-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, MXFzB+TLLDLOjKWw+QfDbNJFtDo6PmI2CGZh/1SW6dpvn17k/G9oLAiVVohacbkZ uEvVvImC5G1/+aPmk8aIJw== 0001005477-00-002466.txt : 20000327 0001005477-00-002466.hdr.sgml : 20000327 ACCESSION NUMBER: 0001005477-00-002466 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 9 CONFORMED PERIOD OF REPORT: 19991231 FILED AS OF DATE: 20000324 FILER: COMPANY DATA: COMPANY CONFORMED NAME: WILSHIRE REAL ESTATE INVESTMENT TRUST INC CENTRAL INDEX KEY: 0001048566 STANDARD INDUSTRIAL CLASSIFICATION: REAL ESTATE INVESTMENT TRUSTS [6798] IRS NUMBER: 522081138 STATE OF INCORPORATION: MD FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-23911 FILM NUMBER: 578394 BUSINESS ADDRESS: STREET 1: 1310 S W 17TH ST CITY: PORTLAND STATE: OR ZIP: 97201 BUSINESS PHONE: 5037216500 MAIL ADDRESS: STREET 1: 1310 S W 17TH ST CITY: PORTLAND STATE: OR ZIP: 97201 10-K 1 FORM 10-K ================================================================================ SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K (Mark one) |X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 (Fee Required) For the year ended December 31, 1999 OR |_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 (No Fee Required) Commission File No. 0-23911 Wilshire Real Estate Investment Inc. (Exact name of registrant as specified in its charter) Maryland 52-2081138 (State or other jurisdiction (I.R.S. Employer of incorporation or organization) Identification No.) 1310 SW 17th Street Portland, OR 97201 (Address of principal executive offices) (Zip Code) (503) 721-6500 (Registrant's telephone number, including area code) Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock, par value $0.0001 per share Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. Yes |X| No |_|. Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. |_| The aggregate market value of the voting stock held by non-affiliates of the registrant, