financed with the net proceeds of our equity
offerings and, to the extent permitted by our leverage policy, we use leverage
to increase potential returns to the holders of our common stock. Our
borrowings are financed primarily through reverse repurchase agreements which
are generally linked to the London Inter-Bank Offered Rate.
In order to manage and mitigate the interest rate risk associated with the
purchase and leverage of our assets, we use various hedging techniques and
instruments. These include interest rate swaps, forward contracts, i.e., short
positions on various United States treasury notes, interest rate caps and
similar financial instruments.
35
In order to reduce the impact of prepayment risk in our portfolio, we intend
to continue to structure a diversified portfolio with a variety of prepayment
characteristics and exercise caution when purchasing mortgages with any
significant market price premium. We may attempt to increase returns to our
stockholders over time by: (i) raising additional capital in order to increase
our ability to invest in additional mortgage-related assets, (ii) lowering our
effective borrowing costs through seeking direct funding from collateralized
lenders, in addition to using Wall Street intermediaries and investigating the
possibility of using collateralized commercial paper and medium-term note
programs, and (iii) improving the efficiency of our balance sheet structure by
investigating the issuance of uncollateralized subordinated debt and other
forms of capital.
We have established the following four primary operating policies to
implement our business strategy of acquiring assets consisting primarily of
United States agency and other highly-rated single-family real estate mortgage
securities and mortgage loans:
. the Investment Policy;
. the Leverage Policy;
. the Interest Rate Risk Management Policy; and
. the REIT Compliance Policy.
Our compliance with these policies is determined at the time of our purchase
of the mortgage-related assets, based on the management company's most recent
valuation of the assets, and is not affected by events subsequent to a
purchase, including changes in characterization, value or rating of any
specific mortgage-related assets or economic conditions or other events
generally affecting any mortgage-related assets of the type that we hold.
Investment Policy
Our investment policy provides guidelines for acquiring investments and
contemplates that we will acquire a portfolio of investments that can be
grouped into specific categories. Each category and our respective investment
limitations are as follows:
50% Category. At least 50% of our total assets are expected to consist of
(i) short-term investments, (ii) mortgage-backed securities that are either
issued or guaranteed by an agency of the federal government, (iii) mortgage-
backed securities that are rated AAA by at least one nationally recognized
rating agency, or (iv) high-credit quality mortgage loans that are funded with
committed secured borrowings.
75% Category. At least 75% of our total assets are expected to consist of
investments that qualify for the 50% Category, or other mortgage-backed
securities that have received an investment grade rating by at least one
nationally recognized rating agency.
90% Category. At least 90% of our total assets are expected to consist of
investments that qualify for the 75% Category, or high-credit quality mortgage
loans that are not funded by committed secured borrowings.
10% Category. Not more than 10% of our total assets are expected to consist
of (i) mortgage-backed securities rated below investment grade, (ii) mortgage
derivative securities, or (iii) other investments.
Leverage Policy
We anticipate using leverage in an attempt to increase returns to our
stockholders. Pursuant to our leverage policy, we seek to strike a balance
between the under-utilization of leverage, which reduces potential returns to
stockholders, and the over-utilization of leverage, which could reduce our
ability to meet our obligations during adverse market conditions. As described
below, we have established a leverage policy to control the type and amount of
leverage used to fund the acquisition of our mortgage-related assets. Our
leverage policy is intended to provide guidelines for using uncommitted and
committed secured borrowings.
36
Uncommitted Secured Borrowings. A substantial portion of our borrowings may
consist of uncommitted secured borrowings, including reverse repurchase
agreements, lines of credit and other financing transactions. A reverse
repurchase agreement is a borrowing device evidenced by an agreement to sell
securities or other mortgage-related assets to a third-party and a simultaneous
agreement to repurchase them at a specified future date and price, the price
difference constituting interest on the borrowing. These funding sources
generally do not commit the lender to continue to provide us with financing. We
intend to limit the amount of uncommitted secured borrowings to 92% of our
total assets, less any assets that are funded with committed secured
borrowings, plus the market value of any related hedging transactions. If the
amount of these borrowings exceeds 92%, the management company will be required
to submit a plan to our board of directors designed to bring the total amount
of uncommitted secured borrowings below the 92% limitation. We expect that in
many circumstances this goal will be achieved over time without active
management through the natural process of mortgage principal repayments and
increases in the market value of our total assets. We anticipate that we will
only enter into repurchase agreements and other financing transactions with
counter-parties rated investment grade by a nationally recognized rating
agency.
Committed Secured Borrowings. Our borrowings may also consist of committed
secured borrowings, including the issuance of collateralized mortgaged
obligations, structured commercial paper programs, secured term notes and other
financing transactions. These funding sources generally commit the lender to
provide financing to us for a specified period of time or for the funding of
specific assets until they mature. We intend to limit the amount of committed
secured borrowings to 97% of the assets funded with these borrowings at the
time we enter into any corresponding transaction.
Interest Rate Risk Management Policy
We have established an interest rate risk management policy designed to
mitigate the negative impact of changing interest rates by targeting the
difference between the market weighted average duration on our mortgage-related
assets funded with secured borrowings and the market weighted average duration
of these borrowings to one year or less, taking into account all hedging
transactions. We generally do not intend to have any specific duration target
for the portion of our mortgage-related assets that are not funded by secured
borrowings. We may not, however, be able to limit these duration differences
and there may be periods of time when the duration difference will be greater
than one year.
We may implement our interest rate risk management policy by using various
hedging transactions, including interest rate swaps, interest rate caps,
interest rate floors, financial futures contracts, options on financial futures
contracts and other structured transactions. We do not intend to enter into
these transactions for speculative purposes.
REIT Compliance Policy
We intend to continue to operate our business in compliance with the REIT
provisions of the tax code. Accordingly, all of the provisions outlined in our
investment, leverage and interest rate risk management policies are subordinate
to the REIT provisions of the tax code if any conflicts arise. To qualify for
tax treatment as a REIT, we must meet specific tests as fully described in
sections 856 and 857 of the tax code. A summary of the requirements for
qualification as a REIT are described below:
Stock Ownership Tests. Our capital stock must be held beneficially by at
least 100 persons and no more than 50% of the value of our capital stock may be
owned, directly or indirectly, by five or fewer individuals at all times during
the last half of the taxable year. Tax-exempt entities, other than private
foundations and some unemployment compensation trusts, are generally not
treated as individuals for these purposes.
Asset Tests. We must generally meet the following asset tests at the close
of each quarter of each taxable year. At least 75% of the value of our total
assets must consist of qualified REIT real estate assets, United States
government securities, cash and cash items. The value of our securities that
are not taken into account
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for purposes of the 75% asset test must not exceed (i) 5% of the value of our
total assets in the case of securities of any one non-government issuer, or
(ii) 10% of the outstanding voting securities of any non-government issuer.
Income Tests. We must generally meet the following gross income tests for
each taxable year. At least 75% of our gross income must be derived from
specified real estate sources, including interest income and gain from the
disposition of qualified REIT real estate assets or qualified temporary
investment income. At least 95% of our gross income for each taxable year must
be derived from sources of income qualifying for the 75% gross income test,
dividends, interest unrelated to real estate and gains from the sale of stock
or other securities, including some interest rate swap and cap agreements
entered into to hedge variable rate debt incurred to acquire qualified REIT
real estate assets, not held for sale in the ordinary course of business.
Dividend Distribution Requirements. We must generally distribute to our
stockholders an amount equal to at least 90% of our taxable income before
deductions of dividends paid and excluding net capital gains. We have until
January 31 following the end of the fiscal year to pay out the dividends to
stockholders and are permitted to offer a special dividend in order to meet the
90% requirement.
Other Policies
We conduct our business in a manner intended to avoid regulation under the
Investment Company Act. We do not currently intend to originate mortgage loans
or offer securities in exchange for real property. We will not purchase any
mortgage-related assets from our affiliates, other than mortgage securities
that may be purchased from any taxable subsidiary that may be formed in
connection with the securitization of mortgage loans.
Our board of directors has established the policies and strategies discussed
above, and has the power to modify or waive these policies and strategies,
subject to approval by a majority of the unaffiliated directors. Our board of
directors establishes and approves our policies and strategies at least
annually, subject to approval by a majority of the unaffiliated directors.
Description of Our Investments
We invest principally in the following types of mortgage-related assets,
subject to the operating restrictions described in our operating policies
above.
Primary Mortgage Securities
Pass-Through Certificates. Pass-through certificates are securities
representing interests in "pools" of mortgage loans secured by residential real
property in which payments of both interest and principal on the securities are
generally made monthly, in effect "passing through" monthly payments made by
the individual borrowers on the mortgage loans which underlie the securities,
net of fees paid to the issuer or guarantor of the securities. Early repayment
of principal on some mortgage-related assets, arising from prepayments of
principal due to sale of the underlying property, refinancing or foreclosure,
net of fees and costs which may be incurred, may expose us to a lower rate of
return upon reinvestment of principal. This is generally referred to as
prepayment risk. Additionally, if a security subject to prepayment has been
purchased at a premium, the value of the premium would be lost in the event of
prepayment. Like other fixed-income securities, when interest rates rise, the
value of a mortgage-related asset generally will decline.
When interest rates are declining, however, the value of mortgage-related
assets with prepayment features may not increase as much as other fixed-income
securities. The rate of prepayments on underlying mortgages will affect the
price and volatility of a mortgage-related asset and may have the effect of
shortening or extending the effective maturity of the security beyond what was
anticipated at the time of purchase. When interest rates rise, our holdings of
mortgage-related assets may experience reduced returns if the owners of the
underlying mortgages pay off their mortgages later than anticipated. This is
generally referred to as extension risk.
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Payment of principal and interest on some mortgage pass-through securities,
although not the market value of the securities themselves, may be guaranteed
by the full faith and credit of the federal government, including the
Governmental National Mortgage Association, or Ginnie Mae, or by agencies or
instrumentalities of the federal government, including Fannie Mae and the
Federal Home Loan Mortgage Corporation, or Freddie Mac. Mortgage-related assets
created by non-governmental issuers, including commercial banks, savings and
loan institutions, private mortgage insurance companies, mortgage bankers and
other secondary market issuers, may be supported by various forms of insurance
or guarantees, including individual loan, title, pool and hazard insurance and
letters of credit, which may be issued by governmental entities, private
insurers or the mortgage poolers.
Collateralized Mortgage Obligations. Collateralized mortgage obligations, or
CMOs, are hybrid mortgage-related instruments. Interest and pre-paid principal
on a CMO are paid, in most cases, on a monthly basis. CMOs may be
collateralized by whole mortgage loans, but are more typically collateralized
by portfolios of mortgage pass-through securities guaranteed by Ginnie Mae,
Freddie Mac or Fannie Mae. CMOs are structured into multiple classes, with each
class bearing a different stated maturity. Monthly payments of principal,
including prepayments, are first returned to investors holding the shortest
maturity class; investors holding the longer maturity classes receive principal
only after the first class has been retired. We will consider CMOs that are
issued or guaranteed by the federal government or by any of its agencies or
instrumentalities to be United States government securities.
Other Mortgage Securities
General. In addition to pass-through certificates and CMOs, we may acquire
other mortgage securities, including non high-quality mortgage-related assets
and other mortgage securities collateralized by single-family mortgage loans,
mortgage warehouse participations, mortgage derivative securities, subordinated
interests and other mortgage-backed and mortgage-collateralized obligations.
Mortgage Derivative Securities. We may acquire mortgage derivative
securities in an amount not to exceed 10% of our total assets. Mortgage
derivative securities provide for the holder to receive interest only,
principal only, or interest and principal in amounts that are disproportionate
to those payable on the underlying mortgage loans. Payments on mortgage
derivative securities are highly sensitive to the rate of prepayments on the
underlying mortgage loans. In the event of faster or slower than anticipated
prepayments on these mortgage loans, the rates of return on interests in
mortgage derivative securities representing the right to receive interest only
or a disproportionately large amount of interest, or interest only derivatives,
would be likely to decline or increase, respectively. Conversely, the rates of
return on mortgage derivative securities representing the right to receive
principal only or a disproportionate amount of principal, or principal only
derivatives, would be likely to increase or decrease in the event of faster or
slower prepayments, respectively.
We may also invest in inverse floaters, a class of CMOs with a coupon rate
that resets in the opposite direction from the market rate of interest to which
it is indexed, including the London Inter-Bank Offered Rate or the 11th
District Cost of Funds Index. Any rise in the index rate, which can be caused
by an increase in interest rates, causes a drop in the coupon rate of an
inverse floater while any drop in the index rate causes an increase in the
coupon of an inverse floater. An inverse floater may behave like a leveraged
security since its interest rate usually varies by a magnitude much greater
than the magnitude of the index rate of interest. The leverage-like
characteristics inherent in inverse floaters are associated with greater
volatility in their market prices.
We may also invest in other mortgage derivative securities that may be
developed in the future.
Subordinated Interests. We may also acquire subordinated interests, which
are classes of mortgage securities that are junior to other classes of the same
series of mortgage securities in the right to receive payments from the
underlying mortgage loans. The subordination may be for all payment failures on
the mortgage loans securing or underlying such series of mortgage securities.
The subordination will not be limited
39
to those resulting from particular types of risks, including those resulting
from war, earthquake or flood, or the bankruptcy of a borrower. The
subordination may be for the entire amount of the series of mortgage securities
or may be limited in amount.
Mortgage Warehouse Participations. We may also occasionally acquire mortgage
warehouse participations as an additional means of diversifying our sources of
income. We anticipate that these investments, together with our investments in
other mortgage-related assets, will not in the aggregate exceed 10% of our
total mortgage-related assets. These investments are participations in lines of
credit to mortgage loan originators that are secured by recently originated
mortgage loans that are in the process of being sold to investors. Because they
do not qualify as qualified REIT real estate assets under the tax code, our
investments in mortgage warehouse participations are limited by the REIT
provisions of the tax code.
Mortgage Loans
General. We may acquire and accumulate mortgage loans as part of our
investment strategy until a sufficient quantity has been accumulated for
securitization into high-quality mortgage securities in order to enhance their
value and liquidity. We anticipate that the mortgage loans that we acquire and
have not yet been securitized, together with our investments in other mortgage-
related assets, will not constitute more than 25% of our total mortgage-related
assets at any time. All mortgage loans will be acquired with the intention of
securitizing them into high-credit quality mortgage securities. Despite our
intentions, however, we may not be successful in securitizing these mortgage
loans. To meet our investment criteria, the mortgage loans to be acquired by us
will generally conform to the underwriting guidelines established by Fannie
Mae, Freddie Mac or other credit insurers. Applicable banking laws generally
require that an appraisal be obtained in connection with the original issuance
of mortgage loans by the lending institution. We do not intend to obtain
additional appraisals at the time of acquiring mortgage loans.
The mortgage loans may be originated by or purchased from various suppliers
of mortgage-related assets throughout the United States, including savings and
loans associations, banks, mortgage bankers and other mortgage lenders. We may
acquire mortgage loans directly from originators and from entities holding
mortgage loans originated by others. Our board of directors has not established
any limits upon the geographic concentration of mortgage loans that we may
acquire or the credit quality of suppliers of the mortgage-related assets that
we acquire.
Conforming and Non-Conforming Mortgage Loans. We may acquire both conforming
and non-conforming loans for securitization. Conforming mortgage loans comply
with the requirements for inclusion in a loan guarantee program sponsored by
Fannie Mae, Freddie Mac or Ginnie Mae. Non-conforming mortgage loans are
mortgage loans that do not qualify in one or more respects for purchase by
Fannie Mae or Freddie Mac under their standard programs. We expect that a
majority of non-conforming mortgage loans that we purchase will be non-
conforming primarily because they have original principal balances which exceed
the requirements for Freddie Mac or Fannie Mae programs.
Commitments to Mortgage Loan Sellers. We may issue commitments to
originators and other sellers of mortgage loans who follow policies and
procedures that generally comply with Fannie Mae and Freddie Mac regulations
and guidelines and that comply with all applicable federal and state laws and
regulations for mortgage loans secured by single-family residential properties.
In addition, commitments may be issued for agency certificates as well as
privately issued pass-through certificates and mortgage loans. Our commitments
will obligate us to purchase mortgage-related assets from the holders of the
commitments for a specific period of time, in a specific aggregate principal
amount and at a specified price and margin over an index. Although we may
commit to acquire mortgage loans prior to funding, all mortgage loans are to be
fully funded prior to our acquisition of them. Following the issuance of
commitments, we will be exposed to risks of interest rate fluctuations similar
to those risks on our adjustable-rate mortgage-related assets.
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Securitization of Mortgage Loans. We may acquire and hold mortgage loans
until a sufficient quantity has been accumulated for securitization. During the
accumulation period, we will be subject to risks of borrower defaults and
bankruptcies, fraud losses and special hazard losses, including those occurring
from earthquakes or floods, that are not covered by standard hazard insurance.
In the event of a default on any of our mortgage loans, we will bear the risk
of loss of the principal to the extent of any deficiency between the value of
the collateral underlying the mortgage loan and the principal amount of the
mortgage loan. Our insurance may not adequately cover our losses. In addition,
during the accumulation period, the costs of financing the mortgage loans
through reverse repurchase agreements and other borrowings and lines of credit
with warehouse lenders could exceed the interest income on the mortgage loans.
Thus, completing the securitization for all our mortgage loans may not be
possible or economical and, thus, we will continue to bear the risks of
borrower defaults and special hazard losses.
Protection Against Mortgage Loan Risks. We anticipate that each mortgage
loan purchased will have a commitment for mortgage pool insurance from a
mortgage insurance company with a claims-paying ability in one of the two
highest rating categories by either of the rating agencies. Mortgage pool
insurance insures the payment of certain portions of the principal and interest
on mortgage loans. In lieu of mortgage pool insurance, we may arrange for other
forms of credit enhancement such as letters of credit, subordination of cash
flows, corporate guaranties, establishment of reserve accounts or over-
collateralization. We generally expect that when we acquire mortgage loans, the
seller will generally represent and warrant to us that there has been no fraud
or misrepresentation during the origination of the mortgage loans and agree to
repurchase any mortgage loans with respect to which there was fraud or
misrepresentation. We also generally expect that we will provide similar
representations and warranties when we sell or pledge the mortgage loans as
collateral for mortgage securities. If a mortgage loan becomes delinquent and
the pool insurer is able to prove that there was fraud or misrepresentation in
connection with the origination of the mortgage loan, the pool insurer will not
be liable for the portion of the loss attributable to such fraud or
misrepresentation. Although we will generally have recourse to the seller based
on the seller's representations and warranties to us, we will generally be at
risk for loss to the extent the seller does not perform its repurchase
obligations.
Other Investments
We may acquire other investments that include (i) equity and debt securities
issued by other primarily mortgage-related finance companies, (ii) interests in
mortgage-related collateralized bond obligations, (iii) other subordinated
interests in pools of mortgage-related assets, (iv) commercial mortgage loans
and securities, and (v) residential mortgage loans other than high-credit
quality mortgage loans. Although we expect that our other investments will be
limited to less than 10% of total assets, we have no limit on how much of our
stockholders' equity will be allocated to other investments. There may be
periods in which other investments represent a large portion of our
stockholders' equity.
Legal Proceedings
From time to time, The TCW Group, Inc. is involved in litigation in
connection with its operations, including litigation involving the operations
of the mortgage-backed securities group. We believe that there are no current
legal proceedings involving The TCW Group, Inc. or the mortgage-backed
securities group that would materially harm the management company's or our
executive officers' ability to manage us. Currently, there are no legal
proceedings against us.
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DESCRIPTION OF SECURITIES
The description of our capital stock set forth below does not purport to be
complete and is qualified in its entirety by reference to our charter, as
amended and restated, and our bylaws, copies of which are exhibits to the
registration statement of which this prospectus is a part.
General
Under our charter, the total number of shares of all classes of stock that
we have authority to issue is 150,000,000 consisting of 100,000,000 shares of
common stock, par value $0.01 per share, and 50,000,000 shares of preferred
stock, par value $0.01 per share. As of June 30, 2001, there were 5,753,000
shares of our common stock and no shares of our preferred stock outstanding.
Our Common Stock
Subject to any preferential rights of any outstanding class of our
preferred stock and to the provisions of our charter regarding the
restrictions on the transfer of stock, the holders of our common stock are
entitled to distributions as our board of directors may declare from time to
time from funds legally available for this purpose and, upon liquidation, are
entitled to receive pro rata all of our assets available for distributions to
holders after payment of or adequate provision for all our known debts and
liabilities. All shares of our common stock issued in connection with this
prospectus will be duly authorized, fully paid and non-assessable, and the
holders of these shares will not have preemptive rights.
Subject to the provisions of our charter regarding the restrictions on
transfer of stock, the holders of our outstanding common stock are entitled to
one vote per share on all matters voted on by our common stockholders,
including elections of directors. Our common stockholders exclusively possess
all voting power, except as otherwise required by law or as provided in any
resolution adopted by our board of directors with respect to any class of our
preferred stock establishing the powers, designations, preferences and
relative, participating, option or other special rights of the series. Our
charter does not provide for cumulative voting in the election of directors.
Our charter provides for a staggered board of directors consisting of three
classes of directors as nearly equal in number as practicable. Each class
holds office until the third annual meeting of stockholders following the
annual meeting of stockholders at which such class of directors was elected.
The provisions relating to the staggered board may be amended only upon the
vote of the holders of at least two-thirds of the capital stock entitled to
vote for the election of directors.
Pursuant to the Maryland General Corporation Law, a Maryland corporation
generally cannot dissolve, amend its charter, merge, sell all or substantially
all of its assets, engage in a share exchange or engage in similar
transactions outside the ordinary course of business unless approved by the
affirmative vote of stockholders holding at least two-thirds of the shares
entitled to vote on the matter unless a lesser percentage, but not less than a
majority of all of the votes entitled to be cast on the matter, is set forth
in the corporation's charter. Our charter does not provide for a lesser
percentage in any of these situations except for charter amendments, which may
be approved by a majority of our stockholders. Most amendments to our charter
require approval by our stockholders by an affirmative vote of a majority of
all votes entitled to be cast.
Investors
The approximate number of record holders of our common stock as of the date
of this prospectus is 64.
Transfer Agent and Registrar
The Bank of New York is the transfer agent and registrar for our common
stock.
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Our Preferred Stock
We may issue shares of our preferred stock from time to time, in one or more
classes, as authorized by our charter and our board of directors. To date, our
board of directors has authorized only one series of preferred stock in
connection with our shareholder rights agreement. Prior to issuance of shares
of each class, our board of directors is required by the Maryland General
Corporation Law and our charter to fix for each class, subject to the
provisions of our charter regarding the restrictions on transfer of stock, the
terms, preferences, conversion or other rights, voting powers, restrictions,
limitations as to dividends or other distributions, qualifications and terms or
conditions of redemption, as are permitted by Maryland law. Our preferred stock
will, when issued, be duly authorized, fully paid and non-assessable. Our board
of directors could authorize the issuance of shares of our preferred stock with
terms and conditions that could have the effect of discouraging a takeover or
other transactions that our common stockholders might believe to be in their
best interests or in which holders of some, or a majority, of the shares of our
common stock might receive a premium for their shares over the then market
price of shares of our common stock. Any preferred stock we issue from time to
time may rank senior to our common stock as to dividends and may rank senior to
our common stock as to distributions in the event of our liquidation,
dissolution or winding up. The ability of our board of directors to issue
preferred stock, while providing flexibility in connection with possible
acquisitions and other corporate purposes, could, among other things, adversely
affect the voting powers of our common stockholders.
Ownership Restrictions
Two of the requirements that must be met in order for us to qualify for the
tax benefits accorded by the REIT provisions of the tax code are that:
. during the last half of each taxable year not more than 50% in value of
the outstanding shares may be owned directly or indirectly by five or
fewer individuals, i.e., the "5/50 Rule"; and
. our shares of stock must be beneficially owned by 100 or more persons for
at least 335 days of each taxable year of 12 months or a proportionately
smaller number of days for a shorter period, also known as the "100
Stockholder Rule."
In order that we may meet these requirements at all times, our charter
prohibits any person from acquiring or holding, directly or indirectly, shares
of our common stock in excess of 9.8% in value or in number of shares,
whichever is more restrictive, of the aggregate of the outstanding shares of
our common stock or in excess of 9.8% in value or in number of shares,
whichever is more restrictive, of the aggregate of the outstanding shares of
our preferred stock.
For purposes of the 5/50 Rule, the constructive ownership provisions
applicable under Section 544 of the tax code attribute ownership of securities
owned by a corporation, partnership, estate or trust proportionately to its
stockholders, partners or beneficiaries, attribute ownership of securities
owned by family members and partners to other members of the same family, treat
securities with respect to which a person has an option to purchase as actually
owned by that person, and set forth application of these attribution provisions
with respect to our common stock that is constructively owned by virtue of such
provisions, i.e., "reattribution." Thus, for purposes of determining whether a
person holds shares of our common stock in violation of the ownership
limitations set forth in our charter, many types of entities may own directly
more than the 9.8% limit because these entities' shares are attributed to their
individual stockholders. On the other hand, a person will be treated as owning
not only shares of common stock actually or beneficially owned, but also any
shares of common stock attributed to the person under the attribution rules
described above. Accordingly, under some circumstances, shares of our common
stock owned by a person who individually owns less than 9.8% of the shares
outstanding may nevertheless be in violation of the ownership limitations set
forth in our charter. Ownership of shares of our common stock through
attribution is generally referred to as constructive ownership. The 100
Stockholder Rule, referred to above, is determined by actual, and not
constructive, ownership.
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Our charter further provides that if any transfer of shares of our common
stock which, if effective, would result in any person beneficially or
constructively owning shares of our common stock in excess or in violation of
the above transfer or ownership limitations, then that number of shares of our
common stock the beneficial or constructive ownership of which otherwise would
cause the person to violate the limitations, rounded to the nearest whole
share, shall be automatically transferred to a trust for the exclusive benefit
of one or more charitable beneficiaries, and the intended transferee shall not
acquire any rights in the shares. Shares of our common stock held by a trustee
shall be issued and outstanding shares of common stock. The intended transferee
shall not benefit economically from ownership of any shares held in trust,
shall have no rights to dividends, and shall not possess any rights to vote or
other rights attributable to the shares held in the trust. The trustee of the
trust shall have all voting rights and rights to dividends or other
distributions with respect to shares held in the trust, which rights shall be
exercised for the exclusive benefit of the charitable beneficiary. Any dividend
or other distribution paid to the intended transferee prior to our discovery
that shares of our common stock have been transferred to the trustee shall be
paid by the recipient of such dividend or distribution to the trustee upon
demand and any dividend or other distribution authorized but unpaid shall be
paid when due to the trustee. Our board of directors may, in its discretion,
waive these requirements on owning shares in excess of the ownership
limitations, so long as the waiver does not cause us to fail to qualify as a
REIT.
Within 20 days of receiving notice from us that shares of our common stock
have been transferred to the trust, the trustee shall sell the shares held in
the trust to a person, designated by the trustee, whose ownership of the shares
will not violate the ownership limitations set forth in the charter. Upon the
sale, the interest of the charitable beneficiary in the shares sold shall
terminate and the trustee shall distribute the net proceeds of the sale to the
intended transferee and to the charitable beneficiary as follows. The intended
transferee shall receive the lesser of:
. the price paid by the intended transferee for the shares or, if the
intended transferee did not give value for the shares in connection with
the event causing the shares to be held in the trust, i.e., in the case
of a gift, devise or other similar transaction, the market price, as
explained further below, of the shares on the day of the event causing
the shares to be held in the trust; and
. the price per share received by the trustee from the sale or other
disposition of the shares held in the trust.
Any net sales proceeds in excess of the amount payable to the intended
transferee shall be immediately paid to the charitable beneficiary. In
addition, shares of our common stock transferred to the trustee shall be deemed
to have been offered for sale to us, or our designee, at a price per share
equal to the lesser of (i) the price per share in the transaction that resulted
in the transfer of the shares to the trust, or, in the case of a devise or
gift, the market price at the time of the devise or gift, and (ii) the market
price on the date we, or our designee, accept the offer. We shall have the
right to accept the offer for a period of 90 days after the later of (x) the
date of the event that resulted in the shares being transferred to the trust,
and (y) the date we determine in good faith that an event has occurred that
resulted in the shares being transferred to the trust if we did not previously
receive notice of such event as required by our charter. Upon the sale to us,
the interest of the charitable beneficiary in the shares sold shall terminate
and the trustee shall distribute the net proceeds of the sale to the intended
transferee.
The term "market price" on any date shall mean, with respect to any class or
series of outstanding shares of our stock, the closing price for the shares on
that date. The "closing price" on any date shall mean the last sale price for
the shares, regular way, or, in case no sale takes place on that day, the
average of the closing bid and asked prices, regular way, for the shares, in
either case as reported in the principal consolidated transaction reporting
system with respect to securities listed or admitted to trading on the American
Stock Exchange or, if the shares are not listed or admitted to trading on the
American Stock Exchange, as reported on the principal consolidated transaction
reporting system with respect to securities listed on the principal national
securities exchange on which the shares are listed or admitted to trading or,
if the shares are not listed or admitted to trading on any national securities
exchange, the last quoted price, or, if not so quoted, the average of the high
bid and low asked prices in the over-the-counter market, as reported by the
National Association of Securities
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Dealers, Inc., Automated Quotation Systems, or, if the system is no longer in
use, the principal other automated quotation system that may then be in use or,
if the shares are not quoted by that organization, the average of the closing
bid and asked prices as furnished by a professional market maker making a
market in the shares selected by our board of directors or, in the event that
no trading price is available for the shares, the fair market value of the
shares, as determined in good faith by our board of directors.
We are required to send stockholder demand letters to some of our
stockholders of record within 30 days of the end of each taxable year. These
stockholder demand letters must be sent to all record owners of:
. 5% or more of our stock, if we have 2,000 or more stockholders of record;
. 1% or more of our stock, if we have more than 200 but less than 2,000
stockholders of record; or
. 0.5% or more of our stock, if we have 200 or fewer stockholders of
record.
In response to the stockholder demand letters, the stockholders of record are
required to provide certain information to us enabling us to determine the
actual (direct and indirect) ownership of our stock. Each direct or indirect
owner shall provide us with additional information as we may reasonably request
in order to determine the effect, if any, of his ownership on our status as a
REIT and to ensure compliance with the ownership limitations.
Our charter's ownership limit will not be automatically removed even if the
REIT provisions of the tax code are changed so as to remove any ownership
concentration limitation. Any change of the ownership limit would require an
amendment to the charter. An amendment requires the affirmative vote of holders
holding at least two-thirds of the outstanding shares entitled to vote on the
matter.
All certificates representing shares of our common or preferred stock will
bear a legend referring to the restrictions described above.
Limitations on Changes in Control
General
The provisions of our charter and bylaws providing for ownership
limitations, a staggered board of directors and the authorization of our board
of directors to issue preferred stock without stockholder approval could have
the effect of delaying, deferring or preventing a change in control of or the
removal of existing management, and as a result could prevent our stockholders
from being paid a premium over the then-prevailing market price for their
shares of our common stock.
Shareholder Rights Agreement
We have adopted a shareholder rights agreement to enable our stockholders to
receive fair and equal treatment in the event of any proposed acquisition of
us, among other things. Our shareholder rights agreement may have the effect of
delaying, deferring or preventing a change in control of and, therefore, could
adversely affect our stockholders' ability to realize a premium over the then-
prevailing market price for our common stock in connection with a change in
control transaction. A fuller description of our shareholder rights agreement
can be found in our Current Report on Form 8-K filed with the SEC on July 27,
1999, which includes the shareholder rights agreement as an exhibit.
In connection with the adoption of the shareholder rights agreement, our
board of directors declared a dividend distribution of one preferred stock
purchase right for each outstanding share of our common stock to stockholders
of record as of the close of business on July 30, 1999. Each preferred stock
purchase right entitles the registered holder of this right to purchase from us
one one-hundredth of a share of our Series A Junior Participating Preferred
Stock, par value $0.01 per share at a cash exercise price of $50.00, subject to
adjustment.
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The preferred stock purchase rights are currently not exercisable and are
attached to and trade with all shares of our common stock outstanding as of,
and issued subsequent to, the July 30, 1999 record date. The preferred stock
purchase rights will separate from our common stock and will become exercisable
upon the earlier of:
. ten business days following a public announcement that a person or group
of affiliated or associated persons, an "acquiring person", has acquired,
or obtained the right to acquire, beneficial ownership of 15% or more of
the outstanding shares of our common stock, other than as a result of
repurchases of stock by us or inadvertent actions by institutional or
other stockholders; or
. ten business days, or a later date as our board of directors shall
determine, following the commencement of a tender offer or exchange offer
that would result in a person or group becoming an "acquiring person," as
described above.
The preferred stock purchase rights will expire at 5:00 P.M. (Eastern
Standard Time) on July 30, 2009, unless we redeem or exchange these rights
before this date.
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MATERIAL CHANGES
The Relationship Among The TCW Group, Inc. and Societe Generale, S.A.
On April 11, 2001, The TCW Group, Inc. and certain of its stockholders and
Societe Generale, S.A., Societe Generale Asset Management, S.A., or SGAM, a
wholly-owned subsidiary of Societe Generale, and certain other parties entered
into an acquisition agreement and plan of reorganization pursuant to which SGAM
agreed to acquire a 70% interest in The TCW Group, Inc. over the next five
years. The first step in the acquisition closed on July 6, 2001 and as a result
of this transaction, Societe Generale controls The TCW Group, Inc. and the
management company.
The acquisition agreement provides, in pertinent part, for SGAM to acquire
the 70% interest in The TCW Group, Inc. with payment in Societe Generale
shares. Under the terms of the acquisition agreement, the transaction will be
completed in two main stages. In the first stage, SGAM acquired on July 6, 2001
a 51% ownership stake in The TCW Group, Inc. SGAM holds a separate class of
common stock of The TCW Group, Inc. that has additional voting rights, giving
SGAM approximately 80% of the total voting rights in The TCW Group, Inc. In the
second stage, between 2003 and 2006, SGAM has the right to acquire, and The
TCW Group, Inc. shareholders have the right to put to SGAM, an additional 19%
of The TCW Group, Inc. shares. The remaining 30% of the shares of The TCW
Group, Inc. will be retained by current shareholders and will be available for
re-circulation to employees for incentive purposes as Societe Generale
repurchases them over time.
Appointment of Interim Chief Financial Officer
On August 22, 2001, we named David S. DeVito as our Interim Chief Financial
Officer. Mr. DeVito replaces Daniel Osborne, who resigned as our Chief
Financial Officer effective September 1, 2001. Mr. DeVito's biographical
information is summarized further in the "Prospectus Summary."
Mr. Osborne, our former Executive Vice President, Chief Operating Officer
and Chief Financial Officer, has executed a consulting services agreement with
us which is effective through December 31, 2001.
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FEDERAL INCOME TAX CONSIDERATIONS
The following discussion summarizes particular United States federal income
tax considerations regarding our qualification and taxation as a REIT and
particular United States federal income tax consequences resulting from the
acquisition, ownership and disposition of our common stock. This discussion is
based on current law and assumes that we have qualified at all times throughout
our existence, and will continue to qualify, as a REIT for United States
federal income tax purposes. The following discussion is not exhaustive of all
possible tax considerations. This summary neither gives a detailed discussion
of any state, local or foreign tax considerations nor discusses all of the
aspects of United States federal income taxation that may be relevant to you in
light of your particular circumstances or to particular types of stockholders,
including insurance companies, tax-exempt entities, financial institutions or
broker-dealers, foreign corporations or partnerships, and persons who are not
citizens or residents of the United States, subject to special treatment under
the United States federal income tax laws. This discussion assumes that you
will hold our common stock as a "capital asset," generally property held for
investment, under the tax code.
You are urged to consult with your own tax advisor regarding the specific
consequences to you of the purchase, ownership and sale of stock in an entity
electing to be taxed as a REIT, including the federal, state, local, foreign
and other tax considerations of such purchase, ownership, sale and election and
the potential changes in applicable tax laws.
General
Our qualification and taxation as a REIT depends upon our ability to
continue to meet the various qualification tests imposed under the tax code and
discussed below relating to our actual annual operating results, asset
diversification, distribution levels and diversity of stock ownership.
Accordingly, the actual results of our operations for any particular taxable
year may not satisfy these requirements. Further, the anticipated income tax
treatment described in this prospectus may be changed, perhaps retroactively,
by legislative, administrative or judicial action at any time.
We have made an election to be taxed as a REIT under the tax code commencing
with our taxable year ended December 31, 1997. We currently expect to continue
operating in a manner that will permit us to maintain our qualification as a
REIT. All qualification requirements for maintaining our REIT status, however,
may not have been or will not continue to be met.
So long as we qualify for taxation as a REIT, we generally will not be
required to pay federal corporate income taxes on our net income that is
currently distributed to our stockholders. This treatment substantially
eliminates the "double taxation" that ordinarily results from investment in a
corporation. Double taxation means taxation once at the corporate level when
income is earned and once again at the stockholder level when this income is
distributed. We will be required to pay federal income tax, however, as
follows:
. we will be required to pay tax at regular corporate rates on any
undistributed "real estate investment trust taxable income," including
undistributed net capital gains;
. we may be required to pay the "alternative minimum tax" on our items of
tax preference;
. if we have (a) net income from the sale or other disposition of
"foreclosure property" which is held primarily for sale to customers in
the ordinary course of business, or (b) other nonqualifying income from
foreclosure property, we will be required to pay tax at the highest
corporate rate on this income. Foreclosure property is generally defined
as property acquired through foreclosure or after a default on a loan
secured by the property or a lease of the property.
We will be required to pay a 100% tax on any net income from prohibited
transactions. Prohibited transactions are, in general, sales or other taxable
dispositions of property, other than foreclosure property, held primarily for
sale to customers in the ordinary course of business. Under existing law,
whether property is held
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as inventory or primarily for sale to customers in the ordinary course of a
trade or business depends on all the facts and circumstances surrounding the
particular transaction.
If we fail to satisfy the 75% gross income test or the 95% gross income
test discussed below, but nonetheless maintain our qualification as a REIT
because certain other requirements are met, we will be subject to a tax equal
to:
. the greater of (i) the amount by which 75% of our gross income exceeds
the amount qualifying under the 75% gross income test described below,
and (ii) the amount by which 90% of our gross income exceeds the amount
qualifying under the 95% gross income test described below, multiplied by
. a fraction intended to reflect our profitability.
We will be required to pay a 4% excise tax on the excess of the required
distribution over the amounts actually distributed if we fail to distribute
during each calendar year at least the sum of:
. 85% of our real estate investment trust ordinary income for the year;
. 95% of our real estate investment trust capital gain net income for the
year; and
. any undistributed taxable income from prior periods.
If we acquire any asset from a corporation which is or has been taxed as a
C corporation under the tax code in a transaction in which the basis of the
asset in our hands is determined by reference to the basis of the asset in the
hands of the C corporation, and we subsequently recognize gain on the
disposition of the asset during the ten-year period beginning on the date on
which we acquired the asset, then we will be required to pay tax at the
highest regular corporate tax rate on this gain to the extent of the excess
of:
. the fair market value of the asset, over
.our adjusted basis in the asset, in each case determined as of the date on
which we acquired the asset.
A C corporation is generally defined as a corporation required to pay full
corporate-level tax. The results described in this paragraph with respect to
the recognition of gain assume that we will make an election under IRS Notice
88-19 or Treasury Regulation Section 1.337(d)-5T.
Requirements for Qualification as a REIT
The tax code defines a REIT as a corporation, trust or association:
. that is managed by one or more trustees or directors;
. that issues transferable shares or transferable certificates to evidence
beneficial ownership;
. that would be taxable as a domestic corporation but for tax code Sections
856 through 860;
. that is not a financial institution or an insurance company within the
meaning of the tax code;
. that is beneficially owned by 100 or more persons;
. not more than 50% in value of the outstanding stock of which is owned,
actually or constructively, by five or fewer individuals, including
specified entities, during the last half of each taxable year; and
. that meets other tests, described below, regarding the nature of its
income and assets and the amount of its distributions.
The tax code provides that all of the first four conditions stated above
must be met during the entire taxable year and that the fifth condition must
be met during at least 335 days of a taxable year of twelve months, or during
a proportionate part of a taxable year of less than twelve months. The fifth
and sixth conditions do not apply until after the first taxable year for which
an election is made to be taxed as a REIT.
49
For purposes of the sixth condition, pension funds and other specified tax-
exempt entities generally are treated as individuals, except that a "look-
through" exception applies with respect to pension funds.
Stock Ownership Tests
Our stock must be beneficially held by at least 100 persons, the "100
Stockholder Rule," and no more than 50% of the value of our stock may be owned,
directly or indirectly, by five or fewer individuals at any time during the
last half of the taxable year, the "5/50 Rule." For purposes of the 100
Stockholder Rule only, most tax-exempt entities, including employee benefit
trusts and charitable trusts, but excluding trusts described in Section 401(a)
of the tax code and exempt under Section 501(a) of the tax code, are generally
treated as individuals for these purposes. These stock ownership requirements
must be satisfied in each taxable year other than the first taxable year for
which an election is made to be taxed as a REIT. We are required to solicit
information from certain of our record stockholders to verify actual stock
ownership levels, and our charter provides for restrictions regarding the
transfer of our stock in order to aid in meeting the stock ownership
requirements. If we were to fail either of the stock ownership tests, we would
generally be disqualified from REIT status, unless, in the case of the 5/50
Rule requirement, the "good faith" exemption under the tax code was available.
Income Tests
We must satisfy two gross income requirements annually to maintain our
qualification as a REIT:
. We must derive directly or indirectly at least 75% of our gross income,
excluding gross income from prohibited transactions, from specified real
estate sources, including rental income, interest on obligations secured
by mortgages on real property or on interests in real property, gain from
the disposition of "qualified real estate assets," i.e., interests in
real property, mortgages secured by real property or interests in real
property, and some other assets, and income from certain types of
temporary investments, the 75% gross income test; and
. We must derive at least 95% of our gross income, excluding gross income
from prohibited transactions, from (a) the sources of income that satisfy
the 75% gross income test, (b) dividends, interest and gain from the sale
or disposition of stock or securities, including some interest rate swap
and cap agreements, options, futures and forward contracts entered into
to hedge variable rate debt incurred to acquire qualified real estate
assets, or (c) any combination of the foregoing.
For purposes of the 75% and 95% gross income tests, a REIT is deemed to have
earned a proportionate share of the income earned by any partnership, or any
limited liability company treated as a partnership for federal income tax
purposes, in which it owns an interest, which share is determined by reference
to its capital interest in such entity, and is deemed to have earned the income
earned by any qualified REIT subsidiary.
Interest earned by a REIT does not qualify as income meeting the 75% or 95%
gross income tests if the determination of all or some of the amount of
interest depends in any way on the income or profits of any person. Interest
will not be disqualified from meeting such tests, however, solely by reason of
being based on a fixed percentage or percentages of receipts or sales.
If we fail to satisfy one or both of the 75% or 95% gross income tests for
any taxable year, we may nevertheless qualify as a REIT for the year if we are
entitled to relief under the tax code. Generally, we may avail ourselves to the
relief provisions if:
. our failure to meet these tests was due to reasonable cause and not due
to willful neglect;
. we attach a schedule of the sources of our income to our federal income
tax return; and
. any incorrect information on the schedule was not due to fraud with
intent to evade tax.
We may not, however, be entitled to the benefit of these relief provisions
in all circumstances. If these relief provisions do not apply to a particular
set of circumstances, we will not qualify as a REIT.
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Asset Tests
At the close of each quarter of our taxable year, we must satisfy four tests
relating to the nature and diversification of its assets:
. at least 75% of the value of our total assets must be represented by
qualified real estate assets, including mortgage loans, cash, cash items
and government securities;
. not more than 25% of our total assets may be represented by securities,
other than those securities included in the 75% asset test;
. of the investments included in the 25% asset class, the value of any one
issuer's securities may not exceed 5% of the value of our total assets,
and we may not own more than 10% by vote or value of any one issuer's
outstanding securities, in each case except with respect to stock of any
"taxable REIT subsidiaries"; and
. the value of the securities we own in any taxable REIT subsidiaries may
not exceed 20% of the value of its total assets.
For these purposes, we will be deemed to own a proportionate share of the
assets of any partnership, or any limited liability company treated as a
partnership for federal income tax purposes, in which we own an interest, which
share is determined by reference to our capital interest in the entity, and
will be deemed to own the assets owned by any qualified REIT subsidiary.
After initially meeting the asset tests at the close of any quarter, we will
not lose our status as a REIT for failure to satisfy the asset tests at the end
of a later quarter solely by reason of changes in asset values. If we fail to
satisfy the asset tests because we acquire securities or other property during
a quarter, we can cure this failure by disposing of sufficient nonqualifying
assets within 30 days after the close of that quarter. For this purpose, an
increase in our interests in any partnership or limited liability company in
which we own an interest will be treated as an acquisition of a portion of the
securities or other property owned by that partnership or limited liability
company.
Annual Distribution Requirements
To maintain our qualification as a REIT, we are required to distribute
dividends, other than capital gain dividends, to our stockholders in an amount
at least equal to the sum of:
. 90% of our "REIT taxable income," and
. 90% of our after tax net income, if any, from foreclosure property, minus
. the excess of the sum of specified items of our noncash income items over
5% of "REIT taxable income," as described below.
Our "REIT taxable income" is computed without regard to the dividends paid
deduction and net capital gain. In addition, for purposes of this test, non-
cash income means income attributable to leveled stepped rents, original issue
discount on purchase money debt, or a like-kind exchange that is later
determined to be taxable. In addition, if we dispose of any asset we acquired
from a corporation which is or has been a C corporation in a transaction in
which our basis in the asset is determined by reference to the basis of the
asset in the hands of that C corporation, we would be required to distribute at
least 90% of the after-tax gain, if any, we recognize on a disposition of the
asset within the ten-year period following our acquisition of such asset, to
the extent that such gain does not exceed the excess of:
. the fair market value of the asset on the date we acquired the asset,
over
. our adjusted basis in the asset on the date we acquired the asset.
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We must make these distributions in the taxable year to which they relate,
or in the following taxable year if they are declared before we timely file our
tax return for that year and paid on or before the first regular dividend
payment following the declaration.
Dividends distributed by us must not be preferential. To avoid being
preferential, every stockholder of the class of stock to which a distribution
is made must be treated the same as every other stockholder of that class, and
no class of stock may be treated other than according to its dividend rights as
a class. To the extent that we do not distribute all of our net capital gain,
or distribute at least 90%, but less than 100%, of our "REIT taxable income,"
as adjusted, we will be required to pay tax on this income at regular ordinary
and capital gain corporate tax rates.
Failure to Qualify as a REIT
If we fail to qualify for taxation as a REIT in any taxable year, and the
relief provisions of the tax code do not apply, we will be required to pay tax,
including any alternative minimum tax, on our taxable income at regular
corporate rates. Distributions to stockholders in any year in which we fail to
qualify as a REIT will not be deductible by us and we will not be required to
distribute any amounts to our stockholders. As a result, we anticipate that our
failure to qualify as a REIT would reduce the cash available for distribution
to our stockholders. In addition, if we fail to qualify as a REIT, all
distributions to stockholders will be taxable at ordinary income rates to the
extent of our current and accumulated earnings and profits. In this event,
corporate distributees may be eligible for the dividends-received deduction.
Unless entitled to relief under specific statutory provisions, we will also be
disqualified from taxation as a REIT for the four taxable years following the
year in which we lose our qualification.
Taxation of Taxable United States Stockholders
Distributions Generally
Distributions out of our current or accumulated earnings and profits, other
than capital gain dividends, will be taxable to United States stockholders as
ordinary income. Provided that we continue to qualify as a REIT, dividends paid
by us will not be eligible for the dividends received deduction generally
available to United States stockholders that are corporations. To the extent
that we make distributions in excess of current and accumulated earnings and
profits, the distributions will be treated as a tax-free return of capital to
each United States stockholder, and will reduce the adjusted tax basis which
each United States stockholder has in our stock by the amount of the
distribution, but not below zero. Distributions in excess of a United States
stockholder's adjusted tax basis in its stock will be taxable as capital gain,
and will be taxable as long-term capital gain if the stock has been held for
more than one year. If we declare a dividend in October, November, or December
of any calendar year which is payable to stockholders of record on a specified
date in that month and actually pay the dividend during January of the
following calendar year, the dividend is deemed to be paid by us and received
by the stockholder on December 31st of the previous year. Stockholders may not
include in their own income tax returns any of our net operating losses or
capital losses.
For purposes of the discussion in this prospectus, the term "United States
stockholder" means a holder of our stock that is, for United States federal
income tax purposes:
. a citizen or resident of the United States;
. a corporation, partnership, or other entity created or organized in or
under the laws of the United States or of any state thereof or in the
District of Columbia, unless Treasury regulations provide otherwise;
. an estate the income of which is subject to United States federal income
taxation regardless of its source; or
. a trust whose administration is subject to the primary supervision of a
United States court and which has one or more United States persons who
have the authority to control all substantial decisions of the trust.
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Capital Gain Distributions
Distributions designated by us as net capital gain dividends will be taxable
to United States stockholders as capital gain income. This capital gain income
will be taxable to non-corporate United States stockholders at a 20% or 25%
rate based on the characteristics of the asset we sold that produced the gain.
United States stockholders that are corporations may be required to treat up to
20% of certain capital gain dividends as ordinary income.
Retention of Net Capital Gains
We may elect to retain, rather than distribute as a capital gain dividend,
our net capital gains. If we were to make this election, we would pay tax on
such retained capital gains. In such a case, our stockholders would generally:
. include their proportionate share of our undistributed net capital gains
in their taxable income;
. receive a credit for their proportionate share of the tax paid by us in
respect of our net capital gain; and
. increase the adjusted basis of their stock by the difference between the
amount of their share of the our net capital gain and their share of the
tax paid by us.
Passive Activity Losses and Investment Interest Limitations
Distributions we make and gains arising from the sale or exchange of our
stock by a United States stockholder will not be treated as passive activity
income. As a result, United States stockholders will not be able to apply any
"passive losses" against income or gains relating to our stock. Distributions
by us, to the extent they do not constitute a return of capital, generally will
be treated as investment income for purposes of computing the investment
interest limitation under the tax code.
Dispositions of Stock
A United States stockholder that sells or disposes of our stock will
recognize gain or loss for federal income tax purposes in an amount equal to
the difference between the amount of cash or the fair market value of any
property the stockholder receives on the sale or other disposition and the
stockholder's adjusted tax basis in the stock. This gain or loss will be
capital gain or loss if the stockholder has held the stock as a capital asset,
and will be long-term capital gain or loss if the stockholder has held the
stock for more than one year. In general, any loss recognized by a United
States stockholder upon the sale or other disposition of our stock that the
stockholder has held for six months or less will be treated as long-term
capital loss to the extent the stockholder received distributions from us which
were required to be treated as long-term capital gains.
Information Reporting and Backup Withholding
We report to our United States stockholders and the IRS the amount of
dividends paid during each calendar year, and the amount of any tax withheld.
Under the backup withholding rules, a stockholder may be subject to backup
withholding at the rate of 31% with respect to dividends paid unless the holder
is a corporation or comes within other exempt categories and, when required,
demonstrates this fact, or provides a taxpayer identification number or social
security number, certifying as to no loss of exemption from backup withholding,
and otherwise complies with applicable requirements of the backup withholding
rules. A United States stockholder that does not provide us with its correct
taxpayer identification number or social security number may also be subject to
penalties imposed by the IRS. A United States stockholder can meet this
requirement by providing us with a properly completed and executed copy of IRS
Form W-9 or a substantially similar form. Backup withholding is not an
additional tax. Any amount paid as backup withholding will be creditable
against the stockholder's income tax liability. In addition, we may be required
to withhold a portion of capital gain distributions to any stockholders who
fail to certify their non-foreign status.
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The Economic Growth and Tax Relief Reconciliation Act of 2001, signed into
law on June 7, 2001, will reduce the backup withholding tax rate from 31% to
30.5% for amounts distributed after August 6, 2001. The backup withholding tax
rate will then be gradually reduced each year until 2006, when the backup-
withholding rate will be 28%.
Taxation of Tax-Exempt Stockholders
The IRS has ruled that amounts distributed as a dividend by a REIT will be
treated as a dividend by the recipient and excluded from the calculation of
UBTI when received by a tax-exempt entity. Based on that ruling, provided that
a tax-exempt stockholder has not held our stock as "debt financed property"
within the meaning of the tax code, i.e., property the acquisition or holding
of which is financed through a borrowing by the tax-exempt United States
stockholder, the stock is not otherwise used in an unrelated trade or business,
and we do not hold a residual interest in a real estate mortgage investment
conduit, REMIC, that gives rise to "excess inclusion" income, as defined in
Section 860E of the tax code, dividend income on our stock and income from the
sale of our stock should not be UBTI to a tax-exempt stockholder. However, if
we were to hold residual interests in a REMIC, or if a pool of its assets were
to be treated as a "taxable mortgage pool," a portion of the dividends paid to
a tax-exempt stockholder may be subject to tax as UBTI. Although we do not
believe that we, or any portion of our assets, will be treated as a taxable
mortgage pool, no assurance can be given that the IRS might not successfully
maintain that such a taxable mortgage pool exists.
For tax-exempt stockholders that are social clubs, voluntary employee
benefit associations, supplemental unemployment benefit trusts, and qualified
group legal services plans exempt from federal income taxation under Sections
501(c)(7), (c)(9), (c)(17) and (c)(20) of the tax code, respectively, income
from an investment in our stock will constitute UBTI unless the organization is
able to properly claim a deduction for amounts set aside or placed in reserve
for certain purposes so as to offset the income generated by its investment in
our stock. Any prospective investors should consult their tax advisors
concerning these "set aside" and reserve requirements.
Notwithstanding the above, however, a portion of the dividends paid by a
"pension-held REIT" may be treated as UBTI as to any pension trust which:
. is described in Section 401(a) of the tax code; and
. holds more than 10%, by value, of the interests in the REIT.
Tax-exempt pension funds that are described in Section 401(a) of the tax
code are referred to below as "qualified trusts."
A REIT is a "pension-held REIT" if:
. it would not have qualified as a REIT but for the fact that Section
856(h)(3) of the tax code provides that stock owned by a qualified trust
shall be treated, for purposes of the 100 Stockholder Rule, described
above, as owned by the beneficiaries of the trust, rather than by the
trust itself; and
. either at least one qualified trust holds more than 25%, by value, of the
interests in the REIT, or one or more qualified trusts, each of which
owns more than 10%, by value, of the interests in the REIT, holds in the
aggregate more than 50%, by value, of the interests in the REIT.
The percentage of any REIT dividend treated as UBTI is equal to the ratio
of:
. the UBTI earned by the REIT, treating the REIT as if it were a qualified
trust and therefore subject to tax on UBTI, to
. the total gross income of the REIT.
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A de minimis exception applies where the percentage is less than 5% for any
year. As a result of the limitations on the transfer and ownership of stock
contained in our charter, we do not expect to be classified as a "pension-held
REIT."
Taxation of Non-United States Stockholders
The rules governing federal income taxation of "non- United States
stockholders" are complex and no attempt will be made herein to provide more
than a summary of these rules. "Non- United States stockholders" mean
beneficial owners of shares of our stock that are not United States
stockholders.
PROSPECTIVE NON-UNITED STATES STOCKHOLDERS SHOULD CONSULT THEIR TAX ADVISORS
TO DETERMINE THE IMPACT OF FOREIGN, FEDERAL, STATE, AND LOCAL INCOME TAX LAWS
WITH REGARD TO AN INVESTMENT IN OUR STOCK AND OF OUR ELECTION TO BE TAXED AS A
REAL ESTATE INVESTMENT TRUST, INCLUDING ANY REPORTING REQUIREMENTS.
Distributions to non-United States stockholders that are not attributable to
gain from our sale or exchange of United States real property interests and
that are not designated by us as capital gain dividends or retained capital
gains will be treated as dividends of ordinary income to the extent that they
are made out of our current or accumulated earnings and profits. These
distributions will generally be subject to a withholding tax equal to 30% of
the distribution unless an applicable tax treaty reduces or eliminates that
tax. However, if income from an investment in our stock is treated as
effectively connected with the non-United States stockholder's conduct of a
United States trade or business, the non-United States stockholder generally
will be subject to federal income tax at graduated rates in the same manner as
United States stockholders are taxed with respect to those distributions, and
also may be subject to the 30% branch profits tax in the case of a non-United
States stockholder that is a corporation. We expect to withhold tax at the rate
of 30% on the gross amount of any distributions made to a non-United States
stockholder unless:
. a lower treaty rate applies and any required form, for example IRS Form
W-8BEN, evidencing eligibility for that reduced rate is filed by the non-
United States stockholder with us; or
. the non-United States stockholder files an IRS Form W-8ECI with us
claiming that the distribution is effectively connected income.
Any portion of the dividends paid to non-United States stockholders that is
treated as excess inclusion income from a REMIC will not be eligible for
exemption from the 30% withholding tax or a reduced treaty rate.
Distributions in excess of our current and accumulated earnings and profits
will not be taxable to non-United States stockholders to the extent that these
distributions do not exceed the adjusted basis of the stockholder's stock, but
rather will reduce the adjusted basis of that stock. To the extent that
distributions in excess of current and accumulated earnings and profits exceed
the adjusted basis of a non-United States stockholder's stock, these
distributions will give rise to tax liability if the non-United States
stockholder would otherwise be subject to tax on any gain from the sale or
disposition of its stock, as described below. Because it generally cannot be
determined at the time a distribution is made whether or not such distribution
may be in excess of current and accumulated earnings and profits, the entire
amount of any distribution normally will be subject to withholding at the same
rate as a dividend. However, amounts so withheld are refundable to the extent
the distribution is subsequently determined to be in excess of our current and
accumulated earnings and profits. We are also required to withhold 10% of any
distribution in excess of our current accumulated earnings and profits if our
stock is not a United States real property interest because we are a
domestically controlled REIT, as discussed below. Consequently, although we
intend to withhold at a rate of 30% on the entire amount of any distribution,
to the extent that we do not do so, any portion of a distribution not subject
to withholding at a rate of 30% may be subject to withholding at a rate of 10%.
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For any year in which we qualify as a REIT, distributions that are
attributable to gain from the sale or exchange of a United States real property
interest, which includes some interests in real property, but generally does
not include mortgage loans or mortgage-backed securities, will be taxed to a
non-United States stockholder under the provisions of the Foreign Investment in
Real Property Tax Act of 1980, or FIRPTA. Under FIRPTA, distributions
attributable to gain from sales of United States real property interests are
taxed to a non-United States stockholder as if that gain were effectively
connected with the stockholder's conduct of a United States trade or business.
Non-United States stockholders thus would be taxed at the normal capital gain
rates applicable to stockholders, subject to applicable alternative minimum tax
and a special alternative minimum tax in the case of nonresident alien
individuals. Distributions subject to FIRPTA also may be subject to the 30%
branch profits tax in the hands of a non-United States corporate stockholder.
We are required to withhold 35% of any distribution that we designate as a
United States real property capital gains dividend. The amount withheld is
creditable against the non-United States stockholder's FIRPTA tax liability.
Gains recognized by a non-United States stockholder upon a sale of our stock
generally will not be taxed under FIRPTA if we are a domestically controlled
REIT, which is a REIT in which at all times during a specified testing period
less than 50% in value of the stock was held directly or indirectly by non-
United States stockholders. Because our stock is publicly traded, we cannot
assure our investors that we are or will remain a domestically controlled REIT.
Alternatively, a non-United States stockholder that owns, actually or
constructively, 5% or less of our stock throughout a specified testing period
will not recognize taxable gain on the sale of our stock under FIRPTA if the
shares are traded on an established securities market.
Gains not subject to FIRPTA will be taxable to a non-United States
stockholder if:
. the non-United States stockholder's investment in the stock is
effectively connected with a trade or business in the United States, in
which case the non-United States stockholder will be subject to the same
treatment as United States stockholders with respect to that gain; or
. the non-United States stockholder is a nonresident alien individual who
was present in the United States for 183 days or more during the taxable
year and other conditions are met, in which case the nonresident alien
individual will be subject to a 20% or 25% tax on the individual's
capital gains.
If gain from the sale of the stock were subject to taxation under FIRPTA,
the non-United States stockholder would be subject to the same treatment as
United States stockholders with respect to that gain, subject to applicable
alternative minimum tax, a special alternative minimum tax in the case of
nonresident alien individuals, and the possible application of the 30% branch
profits tax in the case of non-United States corporations.
State, Local and Foreign Taxation
We may be required to pay state, local and foreign taxes in various state,
local and foreign jurisdictions, including those in which we transact business
or makes investments, and our stockholders may be required to pay state, local
and foreign taxes in various state, local and foreign jurisdictions, including
those in which they reside. Our state, local and foreign tax treatment may not
conform to the federal income tax consequences summarized above. In addition, a
stockholder's state, local and foreign tax treatment may not conform to the
federal income tax consequences summarized above. Consequently, prospective
investors should consult their tax advisors regarding the effect of state,
local and foreign tax laws on an investment in our stock.
56
SELECTED PROVISIONS OF MARYLAND LAW
AND OUR CHARTER AND BYLAWS
The following summary of selected provisions of the Maryland General
Corporation Law, as amended from time to time, and of our charter and bylaws
does not purport to be complete and is subject to and qualified in its entirety
by reference to Maryland law and to our charter and bylaws, copies of which are
filed as exhibits to the registration statement of which this prospectus is a
part.
Removal of Directors
Our charter provides that a director may be removed from office at any time
but only by the affirmative vote of the holders of at least two-thirds of the
votes of the shares entitled to be cast in the election of directors.
Business Combinations
Under the Maryland General Corporation Law, some business combinations,
including a merger, consolidation, share exchange or, in some circumstances, an
asset transfer or issuance or reclassification of equity securities, between:
. a Maryland corporation, and
. (i) any person who beneficially owns 10% or more of the voting power of
the corporation's shares, or (ii) an affiliate of the corporation who, at
any time within the two-year period prior to the date in question, was
the beneficial owner of 10% or more of the voting power of the then
outstanding voting stock of the corporation, also known as an "interested
stockholder," or (iii) an affiliate of an interested stockholder, are
prohibited for five years after the most recent date on which the
interested stockholder becomes an "interested stockholder."
Thereafter, any of these business combinations must be recommended by the
corporation's board of directors and approved by the affirmative vote of at
least:
. 80% of the votes entitled to be cast by holders of outstanding shares of
voting stock of the corporation, voting together as a single voting
group; and
. two-thirds of the votes entitled to be cast by holders of voting stock of
the corporation other than voting stock held by the interested
stockholder with whom, or with whose affiliate, the business combination
is to be effected, unless, among other conditions, the corporation's
common stockholders receive a minimum price, as defined in the Maryland
General Corporation Law, for their shares and the consideration is
received in cash or in the same form as previously paid by the interested
stockholder for its shares.
The Maryland General Corporation Law does not apply, however, to business
combinations that are approved or exempted by the board of directors of the
corporation prior to the time that the interested stockholder becomes an
"interested stockholder."
Our board of directors has adopted a resolution exempting us from the
business combination provisions of the Maryland General Corporation Law. The
resolution is irrevocable and cannot be repealed or modified by our board of
directors at any time in the future.
Control Share Acquisitions
The Maryland General Corporation Law provides that "control shares" of a
Maryland corporation acquired in a "control share acquisition" have no voting
rights except to the extent approved by a vote of two-thirds of the votes
entitled to be cast on the matter, excluding shares of stock owned by the
acquiror, by officers or by directors who are employees of the corporation.
"Control shares" are voting shares of stock which, if
57
aggregated with all other shares of stock previously acquired by the acquiror
or in respect of which the acquiror is able to exercise or direct the exercise
of voting power (except solely by virtue of a revocable proxy), would entitle
the acquiror to exercise voting power in electing directors within one of the
following ranges of voting power:
. one-tenth or more but less than one-third;
. one-third or more but less than a majority; or
. a majority or more of all voting power.
Control shares do not include shares the acquiring person is then entitled to
vote as a result of having previously obtained stockholder approval. A "control
share acquisition" means the acquisition of control shares, subject to some
exceptions.
A person who has made or proposes to make a control share acquisition, upon
satisfaction of specific conditions, including an undertaking to pay expenses,
may compel the board of directors of the corporation to call a special meeting
of stockholders to be held within 50 days of demand to consider the voting
rights of the shares. If no request for a meeting is made, the corporation may
itself present the question at any stockholders meeting.
If voting rights are not approved at the meeting or if the acquiring person
does not deliver an acquiring person statement as required by the statute,
then, subject to specific conditions and limitations, the corporation may
redeem any or all of the control shares, except those for which voting rights
have previously been approved, for fair value determined, without regard to the
absence of voting rights for the control shares, as of the date of the last
control share acquisition by the acquiror or of any meeting of stockholders at
which the voting rights of the shares are considered and not approved. If
voting rights for control shares are approved at a stockholders' meeting and
the acquiror becomes entitled to vote a majority of the shares entitled to
vote, all other stockholders may exercise appraisal rights. The fair value of
the shares as determined for purposes of the appraisal rights may not be less
than the highest price per share paid by the acquiror in the control share
acquisition.
The control share acquisition statute does not apply:
. to shares acquired in a merger, consolidation or share exchange if the
corporation is a party to the transaction; or
. to acquisitions approved or exempted by the charter or bylaws of the
corporation.
Our bylaws contain a provision exempting shares of our common stock from the
control share acquisition statute any and all acquisitions by any person. We
may amend or eliminate this provision at any time in the future.
Interested Party Transactions
Pursuant to our charter and bylaws, we will not enter into any transactions
or agreements with any of our directors, officers or affiliates except as
approved by a majority of our board of directors, including a majority of the
independent directors. We have no restrictions on any of our directors,
officers or affiliates from engaging for their own account in business
activities of the types conducted or to be conducted by us and our affiliates.
Amendments to Our Charter
We reserve the right to make amendments to our charter, including any
amendment which alters the contract rights of any shares of outstanding stock,
as currently provided in our charter. Our charter may be amended only by the
affirmative vote of holders of shares entitled to cast not less than a majority
of all the
58
votes entitled to be cast on the matter. Provisions on removal of directors and
other provisions, however, may be amended only by the affirmative vote of
holders of shares entitled to cast not less than two-thirds of all the votes
entitled to be cast in the election of directors.
Duration and Dissolution
Our charter provides that we shall have a perpetual duration. Our
dissolution must be approved by the affirmative vote of holders of shares
entitled to cast not less than two-thirds of all the votes entitled to be cast
on the matter.
Advance Notice of Director Nominations and New Business
Our bylaws provide that:
. with respect to an annual meeting of our stockholders, nominations of
persons for election to our board of directors and the proposal of
business to be considered by our stockholders may be made only
(i) pursuant to our notice of the meeting, (ii) by our board of
directors, or (iii) by a stockholder who is entitled to vote at the
meeting and has complied with the advance notice procedures set forth in
the bylaws; and
. with respect to special meetings of stockholders, only the business
specified in our notice of meeting may be brought before the meeting of
stockholders and nominations of persons for election to our board of
directors may be made only (i) pursuant to our notice of the meeting,
(ii) by our board of directors, or (iii) provided that our board of
directors has determined that directors shall be elected at the meeting
by holders of shares entitled to cast not less than 50% of the votes
entitled to be cast at such meeting who comply with the advance notice
provisions set forth in the bylaws.
Possible Anti-Takeover Effect of Selected Provisions of Maryland Law and of Our
Charter and Bylaws
The control share acquisition provisions of the Maryland General Corporation
Law, if we decide in the future to rescind our election to be exempt therefrom,
the provisions of our charter on removal of directors and the advance notice
provisions could delay, defer or prevent a change in control of our company or
other transaction that might involve a premium price for holders of our common
stock or otherwise be in their best interest.
Reports to Stockholders
We will furnish our stockholders with annual reports containing audited
financial statements and such other periodic reports as we may determine to
furnish or as may be required by law.
59
UNDERWRITING
Jolson Merchant Partners, Inc. has agreed to act as the underwriter for this
public offering of our common stock. Subject to the terms and conditions
contained in the underwriting agreement, we have agreed to sell to the
underwriter, and the underwriter has agreed to purchase from us, 4,000,000
shares of our common stock. The underwriting agreement provides that the
underwriter's obligation to pay for and accept delivery of our common stock is
subject to approval of various legal matters by its counsel and to other
conditions. The underwriter is obligated to take and pay for all shares of our
common stock offered if any of the shares are taken, other than those covered
by the over-allotment option described below.
The underwriter proposes to offer shares of common stock directly to the
public at the public offering price per share listed on the cover page of this
prospectus and to selected dealers at this price less a concession not in
excess of $ per share, of which $ per share may be reallowed to other
dealers. After this offering, the public offering price, concession and
reallowance to dealers may be reduced by the underwriter. No such reduction
shall change the amount of proceeds to be received by us as listed on the cover
page of this prospectus. The common stock is offered by the underwriter,
subject to receipt and acceptance by it and subject to its right to reject any
order in whole or in part.
Over-Allotment Option
We have granted the underwriter an option, exercisable for 30 days after the
date of this prospectus, to purchase up to 600,000 additional shares of common
stock to cover over-allotments, if any, at the public offering price less the
underwriting discounts and commissions listed on the cover page of this
prospectus. If the underwriter exercises the option to purchase any of the
600,000 additional shares of common stock, it will have a firm commitment,
subject to a number of conditions, to purchase these shares. If purchased,
these additional shares will be sold by the underwriter on the same terms as
those on which the shares offered hereby are being sold. We will be obligated,
pursuant to the over-allotment option, to sell shares to the underwriter to the
extent the over-allotment option is exercised. The underwriter may exercise the
over-allotment option only to cover over-allotments made in connection with the
sale of the shares of common stock offered in this offering.
The following table shows the per share and total underwriting discount we
will allow to the underwriter. The amounts are shown assuming both no exercise
and full exercise of the over-allotment option to purchase 600,000 additional
shares of our common stock, if any.
Total
-------------------------
No Exercise Full Exercise
Per Share of Option of Option
--------- ----------- -------------
Public offering price.................. $ $ $
Underwriting discount and commissions
to be paid by us...................... $ $ $
---- ---- ----
Proceeds, before expenses, to us....... $ $ $
We estimate fees and expenses payable by us in connection with this
offering, other than the underwriting discounts and commissions referred to
above, will be approximately $415,000.
Indemnity
We have agreed to indemnify the underwriter against particular liabilities,
including certain liabilities under the Securities Act, or to contribute to
payments the underwriter may be required to make in respect thereof.
60
Lock-Up Agreements
Each of our officers and directors has agreed with the underwriter, for a
period of 90 days after the date of this prospectus, subject to particular
exceptions, not to sell any shares of our common stock or any securities
convertible into or exchangeable for shares of our common stock owned by them,
without the prior written consent of the underwriter. However, the underwriter
may, in its sole discretion and at any time without notice, release all or any
portion of the securities subject to these agreements.
Listing
Our common stock is quoted on the American Stock Exchange under the symbol
"AXM."
Stabilization
In connection with this offering, the underwriter is permitted to engage in
certain transactions that stabilize the price of our common stock. These
transactions consist of bids or purchases for the purpose of pegging, fixing or
maintaining the price of our common stock. If the underwriter creates a short
position in our common stock in connection with this offering by selling more
than 4,600,000 shares of common stock, it may reduce that short position by
purchasing our common stock in the open market. In general, purchases of a
security for the purpose of stabilization or to reduce a short position could
cause the price of the security to be higher than it might be in the absence of
those purchases. Neither we nor the underwriter make any representation or
prediction as to the direction or magnitude of any effect that the transactions
described above may have on the price of our common stock. In addition, neither
we nor the underwriter make any representation that the underwriter will engage
in those transactions or that those transactions, once commenced, will not be
discontinued without notice.
Other Agreements
Jolson Merchant Partners, Inc. or its affiliates may provide us with
investment banking, financial advisory, or commercial banking services in the
future, for which it may receive customary compensation.
EXPERTS
Our financial statements as of December 31, 2000 and 1999, and for each of
the three years in the period ended December 31, 2000, included in and
incorporated by reference in this prospectus have been audited by Deloitte &
Touche LLP, independent auditors, as stated in their report, which is included
and incorporated by reference herein, and have been so included and
incorporated in reliance upon the report of such firm given upon their
authority as experts in accounting and auditing.
LEGAL MATTERS
The validity of our securities offered in this prospectus and selected
federal tax matters will be passed upon for us by O'Melveny & Myers LLP, San
Francisco, California. Selected legal matters related to Maryland law will be
passed upon for us by Ballard Spahr Andrews & Ingersoll, LLP. Selected legal
matters will be passed upon for the underwriter by Manatt, Phelps & Phillips,
LLP, Los Angeles, California, counsel to the underwriter.
61
WHERE YOU CAN FIND MORE INFORMATION
We are subject to the information requirements of the Securities Exchange
Act of 1934, the Exchange Act, and in accordance with the Exchange Act we file
reports, proxy statements and other information with the SEC. Our reports,
proxy statements and most other information that we file with the SEC may be
inspected and copied at the public reference facilities maintained by the SEC
at Room 1024, Judiciary Plaza, 450 Fifth Street, N.W., Washington, D.C. 20549,
and at the SEC's regional office located at Northwestern Atrium Center,
500 West Madison Street, Suite 1400, Chicago, Illinois 60661-2511. Copies of
this material may be obtained by mail from the Public Reference Section of the
SEC, 450 Fifth Street, N.W., Washington, D.C. 20549 at prescribed rates. The
public may obtain information on the operation of the Public Reference Room by
calling the SEC at 1-800-SEC-0330. The SEC also maintains an Internet site that
contains our reports, proxy statements and other information as well as
documents from other companies that file electronically with the SEC and the
address is http://www.sec.gov.
Our internet address is www.apexreit.com. The information contained on our
website and on any websites linked by our website, however, is not part of this
prospectus and you should not rely on such information in deciding whether to
invest in our company.
Our common stock is traded on the American Stock Exchange under the symbol
"AXM." Our reports and proxy statements are also available for inspection at
the offices of the American Stock Exchange at 86 Trinity Place, New York, New
York 10006-1881.
----------------
INFORMATION INCORPORATED BY REFERENCE
The SEC allows us to "incorporate by reference" the information that we file
with the SEC. This means that we can disclose important information to you by
referring you to those documents. The information incorporated by reference is
considered to be part of this prospectus, except for any information superseded
by information in this prospectus. We have filed with the SEC and hereby
incorporate by reference our Annual Report on Form 10-K for the fiscal year
ended December 31, 2000 and our Quarterly Reports on Form 10-Q for the quarters
ended March 31, 2001 and June 30, 2001.
Any documents we file pursuant to Section 13(a) or 15(d) of the Exchange Act
after the date of this prospectus and prior to the termination of the offering
of the securities to which this prospectus relates will automatically be deemed
to be incorporated by reference in this prospectus and to be a part of this
prospectus from the date of filing those documents. Any statement contained in
this prospectus or in a document incorporated by reference shall be deemed to
be modified or superseded for all purposes to the extent that a statement
contained in those documents modifies or supersedes that statement.
We will provide without charge to each person to whom this prospectus is
delivered, upon written or oral request, a copy of any or all of the documents
referred to above which have been or may be incorporated by reference in this
prospectus. Requests for these documents should be directed to Ms. Racheal
Perry, Apex Mortgage Capital, Inc., 865 South Figueroa Street, 21st floor, Los
Angeles, California 90017, telephone: (213) 244-0561.
You should rely only on the information contained in or incorporated by
reference into this prospectus. Neither we nor the underwriter have authorized
any other person to provide you with different information. If anyone provides
you with different or inconsistent information, you should not rely on it. The
information in this prospectus is current as of the date of this prospectus.
Our business, financial condition, results of operations and prospects may have
changed since the date of this prospectus.
62
APEX MORTGAGE CAPITAL, INC.
INDEX TO FINANCIAL STATEMENTS
Page
----
Audited Financial Statements
Independent Auditors' Report.............................................. F-2
Balance Sheets of the Company as of December 31, 2000 and December 31,
1999..................................................................... F-3
Statements of Operations of the Company for the years ended December 31,
2000, December 31, 1999 and December 31, 1998............................ F-4
Statements of Stockholders' Equity of the Company for the year ended
December 31, 2000........................................................ F-5
Statements of Cash Flows of the Company for the years ended December 31,
2000, December 31, 1999 and December 31, 1998............................ F-6
Notes to Audited Financial Statements of the Company...................... F-7
Unaudited Financial Statements
Balance Sheets of the Company as of June 30, 2001 and December 31, 2000... F-21
Statements of Operations of the Company for the three months ended June
30, 2001 and 2000 and the six months ended June 30, 2001 and 2000........ F-22
Statements of Stockholders' Equity of the Company for the three months
ended March 31 and June 30, 2001......................................... F-23
Statements of Cash Flows of the Company for the three months ended June
30, 2001 and 2000 and the six months ended June 30, 2001 and 2000........ F-24
Notes to Unaudited Financial Statements of the Company.................... F-25
F-1
INDEPENDENT AUDITORS' REPORT
To the Stockholders of
Apex Mortgage Capital, Inc.
We have audited the accompanying balance sheets of Apex Mortgage Capital,
Inc. (the "Company") as of December 31, 2000 and 1999 and the related
statements of operations, stockholders' equity, and cash flows for each of the
three years in the period ended December 31, 2000. These financial statements
are the responsibility of the Company's management. Our responsibility is to
express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
In our opinion such financial statements referred to above present fairly,
in all material respects, the financial position of Apex Mortgage Capital, Inc.
as of December 31, 2000 and 1999 and the results of its operations and its cash
flows for each of the three years in the period ended December 31, 2000, in
conformity with accounting principles generally accepted in the United States
of America.
/s/DELOITTE & TOUCHE LLP
Los Angeles, California
February 9, 2001
F-2
APEX MORTGAGE CAPITAL, INC.
BALANCE SHEETS
December 31, 2000 December 31, 1999
----------------- -----------------
ASSETS
------
Cash and cash equivalents.................. $ 140,000 $ 2,605,000
Fixed income securities available-for-sale,
at fair value (Note 3).................... 600,131,000 701,143,000
Equity securities available-for-sale, at
fair value (Note 3)....................... 9,068,000 17,481,000
Accrued interest receivable................ 3,734,000 6,254,000
Principal payments receivable.............. 288,000 3,537,000
Unrealized gain on forward contracts (Note
11)....................................... -- 3,909,000
Other assets............................... 712,000 816,000
------------ ------------
$614,073,000 $735,745,000
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
Liabilities
Reverse repurchase agreements (Note 5)... $545,434,000 $672,660,000
Payable for unsettled securities......... 14,514,000 --
Accrued interest payable................. 569,000 3,660,000
Dividend payable......................... 2,073,000 2,724,000
Unrealized loss on forward contracts
(Note 11)............................... 3,731,000 --
Deferred gain on interest rate swap
contracts............................... 2,546,000 --
Accrued expenses and other liabilities... 823,000 660,000
------------ ------------
569,690,000 679,704,000
------------ ------------
Commitments and contingencies (Notes 3, 4,
10, and 11)............................... -- --
Stockholders' Equity
Preferred stock, par value $0.01 per
share; 50,000,000 shares authorized; no
shares outstanding...................... -- --
Common stock, par value $0.01 per share;
100,000,000 shares authorized; 6,700,100
shares outstanding (Notes 7 and 9)...... 67,000 67,000
Additional paid-in-capital................. 93,360,000 93,265,000
Accumulated other comprehensive income
(loss).................................... (1,079,000) (26,513,000)
Accumulated dividend distributions in
excess of net income...................... (37,396,000) (209,000)
Treasury stock, at cost (947,100 shares)
(Note 7).................................. (10,569,000) (10,569,000)
------------ ------------
44,383,000 56,041,000
------------ ------------
$614,073,000 $735,745,000
============ ============
See accompanying notes to financial statements
F-3
APEX MORTGAGE CAPITAL, INC.
STATEMENTS OF OPERATIONS
Year Ended December 31,
-------------------------------------
2000 1999 1998
------------ ----------- -----------
Interest Income:
Fixed income securities............... $ 42,618,000 $52,216,000 $41,265,000
Cash and cash equivalents............. 216,000 301,000 710,000
------------ ----------- -----------
42,834,000 52,517,000 41,975,000
Interest Expense........................ 33,779,000 42,345,000 36,007,000
------------ ----------- -----------
Net Interest Income..................... 9,055,000 10,172,000 5,968,000
------------ ----------- -----------
Net Gain (Loss) on Investment
Transactions........................... (36,703,000) 1,938,000 1,047,000
Dividend Income......................... 1,139,000 2,387,000 636,000
General and Administrative Expenses:
Management fee (Note 8)............... 512,000 629,000 644,000
Incentive fee (Note 8)................ -- 1,714,000 619,000
Professional fees..................... 382,000 73,000 75,000
Insurance expense..................... 272,000 267,000 267,000
Directors' fees....................... 76,000 60,000 70,000
Stock option expense (Note 9)......... 95,000 287,000 118,000
Other................................. 397,000 355,000 311,000
------------ ----------- -----------
1,734,000 3,385,000 2,104,000
------------ ----------- -----------
Net Income (Loss)....................... $(28,243,000) $11,112,000 $ 5,547,000
============ =========== ===========
Net Income (Loss) Per Share:
Basic................................. $ (4.91) $ 1.93 $ 0.90
============ =========== ===========
Diluted............................... $ (4.91) $ 1.92 $ 0.90
============ =========== ===========
Weighted Average Number of Shares
Outstanding:
Basic................................. 5,753,000 5,753,000 6,190,000
============ =========== ===========
Diluted............................... 5,753,000 5,779,000 6,190,000
============ =========== ===========
Dividends Declared Per Share............ $ 1.51 $ 1.72 $ 1.07
============ =========== ===========
See accompanying notes to financial statements
F-4
APEX MORTGAGE CAPITAL, INC.
STATEMENTS OF STOCKHOLDERS' EQUITY
Accumulated
Accumulated Dividend
Common Stock Additional Other Distributions Treasury
----------------- Paid-in Comprehensive in Excess of Comprehensive Stock,
Shares Amount Capital Income (Loss) Net Income Income/(Loss) At Cost Total
--------- ------- ----------- ------------- ------------- ------------- ------------ ------------
Balance, January 1,
1998................ 6,700,100 $67,000 $92,860,000 $ 188,000 $ (118,000) $ 92,997,000
Repurchases of common
stock............... -- -- -- -- $(10,569,000) (10,569,000)
Issuance of stock
options to non-
employees (Note 9).. -- -- 118,000 -- 118,000
Net income........... -- -- -- -- 5,547,000 $ 5,547,000 -- 5,547,000
Other comprehensive
income:
Net unrealized gain
on investments
available-for-sale,
net of
reclassification
adjustment (Note
13)................ -- -- -- 6,501,000 6,501,000 -- 6,501,000
------------
Comprehensive
income.............. 12,048,000
============
Dividends declared... -- -- -- -- (6,564,000) -- (6,564,000)
--------- ------- ----------- ------------ ------------ ------------ ------------
Balance, December 31,
1998................ 6,700,100 67,000 92,978,000 6,689,000 (1,135,000) (10,569,000) 88,030,000
Issuance of stock
options to non-
employees (Note 9).. -- -- 287,000 -- -- -- 287,000
Net income........... -- -- -- -- 11,112,000 11,112,000 -- 11,112,000
Other comprehensive
income:
Net unrealized
(loss) on
investments
available-for-sale,
net of
reclassification
adjustment (Note
13)................ -- -- -- (37,111,000) -- (37,111,000) -- (37,111,000)
Unrealized gain on
forward contracts.. -- -- -- 3,909,000 3,909,000 -- 3,909,000
------------
Comprehensive income
(loss).............. -- -- -- -- -- (22,090,000) --
============
Dividends declared... -- -- -- -- (10,186,000) -- (10,186,000)
--------- ------- ----------- ------------ ------------ ------------ ------------
Balance, December 31,
1999................ 6,700,100 67,000 93,265,000 (26,513,000) (209,000) (10,569,000) 56,041,000
Issuance of stock
options to non-
employees (Note 9).. 95,000 95,000
Net loss............. (28,243,000) $(28,243,000) (28,243,000)
Other comprehensive
income:
Net unrealized gain
on investments
available-for-sale,
net of
reclassification
adjustment (Note
13)................ 32,860,000 32,860,000 32,860,000
Unrealized (loss)
and net deferred
losses on forward
contracts, net of
reclassification
adjustment
(Note 13).......... (7,426,000) (7,426,000) (7,426,000)
------------
Comprehensive income
(loss).............. $ (2,809,000)
============
Dividends declared... (8,944,000) (8,944,000)
--------- ------- ----------- ------------ ------------ ------------ ------------
Balance, December 31,
2000................ 6,700,100 $67,000 $93,360,000 $ (1,079,000) $(37,396,000) $(10,569,000) $ 44,383,000
========= ======= =========== ============ ============ ============ ============
See accompanying notes to financial statements
F-5
APEX MORTGAGE CAPITAL, INC.
STATEMENTS OF CASH FLOWS
Year Ended December 31,
---------------------------------------------
2000 1999 1998
------------- ------------- ---------------
Operating Activities:
Net Income (Loss)............. $ (28,243,000) $ 11,112,000 $ 5,547,000
Adjustments to reconcile net
income to net cash provided
by operating activities:
Amortization................ (2,559,000) 668,000 3,533,000
Net (gain) loss on
investment transactions.... 36,703,000 (1,938,000) (1,047,000)
Change in assets and
liabilities:
Accrued interest
receivable................. 2,520,000 (1,103,000) (3,835,000)
Other assets................ 104,000 (239,000) 275,000
Accrued interest payable.... (3,091,000) (2,513,000) 6,063,000
Accrued expenses and other
liabilities................ 163,000 (92,000) (724,000)
------------- ------------- ---------------
Net cash provided by
operating activities..... 5,597,000 5,895,000 9,812,000
------------- ------------- ---------------
Investing Activities:
Purchase of equity
securities................... -- (12,946,000) (19,716,000)
Purchase of fixed income
securities................... (133,930,000) (117,094,000) (1,511,359,000)
Purchase of interest rate
caps......................... -- -- (80,000)
Payments on closed forward
contracts.................... (23,283,000) -- --
Proceeds from sales of equity
securities................... 6,481,000 9,636,000 1,662,000
Proceeds from sales of fixed
income securities............ 193,953,000 40,406,000 594,201,000
Proceeds from closed forward
contracts.................... 6,091,000 -- --
Proceeds from sales of
interest rate caps........... -- 172,000 --
Proceeds from terminating
interest rate swaps.......... 5,554,000 -- --
Principal payments on fixed
income securities............ 73,893,000 168,344,000 270,608,000
------------- ------------- ---------------
Net cash provided by (used
in) investing
activities............... 128,759,000 88,518,000 (664,684,000)
------------- ------------- ---------------
Financing Activities:
Net proceeds from reverse
repurchase agreements........ (127,226,000) (95,248,000) 680,090,000
Dividend distributions........ (9,595,000) (9,239,000) (5,055,000)
Purchase of treasury stock.... -- -- (10,569,000)
------------- ------------- ---------------
Net cash used in financing
activities............... (136,821,000) (104,487,000) 664,466,000
------------- ------------- ---------------
Net Increase (Decrease) in Cash
and Cash Equivalents........... (2,465,000) (10,074,000) 9,594,000
Cash and Cash Equivalents at
Beginning of Period............ 2,605,000 12,679,000 3,085,000
------------- ------------- ---------------
Cash and Cash Equivalents at End
of Period...................... $ 140,000 $ 2,605,000 $ 12,679,000
============= ============= ===============
Supplemental Disclosure of Cash
Flow Information:
Cash paid for interest........ $ 39,711,000 $ 44,970,000 $ 29,944,000
============= ============= ===============
Noncash Investing and Financing
Activities:
Net unrealized loss on
securities available-for-sale
and forward contracts........ $ 25,434,000 $ (33,202,000) $ 6,501,000
============= ============= ===============
Principal payments, not yet
received..................... $ 3,249,000 $ 2,600,000 $ 937,000
============= ============= ===============
Securities purchased, not yet
settled...................... $ 14,514,000 $ 838,000 $ 87,800,000
============= ============= ===============
Dividends declared, not yet
paid......................... $ 2,073,000 $ 2,724,000 $ 1,777,000
============= ============= ===============
See accompanying notes to financial statements
F-6
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS
December 31, 2000
Note 1 -- The Company
Apex Mortgage Capital, Inc. (the "Company") was incorporated in Maryland on
September 15, 1997. The Company commenced its operations of acquiring and
managing a portfolio of mortgage assets on December 9, 1997, upon receipt of
the net proceeds from the initial public offering of the Company's Common
Stock. The Company uses its equity capital and borrowed funds to seek to
generate income based on the difference between the yield on its investments
and the cost of its borrowings. The Company is structured for tax purposes as a
real estate investment trust ("REIT") under the Internal Revenue Code of 1986,
as amended (the "Code").
Note 2 -- Summary of Significant Accounting Policies
Cash and Cash Equivalents
Cash and cash equivalents include cash and highly liquid investments with
original maturities of three months or less. The carrying amount of cash
equivalents approximates their fair value.
Fixed Income Securities
The Company's fixed income securities consist primarily of residential
mortgage securities and other fixed income securities. All fixed income
securities are recorded at cost on the date the assets are purchased. Realized
gains and losses on sales of the securities are determined on an average cost
basis. A majority of the Company's fixed income securities are expected to
qualify as real estate assets under the REIT Provisions of the Code.
Interest income on the Company's mortgage securities is accrued based on the
actual coupon rate and the outstanding principal amount. Premiums and discounts
are amortized into interest income over the lives of the securities using the
effective yield method adjusted for the effects of estimated prepayments.
Interest income on the Company's other fixed income securities is accrued
using the effective interest method applied prospectively based on current
market assumptions. When securities are deemed to be impaired, an impairment
reserve is recorded. Such reserve is accounted for as an adjustment to the cost
of the securities and is accreted into income on the same basis as the original
discount.
The Company's policy is to generally classify its fixed income securities as
available-for-sale. The fixed income securities are reported at fair value with
unrealized gains and losses excluded from earnings and reported in accumulated
other comprehensive income.
Equity Securities
The Company's equity securities consist primarily of equity securities
issued by other real estate investment trusts.
Dividend income on equity securities is recorded on the declaration date.
Realized gains and losses on sales of the securities are determined on an
average cost basis. A majority of the Company's equity securities are expected
to qualify as real estate assets under the REIT Provisions of the Code.
The Company's policy is to generally classify its equity securities as
available-for-sale. Equity securities are reported at fair value with
unrealized gains and losses excluded from earnings and reported in accumulated
other comprehensive income.
F-7
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
December 31, 2000
Interest Rate Hedging Transactions
The Company enters into interest rate swap and interest rate cap agreements
in order to mitigate the impact of rising interest rates on the cost of its
short-term borrowings. Amounts payable or receivable from such agreements are
accounted for on an accrual basis and recognized as a net adjustment to
interest expense. Premiums paid for cap agreements accounted for as hedges are
recorded as other assets and amortized over the lives of such agreements as an
adjustment to interest expense. Realized gains and losses on terminated swaps
accounted for as hedges are recorded as other assets or other liabilities and
amortized over the original lives of the agreements as an adjustment to
interest expense.
The Company also enters into forward contracts to sell U.S. Treasury notes
in order to mitigate the negative impact of rising interest rates on the fair
value of its fixed income securities available-for-sale. Unrealized gains and
losses on open forwards are shown as assets and liabilities, respectively, and
as accumulated other comprehensive income in the balance sheets. Realized gains
and losses on terminated forwards are recorded as deferred gains and losses and
included in accumulated other comprehensive income in the balance sheets, and
are amortized over the remaining lives of the fixed income securities being
hedged as an adjustment to income in the statements of operations.
Stock Based Compensation
The Company grants stock options to its directors and officers and to
certain directors, officers and employees of its investment manager and the
investment manager itself, as discussed in Note 9. Options granted to directors
of the Company are accounted for using the intrinsic value method, and
generally no compensation expense is recognized in the statements of operations
for such options. Other options are accounted for using the fair value method;
such options are measured at their fair value when they are granted and are
recognized as a general and administrative expense during the periods when the
options vest and the related services are performed.
Federal and State Income Taxes
The Company has elected to be taxed as a REIT and generally is not subject
to federal and state taxes on its income to the extent it distributes annually
95% of its predistribution taxable income to stockholders and meets certain
other asset, income and stock ownership tests. As such, no accrual for income
taxes has been included in the financial statements.
Net Income Per Share
Basic net income per share is calculated on the basis of the weighted
average number of common shares outstanding during each period. Diluted net
income per share includes the additional dilutive effect of Common Stock
equivalents and outstanding stock options, and is calculated using the treasury
stock method.
Stock options that could potentially dilute net income per share in the
future were not included in the computation of diluted net income per share in
2000 and 1998 because they would have been antidilutive for the period
presented.
Income Recognition
Income and expenses are recorded on the accrual basis of accounting.
F-8
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
December 31, 2000
Credit Risk
The Company has limited its exposure to credit losses on its portfolio of
fixed income securities by purchasing securities that are either rated "AAA" by
at least one nationally recognized rating agency or are issued by the Federal
Home Loan Mortgage Corporation ("FHLMC"), Fannie Mae (formerly known as the
Federal National Mortgage Corporation) or the Government National Mortgage
Association ("GNMA"). The payment of principal and interest on the FHLMC,
Fannie Mae and GNMA securities are guaranteed by those respective agencies. In
addition, the Company has the ability to purchase up to 10% of the portfolio in
below investment grade securities.
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts
of assets and liabilities at the date of the financial statements and the
reported amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates.
Recently Issued Accounting Standards
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
Accounting for Derivative Instruments and Hedging Activities. The Statement and
subsequent amendments establish accounting and reporting standards requiring
that every derivative instrument (including certain derivative instruments
embedded in other contracts) be recorded in the balance sheet as either an
asset or liability measured at its fair value. The Statement requires that
changes in the derivative's fair value be recognized currently in earnings
unless specific hedge accounting criteria are met. Special accounting for
qualifying hedges allows a derivative's gains and losses to offset related
results on the hedged item in the income statement, and requires that a company
must formally document, designate, and assess the effectiveness of transactions
that receive hedge accounting. SFAS No. 133, as amended, is effective for the
Company's fiscal year beginning January 1, 2001.
The Company has reviewed its financial instruments to identify those to
which SFAS No. 133 and related amendments apply. Management believes that the
only instruments for which the accounting will be affected by SFAS No. 133 are
the forward contracts used to hedge fixed income securities. The transition
adjustment that will be recorded on January 1, 2001 will result in the
reclassification of $2,173,000 net losses of unrealized and deferred gains and
losses on investment securities and forward contracts from accumulated other
comprehensive income to current income. Also, deferred gains on interest rate
swaps previously designated as hedges will be reclassified from other
liabilities to accumulated other comprehensive income.
In conjunction with the adoption of SFAS No. 133 on January 1, 2001, the
Company will reclassify $594,469,000 of its mortgage securities from the
available-for-sale category to the trading category for investments accounted
for under SFAS No. 115. This change will result in the reclassification of
$1,742,000 net unrealized gains from accumulated other comprehensive income to
current income, in addition to net unrealized gains included in the SFAS No.
133 transition adjustment discussed above.
During the year ended December 31, 1999, the Company wrote off $64,000 of
unamortized organization costs in accordance with the adoption of SOP 98-5,
Reporting on the Cost of Start-Up Activities.
F-9
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
December 31, 2000
Note 3 -- Fixed Income and Equity Securities
At December 31, 2000, fixed income securities consisted of the following:
Adjustable Fixed Rate Other Fixed
Rate Mortgage Mortgage Income
Securities Securities Securities Total
------------- ---------- ----------- --------
(in thousands)
Principal Amount............ $39,253 $557,962 $10,400 $607,615
Unamortized Premium
(Discount)................. 978 (2,154) (3,712) (4,888)
Impairment Reserve.......... -- (13,375) (13,375)
------- -------- ------- --------
Adjusted Cost............... 40,231 542,433 6,688 589,352
Unrealized Gains............ 46 11,783 -- 11,829
Unrealized Losses........... (24) -- (1,026) (1,050)
------- -------- ------- --------
Fair Value.................. $40,253 $554,216 $ 5,662 $600,131
======= ======== ======= ========
At December 31, 1999, fixed income securities consisted of the following:
Adjustable Fixed Rate Other Fixed
Rate Mortgage Mortgage Income
Securities Securities Securities Total
------------- ---------- ----------- --------
(in thousands)
Principal Amount............ $31,923 $688,162 $10,400 $730,485
Unamortized Premium
(Discount)................. 553 1,823 (3,185) (809)
------- -------- ------- --------
Amortized Cost.............. 32,476 689,985 7,215 729,676
Unrealized Gains............ 33 -- -- 33
Unrealized Losses........... (253) (27,637) (676) (28,566)
------- -------- ------- --------
Fair Value.................. $32,256 $662,348 $ 6,539 $701,143
======= ======== ======= ========
The contractual final maturity of the mortgage loans supporting the mortgage
securities is generally between 15 and 30 years at origination. Because of
prepayments on the underlying mortgage loans, the actual weighted-average
maturity is expected to be less.
A portion of the other fixed income securities generally have an original
maturity of five years subject to certain acceleration provisions. The expected
average remaining maturity at December 31, 2000 and 1999 was approximately 2.0
and 3.0 years, respectively. The remaining portion has a fixed remaining
maturity of approximately 1.5 years as of December 31, 2000.
A portion of the adjustable rate mortgage securities are typically subject
to periodic and lifetime caps that limit the amount an adjustable rate
mortgage-backed security's interest rate can change during any given period and
over the life of the asset. At December 31, 2000, the portion of adjustable
rate mortgage securities that were subject to periodic and lifetime caps had an
average periodic cap equal to 2.0% per annum and an average lifetime cap equal
to 11.3%. At December 31, 1999, the average periodic cap on the adjustable rate
mortgage assets was 2.0% per annum and the average lifetime cap was equal to
11.3%.
During the year ended December 31, 2000 the Company realized $741,000 and
$6,536,000 in gains and losses, respectively, on the sale of $97,440,000 and
$96,513,000 of fixed income securities, respectively, which were classified as
available-for-sale. During the year ended December 31, 1999 the Company
realized $219,000 and $25,000 in gains and losses, respectively, on the sale of
$5,684,000 and $34,722,000 of fixed income
F-10
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
December 31, 2000
securities, respectively, which were classified as available-for-sale. During
the year ended December 31, 1998 the Company realized $972,000 in gains on the
sale of $594,201,000 of fixed income securities which were classified as
available-for-sale.
During the year ended December 31, 2000, the Company recorded an impairment
reserve of $18,284,000 on its fixed-rate mortgage securities, which is included
in net loss on investment transactions in the statements of operations. The
impairment reserve represents an other-than-temporary decline in the fair
value, as of September 30, 2000, of investments held that the Company no longer
intends to hold until maturity. A portion of these investments were sold in the
fourth quarter of 2000. The Company could also incur additional losses (or
recapture losses already recognized) depending on the actual proceeds of future
investment sales or if further impairment charges are required.
The net deferred loss and unrealized loss of $7,345,000 and $1,079,000,
respectively, on forward contracts were reclassified from other comprehensive
income into net loss on investment transactions in the statement of operations
during the year ended December 31, 2000 as part of the impairment charge
recorded on the underlying assets being hedged.
At December 31, 2000 and 1999, equity securities consisted of the
following:
December 31, December 31,
2000 1999
------------ ------------
(in thousands)
Cost............................................... $13,016 $19,370
Unrealized Gains................................... 1,091 789
Unrealized Losses.................................. (713) (2,678)
Impairment Reserve................................. (4,326) --
------- -------
Fair Value......................................... $ 9,068 $17,481
======= =======
During the year ended December 31, 2000 the Company realized $348,000 and
$222,000 in gains and losses, respectively, on the sale of $3,419,000 and
$3,062,000 of equity securities, respectively, which were classified as
available-for-sale. During the year ended December 31, 1999 the Company
realized $1,916,000 and $10,000 in gains and losses, respectively, on the sale
of $9,495,000 and $141,000 of equity securities, respectively, which were
classified as available-for-sale. During the year ended December 31, 1998, the
Company realized $303,000 in gains on the sale of $1,662,000 of equity
securities, which were classified as available-for-sale.
At December 31, 2000, the Company held equity securities and senior
unsecured notes issued by Dynex Capital, Inc. ("Dynex") with fair market values
of $2,437,000 and $3,750,000, respectively. During the year ended December 31,
1999, Dynex suspended the payment of dividends on its preferred stock.
Accordingly, the Company is no longer recognizing dividend income on its equity
investments in Dynex. Dynex is currently paying interest on its senior notes.
Accordingly, the Company is recognizing interest income on the senior note
investments issued by Dynex. If Dynex were to suspend payment of interest on
its senior notes, interest income recognized by the Company would be negatively
impacted.
During the year ended December 31, 2000, the Company recorded an impairment
reserve of $3,368,000 on its Dynex preferred stock holdings which is included
in net loss on investment transactions in the statement of operations. The
Company could also incur additional losses if the remaining Dynex investments
are sold or written down further.
F-11
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
December 31, 2000
During the year ended December 31, 2000, the Company recorded an impairment
reserve on its Dynex Common Stock holdings of $958,000 which is included in net
loss on investment transactions in the statement of operations. The Company
could also incur additional losses if the remaining Dynex investments are sold
or written down further.
Note 4 -- Interest Rate Cap Agreements and Treasury Put Options
Interest rate cap agreements include the carrying value of interest rate
caps purchased by the Company to mitigate the impact of rising interest rates
on the cost of its short-term borrowings. As discussed in Note 10, the Company
has entered into certain interest rate swap transactions. The execution of
these swaps eliminated the need for the cap protection previously purchased.
Accordingly, the interest rate cap agreements no longer qualified for hedge
accounting and were written down to zero during the year ended December 31,
1998. During the year ended December 31, 1999, the interest rate caps were
sold, resulting in a realized gain of $172,000, which is included in net gain
on investment transactions in the 1999 statement of operations.
There were no outstanding interest rate cap agreements as of December 31,
2000 and 1999.
Under these agreements, the Company received cash payments to the extent of
the excess of the three-month London Interbank Offered Rate ("LIBOR") over the
agreements' contract rate times the notional amount.
During the year ended December 31, 1999, the Company purchased put options
on ten-year U.S. Treasury futures contracts with a notional amount of
$50,000,000. The options did not qualify for hedge accounting under SFAS No. 80
and were therefore accounted for as trading securities under SFAS No. 115. The
options expired during 1999, which resulted in a realized loss of $334,000,
which is included in net gain on investment transactions in the 1999 statement
of operations.
Note 5 -- Reverse Repurchase Agreements
The Company has entered into reverse repurchase agreements to finance
certain of its investments. These agreements are secured by a portion of the
Company's investments and bear interest rates that have historically moved in
close relationship to LIBOR.
At December 31, 2000, the Company had outstanding $545,434,000 of reverse
repurchase agreements with a weighted average current borrowing rate of 6.61%
and a maturity of 1.1 months. The reverse repurchase agreements were
collateralized by securities with an estimated fair value of $564,274,000.
At December 31, 1999, the Company had outstanding $672,660,000 of reverse
repurchase agreements with a weighted average current borrowing rate of 5.98%
and a maturity of 2.0 months. The reverse repurchase agreements were
collateralized by securities with an estimated fair value of $689,396,000.
For the year ended December 31, 2000, the average reverse repurchase
agreement balance was $576,190,000 with a weighted average interest cost of
6.33%. The maximum reverse repurchase agreement balance outstanding during the
year ended December 31, 2000 was $672,660,000.
For the year ended December 31, 1999, the average reverse repurchase
agreement balance was $732,960,000 with a weighted average interest cost of
5.28%. The maximum reverse repurchase agreement balance outstanding during the
year ended December 31, 1999 was $812,019,000.
F-12
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
December 31, 2000
Note 6 -- Fair Value of Financial Instruments
The following table presents the amortized cost and estimated fair values of
the Company's financial instruments. SFAS No. 107, Disclosures About Fair Value
of Financial Instruments, defines the fair value of a financial instrument as
the amount at which the instrument could be exchanged in a current transaction
between willing parties, other than in a forced or liquidation sale:
At December 31, At December 31,
2000 1999
----------------- -----------------
Adjusted Fair Adjusted Fair
Cost Value Cost Value
-------- -------- -------- --------
(dollars in thousands)
Mortgage related securities............ $582,664 $594,469 $722,461 $694,604
Equity securities...................... 8,690 9,068 19,360 17,481
Other fixed income securities.......... 6,688 5,662 7,215 6,539
Interest rate swaps.................... -- -- -- 3,815
Forward contracts...................... -- (3,731) -- 3,909
Adjusted cost in the table above includes the net effect of unamortized
impairment reserves.
The Company bases its fair value estimates for mortgage related securities,
equity securities, other fixed income securities, interest rate swaps, and
forward contracts primarily on third party price indications provided by
dealers who make markets in these financial instruments when such indications
are available. However, the fair value reported reflects estimates and may not
necessarily be indicative of the amounts the Company could realize in a current
market exchange. Cash and cash equivalents, interest receivable and reverse
repurchase agreements are reflected in the financial statements at their costs,
which approximates their fair value because of the short-term nature of these
instruments.
Note 7 -- Stock Repurchase Program
The Company's Board of Directors has authorized a program to repurchase
shares of the Company's Common Stock. At December 31, 2000 and 1999, the
Company was authorized to repurchase an additional 552,900 shares of the
Company's Common Stock pursuant to the repurchase program.
At December 31, 2000 and 1999, the Company held 947,100 shares of treasury
stock repurchased in 1998. During the years ended December 31, 2000 and 1999,
the Company did not repurchase any treasury shares.
Note 8 -- Transactions with Affiliates
The Company has entered into a Management Agreement (the "Management
Agreement"), as amended, with TCW Investment Management Company (the
"Manager"), a wholly owned subsidiary of The TCW Group, Inc., under which the
Manager will manage its day-to-day operations, subject to the direction and
oversight of the Company's Board of Directors. The Company will pay the Manager
annual base management compensation, payable monthly in arrears, equal to 3/4
of 1% of the average net invested capital as further defined in the Management
Agreement.
The Company recorded expense of $512,000, $629,000, and $644,000 in base
management compensation to the Manager during the years ended December 31,
2000, 1999 and 1998, respectively.
The accrued liability for base management compensation was $85,000 and
$157,000 at December 31, 2000 and 1999, respectively.
F-13
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
December 31, 2000
The Company also pays the Manager, as incentive compensation, an amount
equal to 30% of the Net Income of the Company, before incentive compensation,
in excess of the amount that would produce an annualized return on equity equal
to the ten-year US Treasury rate plus 1% as further defined in the Management
Agreement.
The Company recorded expense of $1,714,000 and $619,000 for incentive
compensation to the Manager for the years ended December 31, 1999 and 1998,
respectively. No incentive compensation was incurred for the year ended
December 31, 2000.
There was no accrued liability for incentive compensation at December 31,
2000. The accrued liability for incentive compensation was $216,000 at December
31, 1999.
The Company may also grant stock options to directors, officers and key
employees of the Company, the Manager, its directors, officers and key
employees (see Note 9).
The Management Agreement may be renewed each year at the discretion of the
Company's Board of Directors, unless previously terminated by the Company or
the Manager upon written notice. Except in the case of a termination or non-
renewal by the Company for cause, upon termination or non-renewal of the
Management Agreement by the Company, the Company is obligated to pay the
Manager a termination or non-renewal fee, which may be significant. The
termination or non-renewal fee shall be equal to the fair market value of the
Management Agreement without regard to the Company's termination right, as
determined by an independent appraisal. Neither the fair market value of the
Management Agreement nor the various factors that an appraiser may find
relevant in its determination of the fair market value can be determined at
this time. The fair market value of the Management Agreement will be affected
by significant variables, including (i) the historical management fees paid to
the Manager, (ii) any projections of future management fees to be paid to the
Manager determined by the independent appraiser, (iii) the relative valuations
of agreements similar to the Management Agreement and (iv) other factors, all
of which may be unrelated to the performance of the Manager. Similar management
agreements have been valued at as much as eight times the historical annual
fees paid under such agreements. Any termination or non-renewal fee paid may be
materially greater than eight times historical fees and the Company can provide
no assurance at this time as to the amount of any such fee.
The Company's other fixed income investments include securities that are
issued by special purpose companies that invest primarily in mortgage-related
assets. The Manager serves as the investment manager to these companies and is
paid fees in connection with such services. The Company does not anticipate
paying any management fees directly to the Manager in connection with these
investments.
Note 9 -- Stock Options
The Company has adopted a stock option plan (the "Amended and Restated 1997
Stock Option Plan") that provides for the grant of both qualified incentive
stock options that meet the requirements of Section 422 of the Code, and non-
qualified stock options, stock appreciation rights and dividend equivalent
rights. Stock options may be granted to directors of the Company ("employees"),
and to the Manager and the directors, officers and key employees of the Manager
("non-employees").
The exercise price for any stock option granted under the Amended and
Restated 1997 Stock Option Plan may not be less than 100% of the fair market
value of the shares of Common Stock at the time the option is granted. Each
option must terminate no more than ten years from the date it is granted.
Subject to anti-dilution provisions for stock splits, stock dividends and
similar events, the Amended and Restated 1997 Stock Option Plan authorizes the
grant of options to purchase an aggregate of 1,000,000 shares of Common Stock.
F-14
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
December 31, 2000
The Company recognized stock option expense relating to the options granted
to the non-employees of $95,000, $287,000 and $118,000 during the years ended
December 31, 2000, 1999 and 1998, respectively.
For stock options outstanding at December 31, 2000, the range of exercise
prices is $6.98 to $15.00 per share and the weighted-average remaining
contractual life is 8.19 years.
For the year ended December 31, 2000, options to purchase 183,000 shares of
the Company's Common Stock were granted to directors of the Company and options
to purchase 125,000 shares were granted to officers of the Company and officers
and key employees of the Manager. The exercise price of the options granted
during 2000 was $6.98 per share. None of the options granted during 2000
include dividend equivalent rights.
The fair value of each option granted during 2000 was estimated to be $0.04
as of the grant date using the Black-Scholes option pricing model with the
following assumptions: dividend yield of 20% per annum; expected volatility of
30%; risk free interest rate of 5.22% per annum; and an expected life of 10
years.
The options granted during 2000 expire in December 2010 and vested in two
equal installments during the month of December in 2001 and 2002.
For the year ended December 31, 1998, options to purchase 112,000 shares of
the Company's Common Stock were granted to directors of the Company and options
to purchase 58,000 shares were granted to officers of the Company and officers
and key employees of the Manager. The exercise price of the options granted
during 1998 was $10.38 per share. All of the options granted during 1998
include dividend equivalent rights that entitle the option holder to receive a
cash payment equal to the dividends declared on the Company's Common Stock
multiplied by the number of options held until the options are exercised or
expire.
The fair value of each option granted during 1998 was estimated to be $5.32
as of the grant date using the Black-Scholes option pricing model with the
following assumptions: dividend yield of 0% per annum (to account for the
dividend equivalent rights); expected volatility of 30%; risk free interest
rate of 4.57% per annum; and an expected life of 10 years.
The options granted during 1998 expire in December 2008 and vested in two
equal installments during the month of December in 1999 and 2000.
For the year ended December 31, 1997, options to purchase 210,000 shares of
the Company's Common Stock were granted to directors of the Company and options
to purchase 190,000 shares were granted to officers of the Company and officers
and key employees of the Manager. The exercise price of the options granted
during 1997 was $15 per share.
The fair value of each option granted during 1997 was estimated to be $1.05
as of the grant date using the Black-Scholes option pricing model with the
following assumptions: dividend yield of 11% per annum; expected volatility of
30%; risk free interest rate of 5.82% per annum; and an expected life of 10
years.
The options granted during 1997 expire in December 2007 and vest in three
equal installments during the month of February in 1999, 2000 and 2001.
F-15
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
December 31, 2000
If the Company had recorded stock option grants to Company directors at fair
value and related compensation expense, the pro forma effect on the Company's
net income and earnings per share would have been as follows:
Year Ended Year Ended Year Ended
December 31, December December 31,
2000 31, 1999 1998
------------ ----------- ------------
Net (loss) income -- as reported.... ($28,243,000) $11,112,000 $5,547,000
Net (loss) income -- pro forma...... ($28,409,000) 10,611,000 5,411,000
Basic earnings per share -- as
reported........................... ($4.91) $1.93 $0.90
Diluted earnings per share -- as
reported........................... ($4.91) $1.92 $0.90
Basic earnings per share -- pro
forma.............................. ($4.94) $1.84 $0.87
Diluted earnings per share -- pro
forma.............................. ($4.94) $1.84 $0.87
Information regarding stock option activity during the years ended December
31, 2000, 1999, and 1998 is as follows:
Weighted
Average
Shares Exercise Price
------- --------------
Options Outstanding at January 1, 1998............... 400,000 $15.00
Options Granted During 1998.......................... 170,000 10.38
Exercised............................................ -- --
Expired.............................................. -- --
-------
Options Outstanding at December 31, 1998 and 1999.... 570,000 13.62
Options Granted During 2000.......................... 308,000 6.98
Exercised............................................ -- --
Expired.............................................. -- --
------- ------
Options Outstanding at December 31, 2000............. 878,000 $11.29
======= ======
Note 10 -- Contractual Commitments
There were no interest rate swap agreements at December 31, 2000.
During the year ended December 31, 1999 the Company entered into interest
rate swap agreements as summarized below. Under these agreements, the Company
received a floating rate and paid a fixed rate.
December 31, 1999:
Current Average Unrealized
Notional Amount Average Floating Termination Gains
(000) Fixed Rate Rate Date (000)
--------------- ---------- -------- ----------- ----------
$400,129 5.869% 1Mo LIBOR 8/9/2001 $3,815
The Company received $334,000 from the swap counter-parties during the year
ended December 31, 2000, which is netted against interest expense in the
statements of operations. The Company paid $3,614,000 and $414,000 to the swap
counter-parties during the years ended December 31, 1999 and 1998,
respectively, which is included in interest expense in the statements of
operations.
F-16
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
December 31, 2000
During the year ended December 31, 2000, the Company terminated all
outstanding interest rate swap agreements with a combined notional amount of
$386,213,000 which resulted in a deferred gain of $5,554,000 that is being
amortized over the remaining life of the original swap agreements. The deferred
gain is included in other liabilities on the balance sheet and the amortization
expense is included in interest expense in the statements of operations. During
the year ended December 31, 2000, $3,008,000 of the deferred gain was
amortized. Approximately 92% of the deferred gain will be amortized by August
31, 2001. The remaining deferred gain will be fully amortized by May 31, 2002.
During the year ended December 31, 1999, the Company terminated interest
rate swap agreements with a combined notional amount of $255,530,000 which
resulted in a net deferred loss of $66,000 that is being amortized over the
remaining life of the original swap agreements. The net deferred loss is
included in other assets on the balance sheet and the amortization expense is
included in interest expense on the statements of operations. During years
ended December 31, 2000 and 1999, $23,000 and $42,000 of the net deferred loss
was amortized, respectively.
The Company is generally required to deposit collateral with the swap
agreement counter-parties in an amount at least equal to the amount of any
unrealized losses. At December 31, 1999 the Company had securities with a fair
market value of $2,592,000 on deposit with its counter-parties. At December 31,
1999 the Company received fixed income securities with a fair market value of
$1,600,000 as a deposit from a swap agreement counter-party.
Note 11 -- Forward Contracts
At December 31, 2000, the Company had open forward contracts to sell U.S.
Treasury notes with terms stated below.
Current Average Net Unrealized
Notional Amount Termination Losses Average Maturity of
(000) Date (000) Underlying Securities
--------------- ----------- -------------- ---------------------
$575,000 1/19/2001 $(3,731) 2.99 Years
At December 31, 1999, the Company had open forward contracts to sell U.S.
Treasury notes with terms stated below.
Current Average Unrealized
Notional Amount Termination Gains Average Maturity of
(000) Date (000) Underlying Securities
--------------- ----------- ---------- ---------------------
$335,000 2/12/2000 $3,909 3.36 Years
During the year ended December 31, 2000, forward contracts to sell U.S.
Treasury notes with a notional amount of $5,670,000,000 were closed resulting
in a net deferred loss of $16,860,000. $8,425,000 of the deferred loss incurred
was reclassified from other comprehensive income into net loss on investment
transactions in the statement of operations during the year ended December 31,
2000 as part an impairment charge recorded on the underlying assets being
hedged. The Company anticipates reclassifying the remaining deferred and
unrealized losses from other comprehensive income into a net loss line item in
the statement of operations on January 1, 2001 in connection with the adoption
of Statement of Financial Accounting Standards ("SFAS") No. 133.
During the year ended December 31, 1999, two forward contracts to sell U.S.
Treasury notes with a notional amount of $135,000,000 and $100,000,000 were
closed resulting in a deferred loss of $390,000 and
F-17
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
December 31, 2000
deferred gain of $51,000, respectively. The deferred loss and gain are being
amortized as an adjustment to interest income over the remaining weighted
average lives of the fixed income securities being hedged, which was 4.8 years
at December 31, 1999.
The contracts were entered into to mitigate the negative impact of rising
interest rates on fixed income securities available-for-sale that generally
have a market-weighted average duration approximately equal to the contracts
shown above.
Note 12 -- Adoption of Shareholder Rights Plan
On June 30, 1999, the Board of Directors of Apex Mortgage Capital, Inc. (the
"Company") declared a dividend distribution of one Right for each outstanding
share of Company Common Stock to stockholders of record at the close of
business on July 30, 1999 (the "Record Date"). Each Right entitles the
registered holder to purchase from the Company one one-hundredth of a share of
Series A Junior Participating Preferred Stock, par value $0.01 per share (the
"Preferred Stock"), at a Purchase Price of $50, subject to adjustment. The
description and terms of the Rights are set forth in a Shareholder Rights
Agreement (the "Rights Agreement") between the Company and The Bank of New
York, as Rights Agent.
Initially, the Rights will be attached to all Common Stock certificates
representing shares then outstanding, and no separate Rights Certificates will
be distributed. Subject to certain exceptions specified in the Rights
Agreement, the Rights will separate from the Common Stock and a Distribution
Date will occur upon the earlier of (i) 10 business days following a public
announcement that a person or group of affiliated or associated persons (an
"Acquiring Person") has acquired, or obtained the right to acquire, beneficial
ownership of 15% or more of the outstanding shares of Common Stock (the "Stock
Acquisition Date"), other than as a result of repurchases of stock by the
Company or certain inadvertent actions by institutional or certain other
stockholders or (ii) 10 business days (or such later date as the Board shall
determine) following the commencement of a tender offer or exchange offer that
would result in a person or group becoming an Acquiring Person. Until the
Distribution Date, (i) the Rights will be evidenced by the Common Stock
certificates and will be transferred with and only with such Common Stock
certificates, (ii) new Common Stock certificates issued after the Record Date
will contain a notation incorporating the Rights Agreement by reference and
(iii) the surrender for transfer of any certificates for Common Stock
outstanding will also constitute the transfer of the Rights associated with the
Common Stock represented by such certificate. Pursuant to the Rights Agreement,
the Company reserves the right to require that, prior to the occurrence of a
triggering event, upon any exercise of Rights, a number of Rights be exercised
so that only whole shares of Preferred Stock will be issued.
The Rights are not exercisable until the Distribution Date and will expire
on July 30, 2009, unless earlier redeemed or exchanged by the Company.
F-18
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
December 31, 2000
Note 13 -- Reclassification Adjustments of Comprehensive Income
The following is a presentation of the reclassification amounts to
comprehensive income for the years ended December 31, 2000, 1999 and 1998:
For the Year For the Year For the Year
Ended Ended Ended
December 31, December 31, December 31,
2000 1999 1998
------------ ------------ ------------
Unrealized gains (losses) arising
during the year..................... $ 1,315,000 $(36,212,000) $6,689,000
Less: reclassification of net losses
to impairment reserve............... 22,610,000 -- --
Less: reclassification adjustment for
net losses (gains) resulting from
asset sales......................... 8,935,000 (899,000) (188,000)
------------ ------------ ----------
Net unrealized gains (losses) on
investments available-for-sale...... $ 32,860,000 $(37,111,000) $6,501,000
============ ============ ==========
Net deferred (losses) from forward
contracts closed during the year.... $(16,860,000) $ -- $ --
Less: reclassification of net
deferred and unrealized losses to
impairment reserve.................. 8,424,000 -- --
Less: reclassification adjustment for
net losses included in net income... 346,000 -- --
Less: reclassification adjustment for
net losses resulting from asset
sales............................... 664,000 -- --
------------ ------------ ----------
Net unrealized (loss) and deferred
losses on forward contracts......... $ (7,426,000) $ -- $ --
============ ============ ==========
F-19
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
December 31, 2000
Note 14 -- Summarized Quarterly Results (Unaudited)
The following is a presentation of the quarterly results of operations
(amounts are in thousands except per share amounts):
Year Ended December 31, 2000
-----------------------------------
Fourth Third Second First
Quarter Quarter Quarter Quarter
------- -------- ------- -------
Interest Income.......................... $10,224 $ 9,580 $10,893 $12,137
Interest Expense......................... 7,901 7,600 8,590 9,688
------- -------- ------- -------
Net Interest Income..................... 2,323 1,980 2,303 2,449
------- -------- ------- -------
Net Gain (Loss) on Investment
Transactions............................ 741 (29,912) (7,532) --
Dividend Income.......................... 230 185 354 370
General and Administrative Expenses...... (290) (680) (241) (523)
------- -------- ------- -------
Net (Loss) Income....................... $ 3,004 $(28,427) $(5,116) $ 2,296
======= ======== ======= =======
Basic EPS................................ $ 0.52 $ (4.94) $ (0.89) $ 0.40
======= ======== ======= =======
Diluted EPS.............................. $ 0.52 $ (4.94) $ (0.89) $ 0.40
======= ======== ======= =======
Average Number of Shares Outstanding --
Basic (net of treasury shares)......... 5,753 5,753 5,753 5,753
======= ======== ======= =======
Average Number of Shares Outstanding --
Diluted (net of treasury shares)....... 5,753 5,753 5,753 5,753
======= ======== ======= =======
Dividend Declared Per Share.............. $0.35 $0.35 $0.35 $0.46
======= ======== ======= =======
Year Ended December 31, 1999
----------------------------------
Fourth Third Second First
Quarter Quarter Quarter Quarter
------- ------- ------- -------
Interest Income............................ $12,375 $13,124 $13,081 $13,937
Interest Expense........................... 10,093 10,231 10,760 11,261
------- ------- ------- -------
Net Interest Income....................... 2,282 2,893 2,321 2,676
------- ------- ------- -------
Net Gain on Investment Transactions........ 225 437 662 614
Dividend Income............................ 489 503 684 711
General and Administrative Expenses........ (665) (868) (813) (1,039)
------- ------- ------- -------
Net Income................................ $ 2,331 $ 2,965 $ 2,854 $ 2,962
======= ======= ======= =======
Basic EPS.................................. $0.41 $0.52 $0.50 $0.51
======= ======= ======= =======
Diluted EPS................................ $0.40 $0.51 $0.49 $0.51
======= ======= ======= =======
Average Number of Shares Outstanding --
Basic
(net of treasury shares).................. 5,753 5,753 5,753 5,753
======= ======= ======= =======
Average Number of Shares Outstanding --
Diluted
(net of treasury shares) ................. 5,771 5,784 5,787 5,773
Dividend Declared Per Share................ $0.46 $0.46 $0.42 $0.38
======= ======= ======= =======
F-20
APEX MORTGAGE CAPITAL, INC.
BALANCE SHEETS
(Unaudited)
June 30, December 31,
2001 2000
------------ ------------
ASSETS
------
Cash and cash equivalents.......................... $ 2,357,000 $ 140,000
Fixed income trading securities, at fair value
(Note 3).......................................... 527,996,000 --
Fixed income securities available-for-sale, at fair
value (Note 3).................................... 5,467,000 600,131,000
Equity securities available-for-sale, at fair value
(Note 3).......................................... 10,240,000 9,068,000
Accrued interest receivable........................ 3,409,000 3,734,000
Principal payments receivable...................... -- 288,000
Other assets....................................... 693,000 712,000
------------ ------------
$550,162,000 $614,073,000
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
Liabilities
Reverse repurchase agreements (Note 4)........... $501,604,000 $545,434,000
Payable for unsettled securities................. -- 14,514,000
Accrued interest payable......................... 572,000 569,000
Dividend payable................................. 2,446,000 2,073,000
Unrealized loss on forward contracts, at fair
value (Note 10)................................. 158,000 3,731,000
Deferred gain on interest rate swap contracts.... -- 2,546,000
Accrued expenses and other liabilities........... 370,000 823,000
------------ ------------
505,150,000 569,690,000
------------ ------------
Commitments and contingencies (Notes 3, 4, 9 and
10)............................................... -- --
Stockholders' Equity
Preferred stock, par value $0.01 per share;
50,000,000 shares authorized; no shares
outstanding..................................... -- --
Common stock, par value $0.01 per share;
100,000,000 shares authorized; 5,753,000 shares
outstanding (Notes 6 and 8)..................... 58,000 58,000
Additional paid-in-capital....................... 82,802,000 82,800,000
Accumulated other comprehensive income (loss).... 2,617,000 (1,079,000)
Retained deficit................................. (40,465,000) (37,396,000)
------------ ------------
45,012,000 44,383,000
------------ ------------
$550,162,000 $614,073,000
============ ============
See accompanying notes to financial statements.
F-21
APEX MORTGAGE CAPITAL, INC.
STATEMENT OF OPERATIONS
(Unaudited)
Three Months Three Months
Ended Ended Six Months Six Months
June 30, June 30, Ended Ended
2001 2000 June 30, 2001 June 30, 2000
------------ ------------ ------------- -------------
Interest Income:
Fixed income securities.. $ 9,730,000 $10,789,000 $20,708,000 $22,868,000
Cash and cash
equivalents............. 34,000 105,000 76,000 162,000
----------- ----------- ----------- -----------
9,764,000 10,894,000 20,784,000 23,030,000
Interest Expense......... 4,988,000 8,590,000 12,064,000 18,278,000
----------- ----------- ----------- -----------
Net Interest Income...... 4,776,000 2,304,000 8,720,000 4,752,000
Dividend Income.......... 306,000 354,000 494,000 724,000
----------- ----------- ----------- -----------
Total Operating Income... 5,082,000 2,658,000 9,214,000 5,476,000
----------- ----------- ----------- -----------
General and
Administrative Expenses:
Management fee (Note 7).. 84,000 147,000 172,000 303,000
Incentive fee from
operations (Note 7)..... -- (152,000) -- --
Other.................... 216,000 246,000 397,000 461,000
----------- ----------- ----------- -----------
300,000 241,000 569,000 764,000
----------- ----------- ----------- -----------
Operating Income, net of
General and
Administrative
Expenses................ 4,782,000 2,417,000 8,645,000 4,712,000
----------- ----------- ----------- -----------
Net (Loss) from
Investment Activities... (4,382,000) (7,532,000) (6,840,000) (7,532,000)
Reclassification of
Previously Unrealized
Gains (Note 2).......... -- -- 1,742,000 --
----------- ----------- ----------- -----------
Net Income (Loss) Before
Cumulative Effect of
Change in Accounting
Principle............... 400,000 (5,115,000) 3,547,000 (2,820,000)
----------- ----------- ----------- -----------
Cumulative Effect of
Change in Accounting
Principle............... -- -- (2,173,000) --
----------- ----------- ----------- -----------
Net Income (Loss)........ $ 400,000 $(5,115,000) $ 1,374,000 $(2,820,000)
=========== =========== =========== ===========
Net Income (Loss) Per
Share Before Cumulative
Effect of Change in
Accounting Principle:
Basic.................... $ 0.07 $ (0.89) $ 0.62 $ (0.49)
=========== =========== =========== ===========
Diluted.................. $ 0.07 $ (0.89) $ 0.61 $ (0.49)
=========== =========== =========== ===========
Effect of Accounting
Change Per Share:
Basic.................... $ -- $ -- $ (0.38) $ --
=========== =========== =========== ===========
Diluted.................. $ -- $ -- $ (0.37) $ --
=========== =========== =========== ===========
Net Income (Loss) Per
Share:
Basic.................... $ 0.07 $ (0.89) $ 0.24 $ (0.49)
=========== =========== =========== ===========
Diluted.................. $ 0.07 $ (0.89) $ 0.24 $ (0.49)
=========== =========== =========== ===========
Weighted Average Number
of Shares Outstanding:
Basic.................... 5,753,000 5,753,000 5,753,000 5,753,000
=========== =========== =========== ===========
Diluted.................. 5,819,000 5,753,000 5,819,000 5,753,000
=========== =========== =========== ===========
Dividends Declared Per
Share................... $ 0.40 $ 0.35 $ 0.75 $ 0.81
=========== =========== =========== ===========
See accompanying notes to financial statements.
F-22
APEX MORTGAGE CAPITAL, INC.
STATEMENT OF STOCKHOLDERS' EQUITY
Three Months Ended March 31 and June 30, 2001
(Unaudited)
Accumulated
Accumulated Dividend
Common Stock Additional Other Distributions
----------------- Paid-in Comprehensive in Excess of Comprehensive
Shares Amount Capital Income (Loss) Net Income Income/(Loss) Total
--------- ------- ----------- ------------- ------------- ------------- -----------
Balance, December 31,
2000................... 5,753,000 $58,000 $82,800,000 ($1,079,000) ($37,396,000) $44,383,000
Issuance of stock
options to non-
employees (Note 8)..... 1,000 1,000
Net income.............. 974,000 $ 974,000 974,000
Other comprehensive
income:
Cumulative effect of
change in accounting
principle (Note 2)..... 2,173,000 2,173,000 2,173,000
Reclassification of
previously unrealized
gains.................. (1,742,000) (1,742,000) (1,742,000)
Change in unrealized
gain on available-for-
sale securities........ 2,450,000 2,450,000 2,450,000
Cumulative effect of
change in accounting
principle --
reclassification of
deferred gain on
terminated swaps....... 2,546,000 2,546,000 2,546,000
Amortization of deferred
gain on terminated
swaps.................. (1,152,000) (1,152,000) (1,152,000)
--------- ------- ----------- ----------- ------------ -----------
Comprehensive income.... 5,249,000
===========
Dividends declared...... (2,073,000) (2,073,000)
--------- ------- ----------- ----------- ------------ -----------
Balance, March 31,
2001................... 5,753,000 58,000 82,801,000 3,196,000 (38,495,000) 47,560,000
Issuance of stock
options to non-
employees (Note 8)..... 1,000 1,000
Net income.............. 400,000 400,000 400,000
Other comprehensive
income: Change in
unrealized gain on
available-for-sale
securities............. 367,000 367,000 367,000
Amortization of deferred
gain on terminated
swaps.................. (946,000) (946,000) (946,000)
--------- ------- ----------- ----------- ------------ -----------
Comprehensive loss...... $ (179,000)
===========
Dividends declared...... (2,370,000) (2,370,000)
--------- ------- ----------- ----------- ------------ -----------
Balance, June 30, 2001.. 5,753,000 $58,000 $82,802,000 $ 2,617,000 ($40,465,000) $45,012,000
========= ======= =========== =========== ============ ===========
See accompanying notes to financial statements.
F-23
APEX MORTGAGE CAPITAL, INC.
STATEMENTS OF CASH FLOWS
(Unaudited)
Three Months Three Months Six Months Six Months
Ended Ended Ended Ended
June 30, June 30, June 30, June 30,
2001 2000 2001 2000
------------ ------------ ------------ ------------
Operating Activities:
Net Income (Loss)..... $ 400,000 $ (5,115,000) $ 1,374,000 $ (2,820,000)
Adjustments to
reconcile net income
to net cash provided
by operating
activities:
Amortization........ (1,214,000) (522,000) (2,944,000) (431,000)
Net loss on
investing
activities......... 4,382,000 7,532,000 6,840,000 7,532,000
Cumulative effect of
change in
accounting
principle.......... -- -- 2,173,000 --
Reclassification of
previously
unrealized gains... -- -- (1,742,000) --
Change in assets and
liabilities:
Trading
securities....... 49,145,000 -- 42,809,000 --
Accrued interest
receivable....... 334,000 922,000 325,000 2,579,000
Other assets...... (56,000) 39,000 19,000 472,000
Accrued interest
payable.......... (80,000) 474,000 3,000 (2,898,000)
Accrued expenses
and other
liabilities...... (328,000) (178,000) (453,000) (368,000)
----------- ------------ ------------ ------------
Net cash provided
by operating
activities....... 52,583,000 3,152,000 48,404,000 4,066,000
----------- ------------ ------------ ------------
Investing Activities:
Payments on closed
forward contracts.... -- (5,343,000) -- (6,462,000)
Proceeds from sales of
equity securities.... 1,712,000 5,088,000 1,712,000 5,088,000
Proceeds from sales of
fixed income
securities........... -- 96,513,000 -- 96,513,000
Proceeds from closed
forward contracts.... -- 426,000 -- 5,891,000
Proceeds from
terminating interest
rate swaps........... -- 5,554,000 -- 5,554,000
Principal payments on
fixed income
securities available-
for-sale............. -- 19,230,000 -- 41,077,000
----------- ------------ ------------ ------------
Net cash provided
by investing
activities....... 1,712,000 121,468,000 1,712,000 147,661,000
----------- ------------ ------------ ------------
Financing Activities:
Net (repayments) on
reverse repurchase
agreements........... (54,143,000) (121,280,000) (43,830,000) (145,469,000)
Dividend
distributions........ (2,034,000) (2,775,000) (4,069,000) (5,449,000)
----------- ------------ ------------ ------------
Net cash used in
financing
activities....... (56,177,000) (124,055,000) (47,899,000) (150,918,000)
Net (Decrease) Increase
in Cash and Cash
Equivalents............ (1,882,000) 565,000 2,217,000 809,000
Cash and Cash
Equivalents at
Beginning of Period.... 4,239,000 2,849,000 140,000 2,605,000
----------- ------------ ------------ ------------
Cash and Cash
Equivalents at End of
Period................. $ 2,357,000 $ 3,414,000 $ 2,357,000 $ 3,414,000
=========== ============ ============ ============
Supplemental Disclosure
of Cash Flow
Information:
Cash paid for
interest............. $ 6,013,000 $ 8,039,000 $ 14,159,000 $ 21,071,000
=========== ============ ============ ============
Noncash Investing and
Financing Activities:
Change in accumulated
other comprehensive
income............... $ (579,000) $ (4,302,000) $ 3,696,000 $ (136,000)
=========== ============ ============ ============
Principal payments,
not yet received..... $ -- $ 191,000 $ 288,000 $ 3,537,000
=========== ============ ============ ============
Securities purchased,
not yet settled...... $ -- -- $(14,514,000) $ --
=========== ============ ============ ============
Dividends declared,
not yet paid......... $(2,446,000) $ (2,073,000) $ (2,073,000) $ (2,724,000)
=========== ============ ============ ============
See accompanying notes to financial statements.
F-24
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS
June 30, 2001
(Unaudited)
Note 1 -- The Company
Apex Mortgage Capital, Inc. (the "Company") was incorporated in Maryland on
September 15, 1997. The Company commenced its operations of acquiring and
managing a portfolio of mortgage assets on December 9, 1997, upon receipt of
the net proceeds from the initial public offering of the Company's common
stock. The Company uses its equity capital and borrowed funds to seek to
generate income based on the difference between the yield on its investments
and the cost of its borrowings. The Company is structured for tax purposes as a
real estate investment trust ("REIT") under the Internal Revenue Code of 1986,
as amended (the "Code").
Note 2 -- Summary of Significant Accounting Policies
Basis of Presentation
The accompanying financial statements of Apex Mortgage Capital, Inc. have
been prepared in accordance with the instructions to Form 10-Q. In the opinion
of management, all adjustments (consisting of normal recurring adjustments)
considered necessary for a fair presentation have been included. These
statements should be read in conjunction with the consolidated financial
statements and notes thereto included in our 2000 Annual Report on Form 10-K
filed with the Securities and Exchange Commission. Interim results are not
necessarily indicative of results for a full year.
Certain balances shown in prior period Balance Sheets and Statements of
Operations have been reclassified to conform to the current period presentation
for comparative purposes.
Cash and Cash Equivalents
Cash and cash equivalents include cash and highly liquid investments with
original maturities of three months or less. The carrying amount of cash
equivalents approximates their fair value.
Fixed Income Securities
The Company's fixed income securities consist primarily of residential
mortgage securities and other fixed income securities. All fixed income
securities are recorded at cost on the date the assets are purchased. Realized
gains and losses on sales of the securities are determined on an average cost
basis. A majority of the Company's fixed income securities are expected to
qualify as real estate assets under the REIT Provisions of the Code.
Interest income on the Company's mortgage securities is accrued based on the
actual coupon rate and the outstanding principal amount. Premiums and discounts
are amortized into interest income over the lives of the securities using the
effective yield method adjusted for the effects of estimated prepayments. When
securities are deemed to be impaired, an impairment reserve is recorded. Such
reserve is accounted for as an adjustment to the cost of the securities and is
accreted into income on the same basis as the original discount.
Interest income on the Company's other fixed income securities is accrued
using the effective interest method applied prospectively based on current
market assumptions.
Beginning on January 1, 2001, the Company's policy is to generally classify
its fixed income securities that are subject to a hedging strategy and are
generally expected to experience a higher level of turnover as trading
securities. These fixed income securities are reported at fair value with
unrealized gains and losses
F-25
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
June 30, 2001
(Unaudited)
included in earnings each reporting period. Fixed income securities that are
generally not subject to hedging and are expected to experience a lower level
of turnover are classified as available-for-sale. These fixed income securities
are reported at fair value with unrealized gains and losses excluded from
earnings and reported in accumulated other comprehensive income.
Equity Securities
The Company's equity securities consist primarily of equity securities
issued by other real estate investment trusts.
Dividend income on equity securities is recorded on the declaration date.
Realized gains and losses on sales of the securities are determined on an
average cost basis. A majority of the Company's equity securities are expected
to qualify as real estate assets under the REIT Provisions of the Code.
The Company's policy is to generally classify its equity securities as
available-for-sale. Equity securities are reported at fair value with
unrealized gains and losses excluded from earnings and reported in accumulated
other comprehensive income.
Interest Rate Hedging Transactions
The Company may enter into interest rate swap and interest rate cap
agreements in order to mitigate the impact of rising interest rates on the cost
of its short-term borrowings. The Company may also enter into forward contracts
to sell U.S. Treasury notes in order to mitigate the negative impact of rising
interest rates on the fair value of certain fixed income securities. Prior to
December 31, 2000, unrealized gains and losses on open forwards were shown as
assets and liabilities, respectively, and as accumulated other comprehensive
income in the balance sheets. Realized gains and losses on terminated forwards
were recorded as deferred gains and losses, included in accumulated other
comprehensive income in the balance sheets and were amortized over the
remaining lives of the fixed income securities being hedged as an adjustment to
income in the statements of operations. Beginning on January 1, 2001, all
realized and unrealized gains and losses on forward contracts are recognized in
net gains and losses from trading activities in the statement of operations.
Stock Based Compensation
The Company grants stock options to its directors and officers and to
certain directors, officers and employees of its investment manager and the
investment manager itself, as discussed in Note 8. Options granted to directors
of the Company are accounted for using the intrinsic value method, and
generally no compensation expense is recognized in the statements of operations
for such options. Other options are accounted for using the fair value method;
such options are measured at their fair value when they are granted and are
recognized as a general and administrative expense during the periods when the
options vest and the related services are performed.
Federal and State Income Taxes
The Company has elected to be taxed as a REIT and generally is not subject
to federal and state taxes on its income to the extent it distributes annually
95% of its predistribution taxable income to stockholders and meets certain
other asset, income and stock ownership tests. As such, no accrual for income
taxes has been included in the financial statements.
F-26
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
June 30, 2001
(Unaudited)
Net Income Per Share
Basic net income per share is calculated on the basis of the weighted
average number of common shares outstanding during each period. Diluted net
income per share includes the additional dilutive effect of common stock
equivalents and outstanding stock options, and is calculated using the treasury
stock method.
570,000 stock options that could potentially dilute net income per share in
the future were not included in the computation of diluted net income per share
in 2000 because they would have been antidilutive for the period presented.
Income Recognition
Income and expenses are recorded on the accrual basis of accounting.
Credit Risk
The Company has limited its exposure to credit losses on its portfolio of
fixed income securities by purchasing securities that are either rated "AAA" by
at least one nationally recognized rating agency or are issued by the Federal
Home Loan Mortgage Corporation ("FHLMC"), Fannie Mae (formerly known as the
Federal National Mortgage Corporation) or the Government National Mortgage
Association ("GNMA"). The payment of principal and interest on the FHLMC,
Fannie Mae and GNMA securities are guaranteed by those respective agencies. In
addition, the Company has the ability to purchase up to 10% of the portfolio in
below investment grade securities.
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts
of assets and liabilities at the date of the financial statements and the
reported amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates.
Recently Issued Accounting Standards -- Transition Adjustment
The Company adopted SFAS No. 133 and the related amendments on January 1,
2001. This adoption resulted in a transition adjustment that reclassified
$2,173,000 of net losses on unrealized and deferred gains and losses on
investment securities and forward contracts from accumulated other
comprehensive income to current income. Also, deferred gains on interest rate
swaps previously designated as hedges were reclassified from other liabilities
to accumulated other comprehensive income.
In conjunction with the adoption of SFAS No. 133, the Company reclassified
$594,469,000 of its mortgage securities from the available-for-sale category to
the trading category for investments accounted for under SFAS No. 115. This
change resulted in the reclassification of $1,742,000 net unrealized gains from
accumulated other comprehensive income to current income, in addition to net
unrealized gains included in the SFAS No. 133 transition adjustment discussed
above.
In 2001, the Company adopted the provisions of SFAS No. 140, "Accounting for
Transfers and Servicing of Financial Assets and Extinguishments of
Liabilities." This statement revises the standards for accounting for
securitizations and other transfers of financial assets and collateral and
requires certain disclosures, but otherwise carries over most of the provisions
of SFAS No. 125 without reconsideration. The adoption of SFAS
F-27
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
June 30, 2001
(Unaudited)
No. 140 had no immediate effect on the results of operations, financial
position or cash flows of the Company. The future effect, if any, will depend
on whether the Company enters into any securitization transactions or other
financial transactions to which SFAS No. 140 provisions may apply.
Note 3 -- Fixed Income and Equity Securities
At June 30, 2001, fixed income and equity securities consisted of the
following:
Fixed
Fixed Income Equity
Income Securities Securities
Trading Available- Available-
Securities For-Sale For-Sale
---------- ---------- ----------
(in thousands)
Principal Amount............................ $530,248 $10,400 $ 7,042
Unamortized Premium (Discount).............. (10,523) (3,903) --
-------- ------- -------
Adjusted Cost............................... 519,725 6,497 7,042
Unrealized Gains............................ 9,089 -- 3,198
Unrealized Losses........................... (818) (1,030) --
-------- ------- -------
Fair Value.................................. $527,996 $ 5,467 $10,240
======== ======= =======
At December 31, 2000, fixed income and equity securities available-for-sale
consisted of the following:
Adjustable Other
Rate Fixed Rate Fixed
Mortgage Mortgage Income Equity
Securities Securities Securities Securities
---------- ---------- ---------- ----------
(in thousands)
Principal Amount........ $39,253 $557,962 $10,400 $8,690
Unamortized Premium
(Discount)............. 978 (15,529) (3,712) --
------- -------- ------- ------
Adjusted Cost........... 40,231 542,433 6,688 8,690
Unrealized Gains........ 46 11,783 -- 1,091
Unrealized Losses....... (24) -- (1,026) (713)
------- -------- ------- ------
Fair Value.............. $40,253 $554,216 $ 5,662 $9,068
======= ======== ======= ======
A portion of the other fixed income securities held as available-for-sale
generally have an original maturity of five years subject to certain
acceleration provisions. The expected average remaining maturity at June 30,
2001 and December 31, 2000 was approximately 1.5 and 2.0 years, respectively.
The remaining portion of this category has a fixed remaining maturity of
approximately 1.0 years as of June 30, 2001.
During the quarter ended June 30, 2001, the Company reported a net loss on
investment transactions of $4,382,000 which is included in the Statement of
Operations. This loss consisted of $65,000 in gains on the sale of $1,712,000
of equity securities that were available-for-sale, $866,000 in gains on the
sale of $59,109,000 of fixed income securities held-for-trading, $6,115,000
loss from the net decrease in fair market value of fixed income securities
held-for-trading, $2,974,000 gain from the net decrease in unrealized loss on
forward contracts, and $2,172,000 in net losses on closed forward contracts.
During the quarter ended June 30, 2000, the Company realized $6,536,000 in
losses on the sale of $96,513,000 of fixed income securities and $38,000 in
losses on the sale of $5,088,000 of equity securities which were both
classified as available-for-sale. The aforementioned items are included in Net
Loss from Investment Activities in the Statement of Operations.
F-28
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
June 30, 2001
(Unaudited)
At June 30, 2001, the Company held equity securities and senior unsecured
notes issued by Dynex Capital, Inc. ("Dynex") with fair market values of
$4,122,000 and $4,000,000, respectively. During the year ended December 31,
1999, Dynex suspended the payment of dividends on its preferred stock.
Accordingly, the Company is no longer recognizing dividend income on its equity
investments in Dynex. Dynex is currently paying interest on its senior notes.
Accordingly, the Company is recognizing interest income on the senior note
investments issued by Dynex. If Dynex were to suspend payment of interest on
its senior notes, interest income recognized by the Company would be negatively
impacted.
During the quarter ended June 30, 2000, the Company recorded an impairment
charge on its Dynex common stock holdings of $958,000 which is included in Net
Loss from Investment Activities in the Statement of Operations. The impairment
charge was recorded in order to adjust the cost basis of the investment to fair
market value in response to an other than temporary decline in value.
Note 4 -- Reverse Repurchase Agreements
The Company has entered into reverse repurchase agreements to finance
certain of its investments. These agreements are secured by a portion of the
Company's investments and bear interest rates that have historically moved in
close relationship to LIBOR.
At June 30, 2001, the Company had outstanding $501,604,000 of reverse
repurchase agreements with a weighted average current borrowing rate of 3.80%
and a maturity of 1.0 months. The reverse repurchase agreements were
collateralized by securities with an estimated fair value of $515,338,000.
At December 31, 2000, the Company had outstanding $545,434,000 of reverse
repurchase agreements with a weighted average current borrowing rate of 6.61%
and a maturity of 1.1 months. The reverse repurchase agreements were
collateralized by securities with an estimated fair value of $564,274,000.
For the quarter ended June 30, 2001, the average reverse repurchase
agreement balance was $527,693,000 with a weighted average interest cost of
4.44%.
For the year ended December 31, 2000, the average reverse repurchase
agreement balance was $576,190,000 with a weighted average interest cost of
6.33%.
F-29
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
June 30, 2001
(Unaudited)
Note 5 -- Fair Value of Financial Instruments
The following table presents the amortized cost and estimated fair values of
the Company's financial instruments. SFAS No. 107, Disclosures About Fair Value
of Financial Instruments, defines the fair value of a financial instrument as
the amount at which the instrument could be exchanged in a current transaction
between willing parties, other than in a forced or liquidation sale:
At June 30, 2001 At December 31, 2000
---------------------- ----------------------
Fair Fair
Adjusted Cost Value Adjusted Cost Value
------------- -------- ------------- --------
(in thousands)
Trading securities......... $519,725 $527,996
Available-for-sale
securities:
Mortgage related
securities available-
for-sale................ $582,664 $594,469
Equity securities........ 7,042 10,240 8,690 9,068
Other fixed income
securities.............. 6,497 5,467 6,688 5,662
Forward contracts........ -- (158) -- (3,731)
The Company bases its fair value estimates for mortgage-related securities,
equity securities, other fixed income securities, interest rate swaps, and
forward contracts primarily on third party price indications provided by
dealers who make markets in these financial instruments when such indications
are available. However, the fair value reported reflects estimates and may not
necessarily be indicative of the amounts the Company could realize in a current
market exchange. Cash and cash equivalents, interest receivable and reverse
repurchase agreements are reflected in the financial statements at their costs,
which approximates their fair values because of the short-term nature of these
instruments.
Note 6 -- Stock Repurchase Program
The Company's Board of Directors has authorized a program to repurchase
shares of the Company's common stock. At June 30, 2001 and December 31, 2000,
the Company was authorized to repurchase an additional 552,900 shares of the
Company's common stock pursuant to the repurchase program.
During the second quarter of 2001, the Company recognized the retirement of
its common stock repurchased in prior periods. Amounts previously presented as
treasury stock were netted with the amounts of common stock and additional
paid-in capital, and the number of issued and outstanding shares of common
stock presented were reduced accordingly. Amounts and numbers of issued and
outstanding shares related to the repurchased common stock shown in prior
period balance sheets have been reclassified to conform to the current period
presentation for comparative purposes.
Note 7 -- Transactions with Affiliates
The Company has entered into a Management Agreement (the "Management
Agreement"), as amended, with TCW Investment Management Company (the
"Manager"), a wholly owned subsidiary of The TCW Group, Inc., under which the
Manager will manage its day-to-day operations, subject to the direction and
oversight of the Company's Board of Directors. The Company will pay the Manager
annual base management compensation, payable monthly in arrears, equal to 3/4
of 1% of the average net invested capital as further defined in the Management
Agreement.
The Company recorded expenses of $84,000 and $147,000 in base management
compensation to the Manager during the quarters ended June 30, 2001 and 2000,
respectively.
F-30
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
June 30, 2001
(Unaudited)
The accrued liability for base management compensation was $55,000 and
$85,000 at June 30, 2001 and December 31, 2000, respectively.
The Company also pays the Manager, as incentive compensation, an amount
equal to 30% of the Net Income of the Company, before incentive compensation,
in excess of the amount that would produce an annualized return on equity equal
to the ten-year US Treasury rate plus 1% as further defined in the Management
Agreement.
During the quarter ended June 30, 2000, the Company recorded a credit
against future management compensation payable of $152,000. This credit
represented a return of the first quarter 2000 incentive compensation payment
as the net loss incurred during the quarter ended June 30, 2000 resulting in
the Manager not earning incentive compensation for the year ended December 31,
2000. The Company did not record any incentive compensation to the Manager for
the quarter ended June 30, 2001.
At June 30, 2000, the Company had prepaid management compensation of
$152,000 resulting from the credit recorded during the quarter. The amount was
offset by amounts payable to the Manager in the quarter ended September 30,
2000.
The Company may also grant stock options to directors, officers and key
employees of the Company, the Manager, its directors, officers and key
employees (see Note 8).
The Management Agreement may be renewed each year at the discretion of the
Company's Board of Directors, unless previously terminated by the Company or
the Manager upon written notice. Except in the case of a termination or non-
renewal by the Company for cause, upon termination or non-renewal of the
Management Agreement by the Company, the Company is obligated to pay the
Manager a termination or non-renewal fee, which may be significant. The
termination or non-renewal fee shall be equal to the fair market value of the
Management Agreement without regard to the Company's termination right, as
determined by an independent appraisal. Neither the fair market value of the
Management Agreement nor the various factors that an appraiser may find
relevant in its determination of the fair market value can be determined at
this time. The fair market value of the Management Agreement will be affected
by significant variables, including (i) the historical management fees paid to
the Manager, (ii) any projections of future management fees to be paid to the
Manager determined by the independent appraiser, (iii) the relative valuations
of agreements similar to the Management Agreement and (iv) other factors, all
of which may be unrelated to the performance of the Manager. Similar management
agreements have been valued at as much as eight times the historical annual
fees paid under such agreements. Any termination or non-renewal fee paid may be
materially greater than eight times historical fees and the Company can provide
no assurance at this time as to the amount of any such fee.
The Company's other fixed income investments held as available-for-sale
include securities that are issued by special purpose companies that invest
primarily in mortgage-related assets. The Manager serves as the investment
manager to these companies and is paid fees in connection with such services.
The Company does not anticipate paying any management fees directly to the
Manager in connection with these investments.
Note 8 -- Stock Options
The Company has adopted a stock option plan (the "Amended and Restated 1997
Stock Option Plan") that provides for the grant of both qualified incentive
stock options that meet the requirements of Section 422 of the Code, and non-
qualified stock options, stock appreciation rights and dividend equivalent
rights. Stock
F-31
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
June 30, 2001
(Unaudited)
options may be granted to directors of the Company ("employees"), and to the
Manager and the directors, officers and key employees of the Manager ("non-
employees").
The exercise price for any stock option granted under the Amended and
Restated 1997 Stock Option Plan may not be less than 100% of the fair market
value of the shares of common stock at the time the option is granted. Each
option must terminate no more than ten years from the date it is granted.
Subject to anti-dilution provisions for stock splits, stock dividends and
similar events, the Amended and Restated 1997 Stock Option Plan authorizes the
grant of options to purchase an aggregate of 1,000,000 shares of common stock.
The Company recognized stock option expense relating to the options granted
to the non-employees of $1,000 and $24,000 during the quarters ended June 30,
2001 and 2000, respectively.
For stock options outstanding at June 30, 2001, the range of exercise prices
is $6.98 to $15.00 per share and the weighted-average remaining contractual
life is 7.70 years.
For the year ended December 31, 2000, options to purchase 183,000 shares of
the Company's common stock were granted to directors of the Company and options
to purchase 125,000 shares were granted to officers of the Company and officers
and key employees of the Manager. The exercise price of the options granted
during 2000 was $6.98 per share. None of the options granted during 2000
include dividend equivalent rights.
The fair value of each option granted during 2000 was estimated to be $0.04
as of the grant date using the Black-Scholes option pricing model with the
following assumptions: dividend yield of 20% per annum; expected volatility of
30%; risk free interest rate of 5.22% per annum; and an expected life of 10
years.
The options granted during 2000 expire in December 2010 and vest in two
equal installments during the month of December in 2001 and 2002.
For the year ended December 31, 1998, options to purchase 112,000 shares of
the Company's common stock were granted to directors of the Company and options
to purchase 58,000 shares were granted to officers of the Company and officers
and key employees of the Manager. The exercise price of the options granted
during 1998 was $10.38 per share. All of the options granted during 1998
include dividend equivalent rights that entitle the option holder to receive a
cash payment equal to the dividends declared on the Company's common stock
multiplied by the number of options held until the options are exercised or
expire.
The fair value of each option granted during 1998 was estimated to be $5.32
as of the grant date using the Black-Scholes option pricing model with the
following assumptions: dividend yield of 0% per annum (to account for the
dividend equivalent rights); expected volatility of 30%; risk free interest
rate of 4.57% per annum; and an expected life of 10 years.
The options granted during 1998 expire in December 2008 and vested in two
equal installments during the month of December in 1999 and 2000.
For the year ended December 31, 1997, options to purchase 210,000 shares of
the Company's common stock were granted to directors of the Company and options
to purchase 190,000 shares were granted to officers of the Company and officers
and key employees of the Manager. The exercise price of the options granted
during 1997 was $15 per share.
F-32
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
June 30, 2001
(Unaudited)
The fair value of each option granted during 1997 was estimated to be $1.05
as of the grant date using the Black-Scholes option pricing model with the
following assumptions: dividend yield of 11% per annum; expected volatility of
30%; risk free interest rate of 5.82% per annum; and an expected life of 10
years.
The options granted during 1997 expire in December 2007 and vest in three
equal installments during the month of February in 1999, 2000 and 2001.
If the Company had recorded stock option grants to Company directors at fair
value and related compensation expense, the pro forma effect on the Company's
net income (loss) and earnings (loss) per share would have been as follows:
Quarter Ended Quarter Ended
June 30, 2001 June 30, 2000
------------- -------------
Net income (loss) -- as reported............... $400,000 $(5,115,000)
Net income (loss) -- pro forma................. $395,000 $(5,139,000)
Basic earnings (loss) per share -- as
reported...................................... $ 0.07 $ (0.89)
Diluted earnings (loss) per share -- as
reported...................................... $ 0.07 $ (0.89)
Basic earnings (loss) per share -- pro forma... $ 0.07 $ (0.89)
Diluted earnings (loss) per share -- pro
forma......................................... $ 0.07 $ (0.89)
Information regarding stock option activity during the six months ended June
30, 2001 is as follows:
Weighted
Average
Shares Exercise Price
------- --------------
Options Outstanding at January 1, 2001................ 878,000 $11.29
Exercised............................................. -- --
Expired............................................... -- --
-------
Options Outstanding at June 30, 2001.................. 878,000 $11.29
=======
Note 9 -- Contractual Commitments
The Company from time to time may enter into interest rate swap agreements
in order to mitigate the impact of rising interest rates on the cost of its
short-term borrowings. There were no interest rate swap agreements open at June
30, 2001 and December 31, 2000.
The Company received $112,000 from and paid $1,395,000 to the swap counter-
parties during the quarter ended June 30, 2000 which is included in interest
expense in the Statements of Operations.
During the year ended December 31, 2000, the Company terminated all
outstanding interest rate swap agreements with a combined notional amount of
$386,213,000 which resulted in a deferred gain of $5,554,000 that is being
amortized over the remaining life of the original swap agreements. The deferred
gain is included in accumulated other comprehensive income on the balance sheet
and the amortization expense is included in interest expense in the statements
of operations. During the quarter ended June 30, 2001, $946,000 of the deferred
gain was amortized. Approximately 95% of the deferred gain will be amortized by
September 30, 2001. The remaining deferred gain will be fully amortized by May
31, 2002.
During the year ended December 31, 1999, the Company terminated interest
rate swap agreements with a combined notional amount of $255,530,000 which
resulted in a net deferred loss of $66,000 that was amortized
F-33
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
June 30, 2001
(Unaudited)
over the remaining life of the original swap agreements. During the quarter
ended June 30, 2000, $13,000 of the net deferred loss was amortized. The
remaining net deferred loss was fully amortized at August 31, 2000.
Note 10 -- Forward Contracts
At June 30, 2001, the Company had open forward contracts to sell U.S.
Treasury notes with terms stated below.
Current Average
Notional Amount Termination Net Unrealized Average Maturity of
(000) Date Losses (000) Underlying Securities
--------------- ----------- -------------- ---------------------
$380,000 7/23/2001 ($158) 8.98 Years
At December 31, 2000, the Company had open forward contracts to sell U.S.
Treasury notes with terms stated below.
Current Average
Notional Amount Termination Net Unrealized Average Maturity of
(000) Date Losses (000) Underlying Securities
--------------- ----------- -------------- ---------------------
$575,000 1/19/2001 ($3,731) 2.99 Years
During the six months ended June 30, 2001, a transition adjustment, in
connection with the adoption of Statement of Financial Accounting Standards
("SFAS") No. 133, was recorded to reclassify $2,173,000 from accumulated other
comprehensive income to net loss on investment transactions on the statements
of operations. This reclassification consists of $8,505,000 net deferred losses
on closed forward contracts, $3,731,000 net unrealized losses on open forward
contracts, and $10,063,000 net unrealized gains on securities hedged by open
forward contracts at December 31, 2000. Also, during the six months ended June
30, 2001, $11,254,000 of net loss was realized on closed forward contracts and
is included in net loss from trading activities on the statements of
operations.
Note 11 -- Adoption of Shareholder Rights Plan
On June 30, 1999, the Board of Directors of Apex Mortgage Capital, Inc. (the
"Company") declared a dividend distribution of one Right for each outstanding
share of Company Common Stock to stockholders of record at the close of
business on July 30, 1999 (the "Record Date"). Each Right entitles the
registered holder to purchase from the Company one one-hundredth of a share of
Series A Junior Participating Preferred Stock, par value $0.01 per share (the
"Preferred Stock"), at a Purchase Price of $50, subject to adjustment. The
description and terms of the Rights are set forth in a Shareholder Rights
Agreement (the "Rights Agreement") between the Company and The Bank of New
York, as Rights Agent.
Initially, the Rights will be attached to all Common Stock certificates
representing shares then outstanding, and no separate Rights Certificates will
be distributed. Subject to certain exceptions specified in the Rights
Agreement, the Rights will separate from the Common Stock and a Distribution
Date will occur upon the earlier of (i) 10 business days following a public
announcement that a person or group of affiliated or associated persons (an
"Acquiring Person") has acquired, or obtained the right to acquire, beneficial
ownership of 15% or more of the outstanding shares of Common Stock (the "Stock
Acquisition Date"), other than as a result of repurchases of stock by the
Company or certain inadvertent actions by institutional or certain other
stockholders or (ii) 10 business days (or such later date as the Board shall
determine) following the commencement of a tender offer or exchange offer that
would result in a person or group becoming an
F-34
APEX MORTGAGE CAPITAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
June 30, 2001
(Unaudited)
Acquiring Person. Until the Distribution Date, (i) the Rights will be evidenced
by the Common Stock certificates and will be transferred with and only with
such Common Stock certificates, (ii) new Common Stock certificates issued after
the Record Date will contain a notation incorporating the Rights Agreement by
reference and (iii) the surrender for transfer of any certificates for Common
Stock outstanding will also constitute the transfer of the Rights associated
with the Common Stock represented by such certificate. Pursuant to the Rights
Agreement, the Company reserves the right to require that, prior to the
occurrence of a triggering event, upon any exercise of Rights, a number of
Rights be exercised so that only whole shares of Preferred Stock will be
issued.
The Rights are not exercisable until the Distribution Date and will expire
on July 30, 2009, unless earlier redeemed or exchanged by the Company.
F-35
[LOGO OF APEX APPEARS HERE]
PART II. INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 14. Other Expenses of Issuance and Distribution
The following table sets forth our costs and expenses in connection with the
registration of our securities being registered. All amounts are estimates
except the Securities and Exchange Commission registration fee, the American
Stock Exchange fee and the National Association of Securities Dealers fee.
Description Amount
----------- --------
Securities and Exchange Commission Registration Fee................ $ 12,742
American Stock Exchange Fee........................................ 17,500
National Association of Securities Dealers Fee..................... 5,597
Printing and Engraving............................................. 100,000
Legal Fees and Expenses............................................ 200,000
Accountants' Fees and Expenses..................................... 75,000
Miscellaneous...................................................... 4,161
--------
Total............................................................. $415,000
========
ITEM 15. Indemnification of Directors and Officers.
Section 2-418 of the Maryland General Corporation Law permits us to
indemnify, subject to the exceptions set forth therein, any director or officer
of our company who is made a party to any proceeding by reason of service in
that capacity to the company, or who is or was, serving as such with respect to
another entity at the request of our company. The Maryland General Corporation
Law also provides that we may purchase insurance on behalf of our directors,
officers, employees or agents.
Our charter and bylaws require us to provide for indemnification of our
officers and directors substantially identical in scope to that permitted under
Section 2-418 of the Maryland General Corporation Law. Our bylaws also provide
that we must pay the expenses of our officers and directors (acting in their
capacity as such) incurred in defending any action, suit or proceeding, whether
civil, criminal, administrative or investigative, as they are incurred and in
advance of the final disposition of the action, suit or proceeding, upon
receipt of an undertaking by or on behalf of the director or officer to repay
all amounts so advanced if it is ultimately determined by a court of
appropriate jurisdiction that the officer or director is not entitled to be
indemnified by us.
We have agreed to indemnify our directors and officers to the fullest extent
permitted by applicable provisions of the Maryland General Corporation Law,
provided that we approve any settlement of a third party action against a
director or officer, and subject to limitations for actions initiated by the
director or officer, penalties paid by insurance, and violations of Section
16(b) of the Exchange Act and similar laws.
Our charter limits the liability of our directors and officers for money
damages to our Company and our stockholders to the fullest extent permitted
from time to time by Maryland law. Maryland law presently permits the liability
of directors and officers to a corporation or its stockholders for money
damages to be limited, except
. to the extent that it is proved that the director or officer actually
received an improper benefit or profit in money, property or services, or
. if a judgment or other final adjudication adverse to the director or
officer is entered in a proceeding based on a finding that the director's
or officer's 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.
This provision does not limit our ability or our stockholders' ability to
obtain other relief, such as an injunction or rescission.
II-1
ITEM 16. Exhibits.
The following exhibits are part of this Registration Statement on Form S-2
and are numbered in accordance with Item 601 of Regulation S-K.
Exhibit
No. Description
------- ----------------------------------------------------------------------
1.1* Form of Underwriting Agreement between the Company and the
underwriter.
4.1 Articles of Amendment and Restatement of the Company, as filed with
the State Department of Assessments and Taxation of Maryland on
November 25, 1997, (previously filed as Exhibit 3.1 to the Company's
Registration Statement on Form S-11, Commission File No. 333-36069,
Amendment No. 3, filed November 21, 1997 and incorporated herein by
reference).
4.2 Articles Supplementary relating to the Company's Series A Junior
Participating Preferred Stock, as filed with the State Department of
Assessments and Taxation of the State of Maryland on July 26, 1999
(previously filed as Exhibit 3.1 to the Company's Current Report on
Form 8-K, dated June 30, 1999 and filed July 23, 1999, and
incorporated herein by reference).
4.3 Form of Share Certificate for our common stock (previously filed as
Exhibit 4.3 to the Company's Current Report on Form 8-K, dated June
30, 1999 and filed July 27, 1999, and incorporated herein by
reference).
4.4 Bylaws of the Company as currently in effect (previously filed as
Exhibit 3.2 to the Company's Registration Statement on Form S-11,
Commission File No. 333-36069, Amendment No. 3, filed November 21,
1997 and incorporated herein by reference).
4.5 Shareholder Rights Agreement between the Company and The Bank of New
York, as Rights Agent (including as Exhibit B the form of Rights
Certificate) (previously filed as Exhibit 4.1 to the Company's Current
Report on Form 8-K, dated June 30, 1999 and filed July 27, 1999, and
incorporated herein by reference).
5.1+ Opinion of Ballard Spahr Andrews & Ingersoll, LLP as to legality of
the shares being registered.
8.1* Opinion of O'Melveny & Myers LLP as to selected federal income tax
matters.
10.1 Form of Management Agreement between the Company and TCW Investment
Management Company (previously filed as Exhibit 10.1 to the Company's
Registration Statement on Form S-11, Commission File No. 333-36069,
Amendment No. 3, filed November 21, 1997 and incorporated herein by
reference).
10.2 First Amendment to Management Agreement between the Company and TCW
Investment Management Company dated December 16, 1998 (previously
filed as Exhibit 10.1 to the Company's Annual Report on Form 10-K405
for the year ended December 31, 1998, filed March 31, 1999, and
incorporated herein by reference).
10.3 Second Amendment to Management Agreement between the Company and TCW
Investment Management Company entered into as of December 16, 1999
(previously filed as Exhibit 10.1 to the Company's Annual Report on
Form 10-K405 for the year ended December 31, 1999, filed March 31,
2000, and incorporated herein by reference).
10.4 1997 Stock Option Plan, (previously filed as Exhibit 10.6 to the
Company's Registration Statement on Form S-11, Commission File No.
333-36069, Amendment No. 3, filed November 21, 1997 and incorporated
herein by reference).
10.5 Amended and Restated 1997 Stock Option Plan, (previously filed as
Exhibit 10.6 to the Company's Annual Report on Form 10-K405 for the
year ended December 31, 1998, filed March 31, 1999 and incorporated
herein by reference).
II-2
Exhibit
No. Description
------- --------------------------------------------------------------------
23.1* Deloitte & Touche LLP's Independent Auditors' Consent.
23.2* Consent of O'Melveny & Myers LLP (included within the opinions filed
as Exhibit 8.1).
24.1+ Powers of Attorney.
--------
* Filed herewith.
+ Filed previously.
ITEM 17. Undertakings
Insofar as indemnification for liabilities arising out of the Securities Act
may be permitted to our directors, officers and controlling persons pursuant to
the foregoing provisions, or otherwise, we have been advised that in the
opinion of the SEC this indemnification is against public policy as expressed
in the Securities Act and is therefore unenforceable. In the event that a claim
for indemnification against these liabilities (other than our payment of
expenses incurred or paid by our director, officer or controlling person in the
successful defense of any action suit or proceeding) is asserted by our
director, officer or controlling person in connection with the securities being
registered, we will, unless in the opinion of its counsel the matter has been
settled by controlling precedent, settled by controlling precedent, submit to a
court of appropriate jurisdiction the question whether our indemnification is
against public policy as expressed in the Securities Act and will be governed
by the final adjudication of the issue.
* * *
II-3
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the Company
certifies that it has reasonable grounds to believe that it meets all of the
requirements for filing on Form S-2 and has duly caused this registration
statement to be signed on its behalf by the undersigned, thereunto duly
authorized, in the City of Los Angeles, State of California, on September 24,
2001.
APEX MORTGAGE CAPITAL, INC.
By: /s/ Philip A. Barach
___________________________________
Philip A. Barach
President and Chief Executive Officer
Pursuant to the requirements of the Securities Act of 1933, this
registration statement has been signed below by the following persons in the
capacities and on the dates indicated.
Signature Title Date
--------- ----- ----
/s/ Philip A. Barach President, Chief Executive September 24, 2001
____________________________________ Officer and Director
Philip A. Barach
* Chief Investment Officer and September 24, 2001
____________________________________ Vice Chairman of the Board
Jeffrey E. Gundlach of Directors
* Interim Chief Financial September 24, 2001
____________________________________ Officer and Controller
David S. DeVito
* Chairman of the Board of September 24, 2001
____________________________________ Directors
Marc I. Stern
* Director September 24, 2001
____________________________________
John C. Argue
Director , 2001
____________________________________
Carl C. Gregory, III
Director , 2001
____________________________________
Peter G. Allen
Director , 2001
____________________________________
John A. Gavin
*By:
/s/ Philip A. Barach
_______________________
Attorney-in-Fact
S-1
EXHIBIT INDEX
Pursuant to Item 601(a)(2) of Regulation S-K, this exhibit index immediately
precedes the exhibits.
Exhibit No. Description
----------- ------------------------------------------------------------------
1.1* Form of Underwriting Agreement between the Company and the
underwriter.
4.1 Articles of Amendment and Restatement of the Company, as filed
with the State Department of Assessments and Taxation of Maryland
on November 25, 1997, (previously filed as Exhibit 3.1 to the
Company's Registration Statement on Form S-11, Commission File No.
333-36069, Amendment No. 3, filed November 21, 1997 and
incorporated herein by reference).
4.2 Articles Supplementary relating to the Company's Series A Junior
Participating Preferred Stock, as filed with the State Department
of Assessments and Taxation of the State of Maryland on July 26,
1999 (previously filed as Exhibit 3.1 to the Company's Current
Report on Form 8-K, dated June 30, 1999 and filed July 23, 1999,
and incorporated herein by reference).
4.3 Form of Share Certificate for our common stock (previously filed
as Exhibit 4.3 to the Company's Current Report on Form 8-K, dated
June 30, 1999 and filed July 27, 1999, and incorporated herein by
reference).
4.4 Bylaws of the Company as currently in effect (previously filed as
Exhibit 3.2 to the Company's Registration Statement on Form S-11,
Commission File No. 333-36069, Amendment No. 3, filed November 21,
1997 and incorporated herein by reference).
4.5 Shareholder Rights Agreement between the Company and The Bank of
New York, as Rights Agent (including as Exhibit B the form of
Rights Certificate) (previously filed as Exhibit 4.1 to the
Company's Current Report on Form 8-K, dated June 30, 1999 and
filed July 27, 1999, and incorporated herein by reference).
5.1+ Opinion of Ballard Spahr Andrews & Ingersoll, LLP as to legality
of the shares being registered.
8.1* Opinion of O'Melveny & Myers LLP as to selected federal income tax
matters.
10.1 Form of Management Agreement between the Company and TCW
Investment Management Company (previously filed as Exhibit 10.1 to
the Company's Registration Statement on Form S-11, Commission File
No. 333-36069, Amendment No. 3, filed November 21, 1997 and
incorporated herein by reference).
10.2 First Amendment to Management Agreement between the Company and
TCW Investment Management Company dated December 16, 1998
(previously filed as Exhibit 10.1 to the Company's Annual Report
on Form 10-K405 for the year ended December 31, 1998, filed
March 31, 1999, and incorporated herein by reference).
10.3 Second Amendment to Management Agreement between the Company and
TCW Investment Management Company entered into as of December 16,
1999 (previously filed as Exhibit 10.1 to the Company's Annual
Report on Form 10-K405 for the year ended December 31, 1999, filed
March 31, 2000, and incorporated herein by reference).
10.4 1997 Stock Option Plan, (previously filed as Exhibit 10.6 to the
Company's Registration Statement on Form S-11, Commission File No.
333-36069, Amendment No. 3, filed November 21, 1997 and
incorporated herein by reference).
10.5 Amended and Restated 1997 Stock Option Plan, (previously filed as
Exhibit 10.6 to the Company's Annual Report on Form 10-K405 for
the year ended December 31, 1998, filed March 31, 1999 and
incorporated herein by reference).
23.1* Deloitte & Touche LLP's Independent Auditors' Consent.
Exhibit No. Description
----------- --------------------------------------------------------------
23.2* Consent of O'Melveny & Myers LLP (included within the opinions
filed as Exhibit 8.1).
24.1+ Powers of Attorney.
--------
* Filed herewith.
+ Filed previously.
EX-1.1
3
dex11.txt
UNDERWRITING AGREEMENT
EXHIBIT 1.1
Apex Mortgage Capital, Inc.
4,000,000 Shares of Common Stock
UNDERWRITING AGREEMENT
September __, 2001
JOLSON MERCHANT PARTNERS, INC.
One Embarcadero Center, Suite 2150
San Francisco, California 94111
Ladies and Gentlemen:
Apex Mortgage Capital, Inc., a Maryland corporation (the "Company"),
confirms its agreement with Jolson Merchant Partners, Inc. (the "Underwriter")
with respect to (i) the sale by the Company of 4,000,000 shares of common stock,
par value $.01 per share, of the Company ("Common Stock"), and the purchase by
the Underwriter of 4,000,000 shares of Common Stock, and (ii) the grant of the
option described in Section 1(b) hereof to purchase all or any part of 600,000
additional shares of Common Stock to cover over-allotments, if any, from the
Company to the Underwriter. The 4,000,000 shares of Common Stock to be
purchased by the Underwriter (the "Initial Shares") and all or any part of the
600,000 shares of Common Stock subject to the option described in Section l(b)
hereof (the "Option Shares") are hereinafter called, collectively, the "Shares."
The Company understands that the Underwriter proposes to make a public
offering of the Shares as soon as the Underwriter deems advisable after this
Underwriting Agreement (this "Agreement") has been executed and delivered.
The Company has filed with the Securities and Exchange Commission (the
"Commission"), a registration statement on Form S-2 (No. 333-________) and a
related preliminary prospectus for the registration of the Shares under the
Securities Act of 1933, as amended (the "Securities Act"), and the rules and
regulations thereunder (the "Securities Act Regulations"). The Company has
prepared and filed such amendments thereto, if any, and such amended preliminary
prospectuses, if any, as may have been required by the Commission on or before
the date hereof, and will file such additional amendments thereto and such
amended prospectuses as may hereafter be required by the Commission. The
registration statement as amended at the time it became effective (including all
information deemed (whether by incorporation by reference or otherwise) to be a
part of the registration statement at the time it became effective pursuant to
the Securities Act and the Securities Act Regulations) is hereinafter called the
"Registration Statement," except that, if the Company files a post-effective
amendment to such Registration Statement which becomes effective prior to the
Closing Time (as defined below), the term "Registration Statement" shall refer
to such Registration Statement as so amended. Any registration statement filed
pursuant to Rule 462(b) of the Securities Act Regulations is hereinafter called
the "Rule 462(b) Registration Statement," and after such filing
the term "Registration Statement" shall include the 462(b) Registration
Statement. The Registration Statement has been declared effective under the
Securities Act and the Securities Act Regulations by the Commission. Each
prospectus included in the Registration Statement, or amendments thereof or
supplements thereto, before it became effective under the Securities Act and any
prospectus filed with the Commission by the Company in connection with the
offering of the Shares with the consent of the Underwriter pursuant to Rule
424(a) of the Securities Act Regulations is hereinafter called the "Preliminary
Prospectus." The term "Prospectus" means the final prospectus, as first filed
with the Commission by the Company in connection with the offering of the Shares
pursuant to paragraph (1) or (4) of Rule 424(b) of the Securities Act
Regulations, and any amendments thereof or supplements thereto.
The Company and the Underwriter agree as follows:
1. Sale and Purchase:
-----------------
(a) Initial Shares. Upon the basis of the warranties and
representations and other terms and conditions herein set forth, at the purchase
price per share of $________ for each Initial Share, the Company agrees to sell
to the Underwriter and the Underwriter agrees to purchase from the Company
4,000,000 Initial Shares.
(b) Option Shares. In addition, upon the basis of the warranties and
representations and other terms and conditions herein set forth, at the purchase
price per share set forth in paragraph (a), the Company hereby grants to the
Underwriter an option to purchase up to 600,000 Option Shares. The option hereby
granted will expire 30 days after the date hereof and may be exercised one time
in whole or in part only for the purpose of covering over-allotments, which may
be made in connection with the offering and distribution of the Initial Shares,
upon notice by the Underwriter to the Company setting forth the number of Option
Shares as to which the Underwriter is exercising the option and the time and
date of payment and delivery for such Option Shares. Any such time and date of
delivery (the "Date of Delivery") shall be determined by the Underwriter, but
shall not be later than five full business days (or earlier, without the written
consent of the Company, than three full business days) after the exercise of
said option, nor in any event prior to the Closing Time, as hereinafter defined.
2. Payment and Delivery:
--------------------
(a) Initial Shares. The Initial Shares to be purchased by the
Underwriter hereunder, in definitive form, and in such authorized denominations
and registered in such names as the Underwriter may request upon at least forty-
eight hours' prior notice to the Company shall be delivered by or on behalf of
the Company to the Underwriter, including, at the option of the Underwriter,
through the facilities of The Depository Trust Company ("DTC") for the account
of the Underwriter, against receipt by the Company of payment by or on behalf of
the Underwriter of the purchase price therefor by wire transfer of immediately
available funds to the account specified to the Underwriter by the Company upon
at least forty-eight hours' prior notice. The Company shall cause the
certificates representing the Initial Shares to be made available for checking
and packaging at least twenty-four hours prior to the Closing Time (as defined
below) with respect thereto at the offices of Manatt, Phelps & Phillips, LLP,
11355 West Olympic Boulevard, Los Angeles, California 90064, or at the office of
DTC or its designated
custodian, as the case may be (the "Designated Office"). The time and date of
such delivery and payment shall be 9:30 a.m., New York City time, on September
__, 2001 or on such other time and date as the Company and the Underwriter may
agree upon in writing. The time at which such payment and delivery are actually
made is hereinafter sometimes called the "Closing Time" and the date of delivery
of either the Initial Shares or Option Shares is hereinafter sometimes called
the "Date of Delivery."
(b) Option Shares. Any Option Shares to be purchased by the
Underwriter hereunder, in definitive form, and in such authorized denominations
and registered in such names as the Underwriter may request upon at least forty-
eight hours' prior notice to the Company shall be delivered by or on behalf of
the Company to the Underwriter, including, at the option of the Underwriter,
through the facilities of DTC for the account of the Underwriter, against
receipt by the Company of payment by or on behalf of the Underwriter of the
purchase price therefor by wire transfer of immediately available funds to the
account specified to the Underwriter by the Company upon at least forty-eight
hours' prior notice. The Company shall cause the certificates representing the
Option Shares to be made available for checking and packaging at least twenty-
four hours prior to the Date of Delivery with respect thereto at the Designated
Office. The time and date of such delivery and payment shall be 9:30 a.m., New
York City time, on the date specified by the Underwriter in the notice given by
the Underwriter to the Company of the Underwriter's election to purchase such
Option Shares or on such other time and date as the Company and the Underwriter
may agree upon in writing.
3. Representations and Warranties of the Company: The Company
---------------------------------------------
represents and warrants to the Underwriter that:
(a) the authorized shares of Common Stock of the Company conform in
all material respects to the description thereof contained or incorporated by
reference in the Registration Statement and Prospectus; the Company has an
authorized, issued and outstanding capital stock is as set forth in the
Prospectus in the column entitled "Actual" under the caption "Capitalization" as
of the date stated in such section (except for subsequent issuances, if any,
pursuant to this Agreement, pursuant to agreements or benefit plans described or
incorporated by reference in the Prospectus and pursuant to outstanding
options); immediately after the Closing Time, __________ shares of Common Stock
will be issued and outstanding (subject to the Underwriter's option described in
Section 1(b) hereof) and no shares of any other class of capital stock will be
issued and outstanding. All of the issued and outstanding shares of Common Stock
of the Company have been duly authorized and are validly issued, fully paid and
non-assessable, and have been offered, sold and issued by the Company in
compliance in all material respects with all applicable laws (including, without
limitation, federal and state securities laws); none of the issued shares of
Common Stock of the Company have been issued in violation of any preemptive or
similar rights granted by the Company; except those disclosed or incorporated by
reference in the Prospectus, there is no outstanding option, warrant or other
right calling for the issuance of, and no commitment, plan or arrangement to
issue, any shares of Common Stock of the Company or any security convertible
into or exchangeable for shares of Common Stock of the Company;
(b) the Company has been duly incorporated and is validly existing as
a corporation in good standing under the laws of the State of Maryland with the
requisite corporate
power and authority to own, lease and operate its properties and to conduct its
business as now conducted and as described in the Registration Statement and the
Prospectus and to authorize, execute and deliver this Agreement and to
consummate the transactions contemplated hereby;
(c) the Company is duly qualified or registered to transact business
in each jurisdiction in which it conducts its businesses, except where the
failure, individually or in the aggregate, to be so qualified or registered
could not reasonably be expected to have a material adverse effect on the
assets, business, operations, earnings, properties or condition (financial or
otherwise) of the Company ("Material Adverse Effect"), and the Company is in
good standing in each jurisdiction in which it owns or leases real property or
maintains an office and in which such good standing is necessary, except where
the failure to be in good standing could not reasonably be expected to have a
Material Adverse Effect; the Company does not own, directly or indirectly, any
significant subsidiaries, as defined in the Securities Act Regulations;
(d) the Company is in compliance in all material respects with all
applicable laws, rules, regulations, orders, decrees and judgments applicable to
the Company;
(e) the Company is not in breach of or in default under (nor has any
event occurred which with notice, lapse of time, or both would constitute a
breach of, or default under), its charter or bylaws, or in the performance or
observance of any obligation, agreement, covenant or condition contained in any
license, indenture, mortgage, deed of trust, loan or credit agreement or other
agreement or instrument to which the Company is a party or by which the Company
or its properties is bound, except for such breaches or defaults which could not
reasonably be expected to have a Material Adverse Effect, and the issuance, sale
and delivery by the Company of the Shares, the execution, delivery and
performance of this Agreement, and consummation of the transactions contemplated
hereby will not conflict with, or result in any breach of, or constitute a
default under (nor constitute any event which with notice, lapse of time, or
both would constitute a breach of, or default under), (i) any provision of the
charter or bylaws of the Company, or (ii) any provision of any license,
indenture, mortgage, deed of trust, loan or credit agreement or other agreement
or instrument to which the Company is a party or by which the Company or its
properties may be bound or affected, or (iii) any federal, state, local or
foreign law, regulation or rule or any decree, judgment or order applicable to
the Company, except in each case for such conflicts, breaches or defaults which
could not reasonably be expected to have a Material Adverse Effect;
(f) the Company has the corporate power and authority to enter into
and perform this Agreement and to consummate the transactions contemplated
hereby; this Agreement has been duly authorized, executed and delivered by the
Company and is a legal, valid and binding agreement of the Company enforceable
in accordance with its terms, except as may be limited by bankruptcy,
insolvency, reorganization, moratorium or similar laws affecting creditors'
rights generally, by general principles of equity, and by federal or state
securities laws and public policy considerations in respect thereof;
(g) the issuance and sale of the Shares to the Underwriter hereunder
has been duly authorized by the Company; when issued and delivered against
payment therefor as provided in this Agreement, the Shares will be validly
issued, fully paid and non-assessable and the issuance of the Shares will not be
subject to any preemptive or similar rights; except as contemplated
herein, no person or entity holds a right to require or participate in the
registration under the Securities Act of the Shares pursuant to the Registration
Statement; no person or entity has a right of participation or first refusal
with respect to the sale of the Shares by the Company; there are no contracts,
agreements or understandings between the Company and any person or entity
granting such person or entity the rights to require the Company to file a
registration statement under the Securities Act with respect to any securities
of the Company or to require the Company to include such securities with the
Shares registered pursuant to the Registration Statement; the form of
certificates evidencing the Shares complies in all material respects with all
applicable laws and in all material respects with all applicable requirements of
the charter and bylaws of the Company and the requirements of the American Stock
Exchange;
(h) no approval, authorization, consent or order of or filing with any
federal, state or local governmental or regulatory commission, board, body,
authority or agency is required in connection with the Company's execution,
delivery and performance of this Agreement, its consummation of the transactions
contemplated hereby, or its sale and delivery of the Shares as contemplated
hereby, other than (i) such as have been obtained, or will have been obtained on
or before the Closing Time or the relevant Date of Delivery, as the case may be,
under the Securities Act or the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), and the rules and regulations thereunder (the "Exchange Act
Regulations"), (ii) such approvals as have been obtained in connection with the
approval of the listing of the Shares on the American Stock Exchange, (iii) any
necessary qualification under the securities or blue sky laws of the various
jurisdictions in which the Shares are being offered by the Underwriter, and (iv)
any necessary approvals by the National Association of Securities Dealers (the
"NASD");
(i) the Company has the necessary licenses, authorizations, consents
and approvals and has made the necessary filings required under any federal,
state or local law, regulation or rule, and has obtained the necessary
authorizations, consents and approvals from other persons required in order to
conduct its business as described in the Registration Statement and Prospectus
except where the failure to obtain such licenses, authorizations, consents and
approvals or make such filings could not reasonably be expected to have a
Material Adverse Effect; the Company is not in violation of, in default under,
or has received any notice regarding a possible violation, default or revocation
of any such license, authorization, consent or approval or any federal, state,
local or foreign law, regulation or rule or any decree, order or judgment
applicable to the Company except where such violation, default or revocation
could not reasonably be expected to have a Material Adverse Effect;
(j) each of the Registration Statement and any Rule 462(b)
Registration Statement has been declared effective by the Commission under the
Securities Act and no stop order suspending the effectiveness of the
Registration Statement or any Rule 462(b) Registration Statement has been issued
by the Commission under the Securities Act and no proceedings for that purpose
have been instituted and are pending or, to the knowledge of the Company, are
threatened by the Commission, and any request on the part of the Commission for
additional information has been complied with to the reasonable satisfaction of
the Commission;
(k) the Company and the transactions contemplated by this Agreement
satisfy the requirements and conditions for using a registration statement on
Form S-2 under the Securities Act and the Securities Act Regulations, as set
forth in the General Instructions to Form S-2;
except for the information and documents required to be delivered with the
Registration Statement, the Preliminary Prospectus and the Prospectus, the
Registration Statement and the Preliminary Prospectus comply and the Prospectus
and any further amendments or supplements thereto will comply, when they have
become effective or are filed with the Commission, as the case may be, in all
material respects with the requirements of the Securities Act and the Securities
Act Regulations and, in each case, present or incorporate by reference or will
present or will incorporate by reference, fairly the information required to be
presented; the Registration Statement did not, and any amendment thereto will
not, in each case as of the applicable effective date, contain an untrue
statement of a material fact or omit to state a material fact required to be
stated therein or necessary to make the statements therein not misleading;
provided, however, that the Company makes no warranty or representation with
respect to any statement contained in the Registration Statement, the
Preliminary Prospectus or the Prospectus in reliance upon and in conformity with
the information furnished in writing by or on behalf of the Underwriter to the
Company expressly for use in the Registration Statement, the Preliminary
Prospectus or the Prospectus (that information being limited to that described
in the last sentence of the first paragraph of Section 8(c) hereof); and the
Preliminary Prospectus does not, and the Prospectus or any amendment or
supplement thereto will not, as of the applicable filing date and at the Closing
Time and on each Date of Delivery (if any), contain an untrue statement of a
material fact or omit to state a material fact required to be stated therein or
necessary to make the statements therein, in the light of the circumstances
under which they were made, not misleading; provided, however, that the Company
makes no warranty or representation with respect to any statement contained in
the Registration Statement, the Preliminary Prospectus or the Prospectus in
reliance upon and in conformity with the information and furnished in writing by
or on behalf of the Underwriter to the Company expressly for use in the
Registration Statement, the Preliminary Prospectus or the Prospectus (that
information being limited to that described in the last sentence of the first
paragraph of Section 8(c) hereof);
(l) each document incorporated by reference in the Prospectus, when it
became effective or was filed with the Commission, as the case may be, conformed
in all material respects to the requirements of the Securities Act or the
Exchange Act, as applicable, and the Securities Act Regulations and the Exchange
Act Regulations, and none of such documents contained an untrue statement of a
material fact or omitted to state a material fact required to be stated therein
or necessary to make the statements therein, in light of the circumstances under
which they were made, not misleading;
(m) the Preliminary Prospectus was and the Prospectus delivered to the
Underwriter for use in connection with this offering will be substantially
similar to the versions of the Preliminary Prospectus and Prospectus transmitted
to the Commission for filing via the Electronic Data Gathering Analysis and
Retrieval System ("EDGAR"), as permitted by Regulation S-T;
(n) there are no actions, suits, proceedings, inquiries or
investigations pending or, to the knowledge of the Company, threatened against
the Company or to which the properties, assets or rights of the Company are
subject, at law or in equity, before or by any federal, state, local or foreign
governmental or regulatory commission, board, body, authority, arbitration panel
or agency which could reasonably be expected to result in a Material Adverse
Effect and which could materially affect the consummation of the transactions
contemplated by this Agreement;
(o) the financial statements, including the notes thereto, included as
part of the Registration Statement and the Prospectus or incorporated therein by
reference, present fairly the financial position of the Company as of the dates
indicated and the results of operations and changes in financial position and
cash flows of the Company for the periods specified; such financial statements
have been prepared in conformity with generally accepted accounting principles
as applied in the United States and on a consistent basis during the periods
involved (except as indicated in the notes thereto); the financial statement
schedules included in the Registration Statement and the Prospectus fairly
present the information shown therein; except for the information and the
documents required to be delivered with the Registration Statement, the
Preliminary Prospectus and the Prospectus, no other financial statements or
schedules are required by Form S-2 or otherwise to be included in the
Registration Statement or Prospectus;
(p) Deloitte & Touche, LLP whose reports on the financial statements
of the Company are included as part of the Registration Statement and Prospectus
or are incorporated therein by reference, are and were during the periods
covered by their reports independent public accountants as required by the
Securities Act and the Securities Act Regulations;
(q) subsequent to the respective dates as of which information is
given in the Registration Statement and the Preliminary Prospectus, and except
as may be otherwise indicated in the Registration Statement or Preliminary
Prospectus, there has not been (i) a Material Adverse Effect, whether or not
arising in the ordinary course of business, (ii) any transaction, entered into
by the Company which is material to the Company, (iii) any obligation,
contingent or otherwise incurred by the Company, which is material to the
Company or (iv) any dividend or distribution of any kind declared, paid or made
by the Company on any class of its capital stock;
(r) to the knowledge of the Company, the Company is not in breach of,
or default under (nor has any event occurred which with notice, lapse of time,
or both would constitute a breach of, or default under), the management
agreement dated December 9, 1997, as amended (the "Management Agreement")
between the Company and TCW Investment Management Company (the "Manager"),
except where such breaches or defaults could not reasonably be expected to have
a Material Adverse Effect;
(s) other than the executive officers named in the Registration
Statement, the Company has no employees and does not own or lease any real
property;
(t) each of the Company and, to its knowledge, its officers, directors
and controlling persons has not taken, and will not take any action which is
designed to or which constituted or which might reasonably be expected to cause
or result in stabilization or manipulation of the price of any security of the
Company to facilitate the sale or resale of the Shares;
(u) the Company has not relied upon the Underwriter or counsel for the
Underwriter for any legal, tax or accounting advice in connection with the
offering and sale of the Shares other than with respect to the NASD and the blue
sky laws;
(v) any certificate signed by any officer of the Company, which is
designated as a "Certificate," references this section and is delivered to the
Underwriter or to counsel for the
Underwriter pursuant to or in connection with this Agreement shall be deemed a
representation and warranty by the Company to each Underwriter as to the matters
covered thereby;
(w) the Company has good title to all personal property owned by it,
free and clear of all liens, security interests, pledges, charges, encumbrances,
mortgages and defects, except such as are disclosed or incorporated by reference
in the Registration Statement, the Preliminary Prospectus or the Prospectus or
such as do not materially and adversely affect the value of such property or do
not interfere with the use made or proposed to be made of such property by the
Company or could not reasonably be expected to result in a Material Adverse
Effect;
(x) the descriptions incorporated by reference in the Registration
Statement and the Preliminary Prospectus of the contracts, leases and other
legal documents therein described present fairly the information required to be
shown, and there are no contracts, leases, or other documents of a character
required to be described in the Registration Statement or the Preliminary
Prospectus or to be filed as exhibits to the Registration Statement which are
not described or filed as required or incorporated by reference as permitted;
(y) to its knowledge, the Company owns or possesses adequate license
or other rights to use all patents, trademarks, service marks, trade names,
copyrights, software and design licenses, trade secrets, manufacturing
processes, other intangible property rights and know-how (collectively
"Intangibles") necessary to entitle the Company to conduct its business as
described in the Prospectus, and other than as disclosed to the Underwriter
respecting the Company's name, the Company has not received notice of
infringement of or, to its knowledge, conflict with the asserted rights of
others with respect to any Intangibles except as could not reasonably be
expected to result in a Material Adverse Effect;
(z) the Company maintains a system of internal accounting controls
sufficient to provide reasonable assurance that (i) transactions are executed in
accordance with management's general or specific authorizations; and (ii)
transactions are recorded as necessary to permit preparation of financial
statements in conformity with generally accepted accounting principles and to
maintain asset accountability;
(aa) the Company has filed on a timely basis all necessary federal,
state, local and foreign income and franchise tax returns required to be filed
through the date hereof and has paid all taxes shown as due thereon; and, to its
knowledge, no tax deficiency has been asserted against the Company, nor does the
Company know of any tax deficiency which is likely to be asserted against it
which if determined adversely to the Company, could reasonably be expected to
have a Material Adverse Effect;
(bb) the Company maintains insurance (issued by insurers of recognized
financial responsibility) of the types and in the amounts generally deemed
adequate for its business and consistent with insurance coverage maintained by
similar companies in similar businesses, including, but not limited to,
insurance covering personal property owned or leased by the Company against
theft, damage, destruction, acts of vandalism and all other risks customarily
insured against, all of which insurance is in full force and effect;
(cc) except as otherwise disclosed or incorporated by reference in the
Registration Statement or the Preliminary Prospectus, there are no other
material outstanding loans or advances or material guarantees of indebtedness by
the Company to or for the benefit of any of the officers or directors of the
Company or any of the members of the families of any of them, which are required
to be disclosed in the Preliminary Prospectus;
(dd) the Shares have been approved for listing, upon official notice
of issuance, on the American Stock Exchange;
(ee) in connection with the offering of Shares, the Company has not
offered and will not offer its Common Stock or any other securities convertible
into or exchangeable or exercisable for Common Stock in a manner in violation of
the Securities Act or the Securities Act Regulations; other than the information
and documents required or permitted to be distributed pursuant to the Securities
Act, the Securities Act Regulations, the Exchange Act and the Exchange Act
Regulations, the Company has not distributed and will not distribute any
offering material in connection with the offer and sale of the Shares except as
contemplated herein;
(ff) the Company is organized and operates in conformity with the
requirements for qualification as a real estate investment trust under Sections
856 through 860 of the Internal Revenue Code of 1986, as amended (the "Code"),
and the Company's proposed method of operation will enable it to satisfy the
requirements for qualification as a real estate investment trust under the Code;
(gg) no relationship exists between or among the Company on the one
hand, and the directors, officers, stockholders, customers or suppliers of the
Company on the other hand, which is required by the Securities Act and the
Securities Act Regulations to be described in the Registration Statement and the
Prospectus and which is not so described or incorporated by reference; and
(hh) the Company is not and, after giving effect to the offering and
sale of the Shares, will not become an "investment company" or an entity
"controlled" by and "investment company," as such terms are defined in the
Investment Company Act of 1940, as amended (the "Investment Company Act").
4. Certain Covenants: The Company hereby agrees with the Underwriter:
------------------
(a) to furnish the Underwriter such information as may be reasonably
required and otherwise to cooperate in qualifying the Shares for offer and sale
under the securities or blue sky laws of such states as the Underwriter may
reasonably designate and to maintain such qualifications in effect as long as
reasonably required for the distribution of the Shares, provided that the
Company shall not be required to qualify as a foreign corporation or to consent
to the service of process under the laws of any such state;
(b) if, at the time this Agreement is executed and delivered, it is
necessary for a post-effective amendment to the Registration Statement to be
declared effective before the sale of the Shares may commence, the Company will
endeavor to cause such post-effective
amendment to become effective as soon as practicable and will advise the
Underwriter promptly and, if requested by the Underwriter, will confirm such
advice in writing, when such post-effective amendment has been declared
effective by the Commission;
(c) to prepare the Prospectus in a form reasonably approved by the
Underwriter and file such Prospectus with the Commission pursuant to Rule 424(b)
within the time period prescribed by the Securities Act Regulations and to
furnish promptly (and with respect to the initial delivery of such Prospectus,
not later than 10:00 a.m. (New York City time) on the second day following the
execution and delivery of this Agreement) to the Underwriter as many copies of
the Prospectus (or of the Prospectus as amended or supplemented if the Company
shall have made any amendments or supplements thereto after the effective date
of the Registration Statement) as the Underwriter may reasonably request for the
purposes contemplated by the Securities Act Regulations, which Prospectus and
any amendments or supplements thereto furnished to the Underwriter will be
substantially similar to the version created to be transmitted to the Commission
for filing via EDGAR, as permitted by Regulation S-T;
(d) to advise the Underwriter promptly and (if requested by the
Underwriter) to confirm such advice in writing, when the Registration Statement
has been declared effective by the Commission and when any post-effective
amendment thereto has been declared effective by the Commission under the
Securities Act Regulations;
(e) to advise the Underwriter immediately, confirming such advice in
writing, of (i) the receipt of any comments from, or any request by, the
Commission for amendments or supplements to the Registration Statement or
Prospectus or for additional information with respect thereto, or (ii) the
issuance by the Commission of any stop order suspending the effectiveness of the
Registration Statement or of any order preventing or suspending the use of any
Preliminary Prospectus or the Prospectus, or, to the knowledge of the Company,
of the suspension of the qualification of the Shares for offering or sale in any
jurisdiction, or, to the knowledge of the Company, of the initiation or
threatening of any proceedings for any of such purposes and, if the Commission
or any other government agency or authority should issue to the Company any such
order, to make every reasonable effort to obtain the lifting or removal of such
order as soon as possible; to advise the Underwriter promptly of any proposal to
amend or supplement the Registration Statement or Prospectus and, unless the
Company determines it is required by applicable law, to file no such amendment
or supplement to which the Underwriter shall reasonably object in writing;
(f) to file promptly with the Commission any amendment to the
Registration Statement or the Prospectus or any supplement to the Prospectus
that may, in the judgment of the Company or the Underwriter, be required by the
Securities Act or requested by the Commission;
(g) prior to filing with the Commission any amendment to the
Registration Statement or supplement to the Prospectus or any Prospectus
pursuant to Rule 424 of the Securities Act Regulations, to furnish a copy
thereof to the Underwriter and counsel for the Underwriter and obtain the
consent of the Underwriter to the filing, which consent shall not be
unreasonably withheld or delayed;
(h) to the extent consistent with Regulation FD (for purposes of this
paragraph (h), the phrase "consistent with Regulation FD" means without
obligating the Company to make similar disclosures to all of its stockholders or
the public generally), to furnish to the Underwriter for a period of five years
from the date of this Agreement (i) as soon as available, copies of all annual,
quarterly and current reports or other communications supplied to holders of
shares of Common Stock, (ii) as soon as practicable after the filing thereof,
copies of all reports filed by the Company with the Commission, the NASD or the
American Stock Exchange and (iii) such other publicly available information as
the Underwriter may reasonably request regarding the Company;
(i) to the extent consistent with Regulation FD (for purposes of this
paragraph (i), the phrase "consistent with Regulation FD" means without
obligating the Company to make similar disclosures to all of its stockholders or
the public generally), to advise the Underwriter promptly during any period of
time in which a Prospectus relating to the Shares is required to be delivered
under the Securities Act Regulations (i) of any material change in the Company's
assets, operations, business or condition (financial or otherwise) or (ii) of
the happening of any event which would require the making of any change in the
Prospectus then being used so that the Prospectus would not include an untrue
statement of a material fact or omit to state a material fact required to be
stated therein or necessary to make the statements therein, in the light of the
circumstances under which they were made, not misleading, and, during such time,
to prepare and furnish, at the Company's expense, to the Underwriter promptly
such amendments or supplements to such Prospectus as may be necessary to reflect
any such change and to furnish to the Underwriter a copy of such proposed
amendment or supplement before filing any such amendment or supplement with the
Commission;
(j) to furnish promptly to the Underwriter a signed copy of the
Registration Statement, as initially filed with the Commission, and of all
amendments or supplements thereto (including all exhibits filed therewith) and
such number of conformed copies of the foregoing as the Underwriter may
reasonably request;
(k) to furnish to the Underwriter, not less than two business days
before filing with the Commission, subsequent to the effective date of the
Registration Statement and during the period of time in which a prospectus
relating to the Shares is required to be delivered under the Securities Act
Regulations, a copy of any document proposed to be filed with the Commission
pursuant to Section 13, 14, or 15(d) of the Exchange Act;
(l) to apply the net proceeds of the sale of the Shares in accordance
with its statements under the caption "Use of Proceeds" in the Prospectus;
(m) to use its commercially reasonable efforts to effect and maintain
the listing of the Shares on the American Stock Exchange and to file with the
American Stock Exchange all documents and notices required by the American Stock
Exchange of companies that have securities that are listed on the American Stock
Exchange;
(n) to engage and maintain, at its expense, a registrar and transfer
agent for the Common Stock;
(o) to materially comply with all of the provisions of any
undertakings in the Registration Statement;
(p) to use its reasonable efforts to meet the requirements for
qualification as a real estate investment trust under Sections 856 through 860
of the Code;
(q) to conduct its affairs in such a manner so as to ensure that the
Company will not be an "investment company" or an entity "controlled" by an
investment company within the meaning of the Investment Company Act;
(r) to not itself and to use its reasonable efforts to cause its
officers, directors and affiliates not to (i) take, directly or indirectly prior
to the distribution of the Shares, any action designed to stabilize or
manipulate the price of any security of the Company, or which may cause or
result in, or which might in the future reasonably be expected to cause or
result in, the stabilization or manipulation of the price of any security of the
Company, to facilitate the sale or resale of any of the Shares, (ii) sell, bid
for, purchase or pay anyone any compensation for soliciting purchases of the
Shares or (iii) pay or agree to pay to any person any compensation for
soliciting any order to purchase any other securities of the Company; and
(s) to maintain a system of internal accounting controls sufficient
to provide reasonable assurance that (i) transactions are executed in accordance
with management's general or specific authorizations, and (ii) transactions are
recorded as necessary to permit preparation of financial statements in
conformity with generally accepted accounting principles, and to maintain asset
accountability.
5. Payment of Expenses:
-------------------
The Company agrees to pay all costs and expenses incident to the
performance of its obligations under this Agreement, including expenses and fees
(other than the expenses and fees of the Underwriter and its counsel except as
provided below) in connection with (i) the preparation and filing of the
Registration Statement, each Preliminary Prospectus, the Prospectus, and any
amendments or supplements thereto, and the printing and furnishing of copies of
each thereof to the Underwriter and to dealers (including costs of mailing and
shipment), (ii) the preparation, issuance and delivery of the certificates for
the Shares to the Underwriter, including any stock or other transfer taxes or
duties payable upon the sale of the Shares to the Underwriter, (iii) the
printing of this Agreement and any dealer agreements and furnishing of copies of
each to the Underwriter and to dealers (including costs of mailing and
shipment), (iv) the qualification of the Shares for offering and sale under
state laws that the Company and the Underwriter have mutually agreed are
appropriate and the determination of their eligibility for investment under
state law as aforesaid (including, for this aspect of the transaction, the legal
fees and filing fees and other disbursements of counsel for the Underwriter) and
the printing and furnishing of copies of any blue sky surveys or legal
investment surveys to the Underwriter and to dealers, provided, however, that
such fees shall not exceed $1,000, (v) filing for review of the public offering
of the Shares by the NASD (including, for this aspect of the transaction, the
legal fees and filing fees and other disbursements of counsel for the
Underwriters relating thereto), provided, however, that such fees shall not
exceed $2,000, (vi) the fees and expenses of any transfer agent or registrar for
the Shares and miscellaneous expenses
-12-
referred to in Part II of the Registration Statement, (vii) the Company's
expenses incurred for lodging and travel of the Company's employees (provided
that the parties shall use their reasonable efforts to utilize a commercial
carrier) in making road show presentations with respect to the offering of the
Shares, and (viii) the fees and expenses incurred by the Company in connection
with the listing of the Shares on the American Stock Exchange.
6. Conditions of the Underwriter's Obligations: The obligations of
-------------------------------------------
the Underwriter hereunder to purchase Shares at the Closing Time or on the Date
of Delivery, as applicable, are subject to (i) the accuracy of the
representations and warranties on the part of the Company in all material
respects on the date hereof and at the Closing Time and on each Date of
Delivery, as applicable, (ii) the performance by the Company of its obligations
hereunder in all material respects, and (iii) to the satisfaction of the
following further conditions at the Closing Time or on the Date of Delivery, as
applicable:
(a) If, at the time this Agreement is executed and delivered, it is
necessary for a post-effective amendment to the Registration Statement to be
declared effective by the Commission before the offering of the Shares may
commence, such post-effective amendment shall have been declared effective by
the Commission not later than 5:30 p.m., New York City time, on the date hereof,
or at such later date and time as shall be reasonably consented to in writing by
the Underwriter, which consent shall not be unreasonably withheld or delayed;
(b) The Underwriter shall have received at the Closing Time and on
each Date of Delivery an opinion of O'Melveny & Myers LLP, counsel for the
Company, addressed to the Underwriter and dated the Closing Time and each Date
of Delivery and substantially in the form attached hereto as Exhibit C;
(c) The Underwriter shall have received at the Closing Time and on
each Date of Delivery an opinion of Ballard Spahr Andrews & Ingersoll, LLP,
counsel for the Company, addressed to the Underwriter and dated the Closing Time
and each Date of Delivery and substantially in the form attached hereto as
Exhibit D;
(d) The Underwriter shall have received at the Closing Time and on
each Date of Delivery an opinion of O'Melveny & Myers LLP, tax counsel for the
Company, addressed to the Underwriter and dated the Closing Time and each Date
of Delivery and substantially in the form attached hereto as Exhibit E;
(e) The Underwriter shall have received from Deloitte & Touche, LLP,
letters dated, respectively, as of the date of this Agreement, the Closing Time
and each Date of Delivery, as the case may be, addressed to the Underwriter, in
form and substance reasonably satisfactory to the Underwriter, relating to the
financial statements of the Company, and such other matters customarily covered
by comfort letters issued in connection with registered public offerings of a
similar nature;
(f) The Underwriter shall have received at the Closing Time and on
each Date of Delivery the favorable opinion of Manatt, Phelps & Phillips, LLP,
counsel to the Underwriter, dated the Closing Time or such Date of Delivery,
addressed to the Underwriter and in form and substance satisfactory to the
Underwriter;
-13-
(g) No amendment or supplement to the Registration Statement or
Prospectus shall have been filed to which the Underwriter shall have reasonably
objected in writing;
(h) Prior to the Closing Time and each Date of Delivery (i) no stop
order suspending the effectiveness of the Registration Statement or any order
preventing or suspending the use of any Preliminary Prospectus or Prospectus has
been issued and outstanding, and no proceedings for such purpose shall have been
initiated or threatened by the Commission and remain unresolved, and no
suspension of the qualification of the Shares for offering or sale in any
jurisdiction, or of the initiation or threatening of any proceedings for any of
such purposes, has occurred and remain unresolved, (ii) the Registration
Statement shall not contain an untrue statement of material fact or omit to
state a material fact required to be stated therein or necessary to make the
statements therein not misleading, and (iii) the Prospectus shall not contain an
untrue statement of a material fact or omit to state a material fact required to
be stated therein or necessary to make the statements therein, in light of the
circumstances under which they were made, not misleading;
(i) Between the time of execution of this Agreement and the Closing
Time or the relevant Date of Delivery (i) no Material Adverse Effect of the
Company shall occur or become known (whether or not arising in the ordinary
course of business) or that makes it, in the reasonable judgment of the
Underwriter, impracticable to market the Shares in the manner contemplated in
the Prospectus, or (ii) no transaction which is material and unfavorable to the
Company shall have been entered into by the Company;
(j) At the Closing Time, the Shares shall have been approved for
listing, upon official notice of issuance, on the American Stock Exchange;
(k) The NASD shall not have raised any objection with respect to the
fairness and reasonableness of the underwriting terms and arrangements, which
objection has not been resolved to the reasonable satisfaction of the NASD;
(l) The Underwriter shall have received lock-up agreements from each
person listed on Schedule I attached hereto, substantially in the form of
----------
Exhibit A attached hereto, and such lock-up agreements shall be in full force
and effect;
(m) The Manager shall have furnished the Underwriter the letter
agreement substantially in the form of Exhibit B attached hereto (the "Manager's
Representation Letter") and the representations and warranties in the Manager's
Representation Letter shall be accurate in all material respects as of the date
hereof, the Closing Time and on each Date of Delivery;
(n) The Company will, at the Closing Time and on each Date of
Delivery, deliver to the Underwriter a certificate of two principal executive
officers to the effect that, to each of such officer's knowledge, the
representations and warranties of the Company set forth in this Agreement are
true and correct in all material respects, the conditions set forth in
paragraphs (i) and (k) have been satisfied in all material respects, and the
Company has performed in all material respects its obligations under this
Agreement, in each case as of such date;
-14-
(o) The Company shall have furnished to the Underwriter such other
documents and certificates as to the accuracy and completeness of any statement
in the Registration Statement and the Prospectus, the representations,
warranties and statements of the Company contained herein, the performance by
the Company of its covenants contained herein, and the fulfillment of any
conditions contained herein, as of the Closing Time or any Date of Delivery as
the Underwriter may reasonably request; and
(p) All filings with the Commission required by Rule 424 under the
Securities Act Regulations shall have been made within the applicable time
period proscribed for such filing by such Rule.
7. Termination: The obligations of the Underwriter hereunder shall
-----------
be subject to termination in the reasonable discretion of the Underwriter, at
any time prior to the Closing Time or any Date of Delivery, (i) if any of the
conditions specified in Section 6 shall not have been fulfilled in all material
respects when and as required by this Agreement to be fulfilled, or (ii) if
there has been since the respective dates as of which information is given in
the Registration Statement, any Material Adverse Effect, whether or not arising
in the ordinary course of business, or (iii) if there has occurred outbreak or
escalation of hostilities or other national or international calamity or crisis
or change in economic, political or other conditions the effect of which on the
financial markets of the United States is such as to make it, in the reasonable
judgment of the Underwriter, impracticable to market the Shares or enforce
contracts for the sale of the Shares, or (iv) if trading in any securities of
the Company has been suspended by the Commission or by the American Stock
Exchange, or if trading generally on the American Stock Exchange has been
suspended (including automatic halt in trading pursuant to market-decline
triggers other than those in which solely program trading is temporarily
halted), or limitations on prices for trading (other than limitations on hours
or numbers of days of trading) have been fixed, or maximum ranges for prices for
securities have been required, by such exchange or the NASD or by order of the
Commission or any other governmental authority, or (v) any federal or state
statute, regulation, rule or order of any court or other governmental authority
has been enacted, published, decreed or otherwise promulgated which in the
reasonable opinion of the Underwriter materially adversely affects or will
materially adversely affect the business or operations of the Company, or (vi)
any action has been taken by any federal, state or local government or agency in
respect of its monetary or fiscal affairs which in the reasonable opinion of the
Underwriter has a material adverse effect on the securities markets in the
United States, or (vii) in the case of any of the events specified in clauses
(i) through (vi), such event, singly or together with any other such events,
makes it, in the judgment of the Underwriter, impracticable to market or deliver
the Shares on the terms and in the manner contemplated in the Prospectus.
If the Underwriter elects to terminate this Agreement as provided in
this Section 7, the Company shall be notified promptly by telephone, promptly
confirmed by facsimile.
If the sale to the Underwriter of the Shares, as contemplated by this
Agreement, is not carried out by the Underwriter for any reason permitted under
this Agreement or if such sale is not carried out because the Company shall be
unable to comply in all material respects with any of the terms of this
Agreement, the Company shall not be under any obligation or liability
-15-
under this Agreement and the Underwriter shall be under no obligation or
liability to the Company under this Agreement or to one another hereunder.
8. Indemnity and Contribution by the Company and the Underwriter:
-------------------------------------------------------------
(a) The Company agrees to indemnify, defend and hold harmless the
Underwriter and any person who controls the Underwriter within the meaning of
Section 15 of the Securities Act or Section 20 of the Exchange Act from and
against any loss, expense, liability, damage or claim (including the reasonable
cost of investigation) which the Underwriter or controlling person may incur
under the Securities Act, the Exchange Act or otherwise, insofar as such loss,
expense, liability, damage or claim arises out of or is based upon (i) any
breach of any representation, warranty or covenant of the Company contained
herein, (ii) any untrue statement or alleged untrue statement of a material fact
contained in the Registration Statement (or in the Registration Statement as
amended by any post-effective amendment thereof by the Company), or arises out
of or is based upon any omission or alleged omission to state a material fact
required to be stated in such Registration Statement or necessary to make the
statements made therein, not misleading, except insofar as any such loss,
expense, liability, damage or claim arises out of or is based upon any untrue
statement or alleged untrue statement or omission or alleged omission of a
material fact contained in such Registration Statement and in conformity with
information furnished in writing by the Underwriter to the Company expressly for
use in such Registration Statement; or (iii) any untrue statement or alleged
untrue statement of a material fact contained in a Prospectus (the term
Prospectus for the purpose of this Section 8 being deemed to include any
Preliminary Prospectus and the Prospectus as amended or supplemented by the
Company), or arises out of or is based upon any omission or alleged omission to
state a material fact required to be stated in such Prospectus or necessary to
make the statements made therein, in the light of the circumstances under which
they were made, not misleading, except insofar as any such loss, expense,
liability, damage or claim arises out of or is based upon any untrue statement
or alleged untrue statement or omission or alleged omission of a material fact
contained in such Prospectus and in conformity with information furnished in
writing by the Underwriter to the Company expressly for use in such Prospectus.
(b) If any action is brought against the Underwriter or controlling
person in respect of which indemnity may be sought against the Company pursuant
to Subsection 8(a) above, the Underwriter shall promptly notify the Company in
writing of the institution of such action, and the Company shall assume the
defense of such action, including the employment of counsel and payment of
expenses; provided, however, that any failure or delay to so notify the Company
will not relieve the Company of any obligation hereunder, to the extent that the
Company is not materially prejudiced by such failure or delay. The Underwriter
or controlling person shall have the right to employ its or their own outside
legal counsel in any such case, but the fees and expenses of such outside legal
counsel shall be at the expense of the Underwriter or such controlling person
unless the employment of such outside legal counsel shall have been authorized
in writing by the Company in connection with the defense of such action, or the
Company shall not have employed outside legal counsel to have charge of the
defense of such action within a reasonable time or such indemnified party or
parties shall have reasonably concluded (based on the advice of outside legal
counsel) that there may be defenses available to it or them which are different
from or additional to those available to the Company (in which case the Company
shall not have the right to direct the defense of such action on behalf
-16-
of the indemnified party or parties), in any of which events such reasonable
out-of-pocket fees and expenses of outside legal counsel shall be borne by the
Company and paid on a monthly basis as incurred (it being understood, however,
that the Company shall not be liable for the expenses of more than one separate
firm of outside attorneys for the Underwriter or controlling persons). Anything
in this paragraph to the contrary notwithstanding, the Company shall not be
liable for any settlement of any such claim or action effected without its
written consent, which shall not be unreasonably withheld.
(c) The Underwriter agrees to indemnify, defend and hold harmless the
Company, the Company's directors, the Company's officers that signed the
Registration Statement, and any person who controls the Company within the
meaning of Section 15 of the Securities Act or Section 20 of the Exchange Act,
from and against any loss, expense, liability, damage or claim (including the
reasonable cost of investigation) which, jointly or severally, the Company or
any such person may incur under the Securities Act, the Exchange Act or
otherwise, but only insofar as such loss, expense, liability, damage or claim
arises out of or is based upon (i) upon any untrue statement or alleged untrue
statement of a material fact contained in the Registration Statement (or in the
Registration Statement as amended by any post-effective amendment thereof by the
Company) and in conformity with information furnished in writing by the
Underwriter to the Company expressly for use in the Registration Statement, or
arises out of or is based upon any omission or alleged omission to state a
material fact in connection with such information required to be stated in such
Registration Statement or necessary to make such information not misleading; or
(ii) any untrue statement or alleged untrue statement of a material fact
contained in the Prospectus (the term Prospectus for the purpose of this Section
8 being deemed to include any Preliminary Prospectus and the Prospectus, as
amended and supplemented) and in conformity with information furnished in
writing by the Underwriter to the Company expressly for use in the Prospectus,
or arises out of or is based upon any omission or alleged omission to state a
material fact required to be stated in such Prospectus or necessary to make the
statements therein, in the light of the circumstances under which made, not
misleading. The statements set forth (i) in the last paragraph on the cover page
of the Preliminary Prospectus and the Prospectus and (ii) under the caption
"Underwriting" in the Preliminary Prospectus and the Prospectus (to the extent
such statements relate to the Underwriter) constitute the only information
furnished by or on behalf of the Underwriter to the Company expressly for use in
the Registration Statement and the Prospectus and the Underwriter shall be
deemed to have provided such information to the Company regardless of whether
such statements were actually made or delivered by a party other than Jolson
Merchant Partners, Inc. or its representatives.
If any action is brought against the Company or any such person in
respect of which indemnity may be sought against the Underwriter pursuant to the
foregoing paragraph, the Company or such person shall promptly notify the
Underwriter in writing of the institution of such action and the Underwriter
shall assume the defense of such action, including the employment of counsel and
payment of expenses. The Company or such person shall have the right to employ
its own counsel in any such case, but the fees and expenses of such counsel
shall be at the expense of the Company or such person unless the employment of
such counsel shall have been authorized in writing by the Underwriter in
connection with the defense of such action or the Underwriter shall not have
employed counsel to have charge of the defense of such action within a
reasonable time or such indemnified party or parties shall have reasonably
concluded
-17-
(based on the advice of counsel) that there may be defenses available to it or
them which are different from or additional to those available to the
Underwriter (in which case the Underwriter shall not have the right to direct
the defense of such action on behalf of the indemnified party or parties), in
any of which events such fees and expenses shall be borne by such Underwriter
and paid as incurred (it being understood, however, that the Underwriter shall
ot be liable for the expenses of more than one separate firm of attorneys in
any one action or series of related actions in the same jurisdiction (other than
local counsel in any such jurisdiction) representing the indemnified parties who
are parties to such action). Anything in this paragraph to the contrary
notwithstanding, the Underwriter shall not be liable for any settlement of any
such claim or action effected without the written consent of the Underwriter,
which consent shall not be unreasonably withheld or delayed.
(d) If the indemnification provided for in this Section 8 is
unavailable to an indemnified party under subsections (a), (b) and (c) of this
Section 8 in respect of any losses, expenses, liabilities, damages or claims
referred to therein, then each applicable indemnifying party, in lieu of
indemnifying such indemnified party, shall contribute to the amount paid or
payable by such indemnified party as a result of such losses, expenses,
liabilities, damages or claims (i) in such proportion as is appropriate to
reflect the relative benefits received by the Company and the Underwriter from
the offering of the Shares or (ii) if (but only if) the allocation provided by
clause (i) above is not permitted by applicable law, in such proportion as is
appropriate to reflect not only the relative benefits referred to in clause (i)
above but also the relative fault of the Company, on the one hand, and of the
Underwriter, on the other hand, in connection with the statements or omissions
which resulted in such losses, expenses, liabilities, damages or claims, as well
as any other relevant equitable considerations. The relative benefits received
by the Company, on the one hand, and the Underwriter, on the other hand, shall
not be deemed to be in the same proportion as the total proceeds from the
offering (net of underwriting discounts and commissions but before deducting
expenses) received by the Company bear to the underwriting discounts and
commissions received by the Underwriter. The relative fault of the Company, on
the one hand, and of the Underwriter, on the other hand, shall be determined by
reference to, among other things, which party had an opportunity to correct the
untrue statement or alleged untrue statement of a material fact or omission or
alleged omission and the parties' relative intent, knowledge and access to
information. The amount paid or payable by a party as a result of the losses,
claims, damages and liabilities referred to above shall be deemed to include any
reasonable, out-of-pocket legal or other fees or expenses reasonably incurred by
such party in connection with investigating or defending any claim or action.
(e) The Company and the Underwriter agree that it would not be just
and equitable if contribution pursuant to this Section 8 were determined by pro
rata allocation or by any other method of allocation which does not take account
the equitable considerations referred to in Subsection 8(d)(i) and, if
applicable 8(d)(ii), above. Notwithstanding the provisions of this Section 8,
the Underwriter shall not be required to contribute any amount in excess of the
underwriting discounts and commissions applicable to the Shares purchased by the
Underwriter. No person guilty of fraudulent misrepresentation (within the
meaning of Section 11(f) of the Securities Act) shall be entitled to
contribution from any person who was not guilty of such fraudulent
misrepresentation.
-18-
9. Survival: The indemnity and contribution agreements contained in
--------
Section 8 and the covenants, warranties and representations of the Company
contained in Sections 3, 4 and 5 of this Agreement shall remain in full force
and effect regardless of any investigation made by or on behalf of the
Underwriter, or any person who controls the Underwriter within the meaning of
Section 15 of the Securities Act or Section 20 of the Exchange Act, and shall
survive any termination of this Agreement or the sale and delivery of the
Shares. The Company and the Underwriter agree promptly to notify the other of
the commencement of any litigation or proceeding against it and, in the case of
the Company, against any of the Company's officers and directors, in connection
with the sale and delivery of the Shares, or in connection with the Registration
Statement or Prospectus.
10. Notices: Except as otherwise herein provided, all statements,
-------
requests, notices and agreements shall be in writing or by telegram and, if to
the Underwriter, shall be sufficient in all respects if delivered to Jolson
Merchant Partners, Inc., One Embarcadero Center, Suite 2150, San Francisco,
California, 94111, Attention: Syndicate Department; if to the Company, shall be
sufficient in all respects if delivered to the Company at the offices of the
Company at 865 South Figueroa Street, Los Angeles, California 90017.
11. Governing Law; Headings: THIS AGREEMENT SHALL BE GOVERNED BY,
-----------------------
AND CONSTRUED IN ACCORDANCE WITH, THE LAWS OF THE STATE OF NEW YORK, WITHOUT
REGARD TO CONFLICTS OF LAWS PRINCIPLES. The section headings in this Agreement
have been inserted as a matter of convenience of reference and are not a part of
this Agreement.
The parties in interest irrevocably submit to the exclusive
jurisdiction of any United States federal court sitting in New York, New York in
respect of any suit, action, or proceeding arising out of or relating to this
Agreement or the transactions contemplated hereby and hereby irrevocably agree
that all claims in respect of any such suit, action or proceeding shall be held
and determined in any such court. Each party hereto irrevocably waives any
objection to the laying of venue of any such action, suit or proceeding in such
court.
12. Parties in Interest: The agreement herein set forth has been and
-------------------
is made solely for the benefit of the Underwriter, the Company and the
controlling persons, directors and officers referred to in Sections 8 and 9
hereof, and their respective successors, assigns, executors and administrators.
No other person, partnership, association or corporation (including a purchaser,
as such purchaser, from the Underwriter) shall acquire or have any right under
or by virtue of this Agreement.
13. Counterparts and Facsimile Signatures: This Agreement may be
-------------------------------------
signed by the parties in counterparts which together shall constitute one and
the same agreement among the parties. A facsimile signature shall constitute an
original signature for all purposes.
-19-
If the foregoing correctly sets forth the understanding between the
Company and the Underwriter, please so indicate in the space provided below for
the purpose, whereupon this Agreement shall constitute a binding agreement
between the Company and the Underwriter.
Very truly yours,
APEX MORTGAGE CAPITAL, INC.
--------------------------------------
By:
Title:
Accepted and agreed to as
of the date first above written:
JOLSON MERCHANT PARTNERS, INC.
--------------------------------------
By:
Title:
-20-
Schedule I
----------
Lock-Up Parties
---------------
[All Directors and Officers of the Company]
Schedule I-1
Exhibit A
---------
Lock-Up Agreement
-----------------
[Date]
Jolson Merchant Partners, Inc.
One Embarcadero Center, Suite 2150
San Francisco, California 94111
Re: Apex Mortgage Capital, Inc. (the "Company")
-------------------------------------------
Ladies and Gentlemen:
The undersigned is an owner of record or beneficially of certain shares of
common stock of the Company ("Common Stock") or securities convertible into,
exchangeable, or exercisable for Common Stock ("Securities"). The Company
proposes to carry out a public offering of Common Stock (the "Offering") for
which you will act as the underwriter. The undersigned recognizes that the
Offering will be of benefit to the undersigned and will benefit the Company by,
among other things, raising additional capital for its operations. The
undersigned acknowledges that you are relying on the representations and
agreements of the undersigned contained in this Lock-Up Agreement in carrying
out the Offering and in entering into the Underwriting Agreement and the other
underwriting arrangements with the Company with respect to the Offering.
In consideration of the foregoing, the undersigned hereby agrees that the
undersigned will not, without the prior written consent of Jolson Merchant
Partners, Inc. (which consent may be withheld in its sole discretion), directly
or indirectly, sell, offer, contract, or grant any option to sell (including
without limitation any short sale), pledge, transfer, establish an open "put
equivalent position" within the meaning of Rule 16a-1(h) under the Securities
Exchange Act of 1934, as amended, and the rules and regulations promulgated
thereunder (collectively, the "Exchange Act") or otherwise dispose of any shares
of Securities (collectively, a "Disposition") currently or hereafter owned
either of record or beneficially (as defined in Rule 13d-3 under the Exchange
Act) by the undersigned, or publicly announce the undersigned's intention to do
any of the foregoing, for a period commencing on the date hereof and continuing
through the close of trading on the date [__________] days after the date of the
Prospectus (the "Lock-Up Period"). Notwithstanding the foregoing, the
undersigned shall have the right to consummate the following during the Lock-Up
Period or otherwise: (i) any transfer of all or part of the Securities as a
bona fide gift or gifts, provided the donee or donees thereof agree in writing
to be bound by the terms of this Lock-Up Agreement; (ii) any transfer of all or
part of the Securities to a trust the beneficiaries of which are exclusively the
undersigned, a member or members of his or her immediate family and/or a
charity, provided that the trust agrees in writing to be bound by the terms of
this Lock-Up Agreement; (iii) any transfer of all or part of the Securities as a
distribution to partners, shareholders or beneficiaries of such person, provided
that the distributees thereof agree in writing to be bound by the terms of this
Lock-Up Agreement;
Exhibit A-1
(iv) any transfer of Securities acquired on the open market; and (v) any
transfer of all or part of the Securities with the prior written consent of
Jolson Merchant Partners, Inc.
Subject to clauses (i) through (v) above, the foregoing restrictions have
been expressly agreed to preclude the holder of the Securities from engaging in
any hedging or other transaction which is designed to or reasonably expected to
lead to or result in a Disposition of Securities during the Lock-Up Period, even
if such Securities would be disposed of by someone other than such holder. Such
prohibited hedging or other transactions would include, without limitation, any
short sale (whether or not against the box) or any purchase, sale, or grant of
any right (including, without limitation, any put or call option) with respect
to any Securities or with respect to any security (other than a broad-based
market basket or index) that included, relates to, or derives any significant
part of its value from Securities. Subject to clauses (i) through (v) above,
the undersigned also agrees and consents to the entry of stop transfer
instructions with the Company's transfer agent and registrar against the
transfer of shares of Common Stock or Securities held by the undersigned except
in compliance with the foregoing restrictions.
With respect to the Offering only, the undersigned waives any registration
rights relating to registration under the Securities Act of 1933, as amended,
and the rules and regulations promulgated thereunder, of any Common Stock owned
either of record or beneficially by the undersigned, including any rights to
receive notice of the Offering.
This agreement is irrevocable and will be binding on the undersigned and
the respective successors, heirs, personal representatives, and assigns of the
undersigned. If the Underwriting Agreement is not executed and delivered by the
Company and you on or before September 30, 2001, this Lock-Up Agreement shall be
of no further force or effect. Nothing in this Lock-Up Agreement shall
constitute an obligation to sell or purchase shares of Common Stock or
Securities of the Company.
-----------------------------------
Printed Name of Holder
By:
--------------------------------
Signature
-----------------------------------
Printed Name of Person Signing
Exhibit A-2
Exhibit B
---------
Manager's Representation Letter
-------------------------------
September __, 2001
JOLSON MERCHANT PARTNERS, INC.
One Embarcadero Center, Suite 2150
San Francisco, California 94111
Ladies and Gentlemen:
In connection with that certain Underwriting Agreement, dated September __,
2001, (the "Underwriting Agreement," and all capitalized terms herein shall have
the meanings ascribed to them in the Underwriting Agreement unless otherwise
defined herein) by and between Apex Mortgage Capital, Inc., a Maryland
corporation (the "Company"), and Jolson Merchant Partners, Inc. (the
"Underwriter"), and for good and valuable consideration, the sufficiency of
which is hereby acknowledged, TCW Investment Management Company (the
"Management") represents and warrants the following to the Underwriter as of the
date hereof:
1. The Manager has been duly incorporated and is validly existing and in
good standing under the laws of the State of California with the requisite
corporate power and authority to own, lease and operate its properties and to
conduct its business as now conducted, and to perform its obligations under the
Management Agreement.
2. The Manager is duly qualified or registered to transact business in
each jurisdiction in which it conducts its business, except where the failure to
be so qualified or registered could not reasonably be expected to have a
Material Adverse Effect.
3. The Manager is not in violation of its charter or by-laws or in default
in the performance or observance of any obligation, agreement, covenant or
condition contained in any contract, indenture, mortgage, deed of trust, loan or
credit agreement or other agreement or instrument to which the Manager is a
party or by which it is bound or its properties are subject, except for such
violations or defaults which could not be reasonably expected not to have a
Material Adverse Effect.
4. The execution and delivery of the Management Agreement did not, and the
performance of the Management Agreement and consummation of the transactions
contemplated therein do not and will not conflict with or constitute a breach
of, or default under or result in the creation or imposition of a lien, charge
or encumbrance upon any property or asset of the Manager pursuant to any
material contract, indenture, mortgage, deed of trust, loan or credit
Exhibit B-1
agreement, note, lease or other agreement or instrument to which the Manager is
a party or by which it is bound or its properties are subject, except for such
conflicts, breaches or defaults, liens, charges or encumbrances which could not
reasonably be expected to have a Material Adverse Effect, nor will such action
result in any violation of the provisions of the charter or by-laws of the
Manager, or any applicable law or any judgment, order, writ or decree of any
government, governmental instrumentality or court having jurisdiction over the
Manager or any of its properties or operations, except for such violations which
could not reasonably be expected to have a Material Adverse Effect.
5. The Management Agreement was duly authorized, executed and delivered by
the Manager and constitutes a valid and binding agreement of the Manager
enforceable in accordance with its terms, except as may be limited by
bankruptcy, insolvency, reorganization, moratorium or similar laws affecting
creditors' rights generally, by general principles of equity, and by federal or
state securities laws and public policy considerations in respect thereof.
6. No filing with or authorization, approval, consent, license or order of
any governmental authority or agency is required in connection with the
performance by the Manager of its obligations under the Management Agreement.
7. The information set forth under the captions "The Manager and Our
Executive Officers," "Risks Related to Conflicts of Interest" and "Our Company-
Overview" in the Preliminary Prospectus and the Prospectus (to the extent such
statements relate to the Manager) (i) does not contain any untrue statement of a
material fact or omit to state a material fact required to be stated in the
Registration Statement, or necessary to make the statements made therein not
misleading, and (ii) does not contain any untrue statement of a material fact
required to be stated in the Preliminary Prospectus and the Prospectus or omit
to state a material fact required to be stated therein, or necessary to make the
statements therein, in the light of the circumstances under which they were
made, not misleading.
The Manager possesses such licenses, approvals, consents and other
authorizations issued by appropriate regulatory agencies or bodies necessary to
conduct its business, except where the failure to possess such licenses,
approvals, consents and other authorizations could not reasonably be expected to
have a Material Adverse Effect.There is no action, suit, proceeding, inquiry or
investigation pending or, to the Manager's knowledge, threatened against the
Manager which if determined adversely to the Manager could reasonably be
expected to result in a Material Adverse Effect and which could materially
affect the consummation of the transactions contemplated by the Underwriting
Agreement.
The Manager is not prohibited by the Investment Advisers Act of 1940, as
amended or the rules and regulations thereunder, from acting under the
Management Agreement.
THIS REPRESENTATION LETTER SHALL BE GOVERNED BY, AND CONSTRUED IN ACCORDANCE
WITH, THE LAWS OF THE STATE OF NEW YORK, WITHOUT REGARD TO CONFLICTS OF LAWS
PRINCIPLES. The parties hereto irrevocably submit to the exclusive jurisdiction
of any United States federal sitting in New York, New York, in respect of any
suit, action or proceeding arising out of or relating to this Representation
Letter, and hereby irrevocably agree that all claims in respect of any such
suit, action or proceeding shall be held and determined in any such court. Each
of the parties hereto irrevocably waives
Exhibit B-2
any objection to the laying of the venue of any such suit, action or proceeding
brought in any such court.
TCW INVESTMENT MANAGEMENT COMPANY
By:
--------------------------------------
Name:
Title:
Accepted and agreed to as
of the date first written above:
JOLSON MERCHANT PARTNERS, INC.
----------------------------------
Name:
Title:
Exhibit B-3
Exhibit C
---------
Legal Opinion Respecting Securities Law
---------------------------------------
Exhibit C-1
Exhibit D
---------
Legal Opinion Respecting Maryland Law
-------------------------------------
Exhibit D-1
Exhibit E
---------
Legal Opinion Respecting Tax Matters
------------------------------------
Exhibit E-1
EX-8.1
4
dex81.txt
OPINION OF O'MELVENY & MYERS LLP
EXHIBIT 8.1
[LETTERHEAD OF O'MELVENY & MYERS LLP]
September 24, 2001
Apex Mortgage Capital, Inc.
865 South Figueroa Street
Suite 1800
Los Angeles, California 90017
Re: Registration Statement on Form S-2
----------------------------------
Ladies and Gentlemen:
We have acted as special tax counsel to Apex Mortgage Capital, Inc., a
Maryland Corporation (the "Company"), in connection with the preparation of the
Company's Registration Statement on Form S-2, Registration No. 333-69448, filed
with the Securities and Exchange Commission under the Securities Act on
September 14, 2001 (as thereafter amended to the date hereof and together with
all exhibits thereto, the "Registration Statement"), relating to the offering
and sale (the "Offering") of up to 4,000,000 shares of the Company's Common
Stock (exclusive of 600,000 shares that may be sold pursuant to an over-
allotment option), par value $.01 per share (the "Common Stock"). Capitalized
terms used but not otherwise defined herein shall have the meanings assigned to
such terms in the Registration Statement.
In formulating our opinions herein, we have reviewed the Registration
Statement and such certificates, including the Officer's Certificate (the
"Officer's Certificate"), records, and other documents, and statutes, rules, and
regulations as we have deemed necessary or appropriate as a basis for the
opinions set forth below. In conducting such review for purposes of rendering
our opinions, we have not conducted an independent investigation of any of the
facts set forth in the Registration Statement, the Officer's Certificate, or any
other documents, records, or certificates, and have relied upon the Company's
representations that the information presented in such documents, records, or
certificates or otherwise furnished to us accurately represent and completely
describe all material facts relevant to our opinions herein, and upon the
authenticity of documents submitted to us as originals or certified copies, the
accuracy of copies, the genuineness of all signatures and the legal capacity of
all natural persons. No facts have come to our attention, however, that would
cause us to question the accuracy and completeness of such facts or documents in
a material way. We have also relied upon the opinion of Ballard Spahr Andrews &
Ingersoll, Baltimore, Maryland, dated September 13, 2001, with respect to all
matters of Maryland law.
Apex Mortgage Capital, Inc.
September 24, 2001
Page 2
In rendering these opinions we have assumed that (i) the transactions
described in or contemplated by any of the aforementioned documents have been or
will be consummated in accordance with the operative documents, (ii) the Company
has been and will continue to be organized and operated in the manner described
in the Officer's Certificate, the Registration Statement, and the other relevant
documents referred to above, and (iii) there have been no changes in the
applicable laws of the State of Maryland, the Internal Revenue Code of 1986, as
amended (the "Code"), the regulations promulgated thereunder by the Treasury
Department (the "Treasury Regulations"), and the interpretations of the Code and
Treasury Regulations by the courts and the Internal Revenue Service ("IRS"), all
as they exist on the date of this letter. Any material change that is made
after the date hereof in any of the foregoing bases for our opinions could
affect our conclusions.
Based upon and subject to the foregoing, we are of the opinion that
the Company has been organized and operated in conformity with the requirements
for qualification as a real estate investment trust ("REIT") under the Code for
its taxable years ended December 31, 1997 through December 31, 2000, and the
Company's contemplated method of operations, as described in the Registration
Statement, will enable it to satisfy the requirements for such qualification for
its taxable year ending December 31, 2001, and each taxable year thereafter.
The Company's qualification as a REIT under the Code will depend upon
the Company's ability to meet, through actual operating results, distribution
levels, diversity of stock ownership, and the various income and asset
qualification tests imposed under the Code. Such operating results may not be
reviewed by us and, accordingly, no assurance can be given that the actual
results of the Company's operations for any one taxable year will satisfy the
requirements for REIT qualification. Moreover, certain aspects of the Company's
method of operations have not been considered by the courts or the IRS. There
can be no assurance that the courts or the IRS will agree with this opinion.
We hereby consent to the filing of this opinion as an exhibit to the
Registration Statement. We also consent to the references to O'Melveny & Myers
LLP under the caption "Federal Income Tax Considerations" in the Registration
Statement. In giving this consent, we do not admit that we are in the category
of persons whose consent is required by Section 7 of the Securities Act or the
rules and regulations promulgated thereunder by the Securities and Exchange
Commission.
Other than as expressly stated above, we express no opinion on any
issue relating to the Company or to any investment therein, or under any other
law.
Respectfully submitted,
/s/ O'Melveny & Myers LLP
EX-23.1
5
dex231.txt
CONSENT OF DELOITTE & TOUCHE
EXHIBIT 23.1
INDEPENDENT AUDITORS' CONSENT
We consent to the incorporation by reference in this Amendment No. 1 to the
Registration Statement of Apex Mortgage Capital, Inc. on Form S-2 of our report
dated February 9, 2001, included and incorporated by reference in the Annual
Report on Form 10-K of Apex Mortgage Capital, Inc. for the year ended December
31, 2000, and to the use of our report dated February 9, 2001, appearing in the
prospectus, which is part of this Registration Statement. We also consent to
the reference to us under the heading "Experts" in such prospectus.
/s/ DELOITTE & TOUCHE LLP
Los Angeles, California
September 24, 2001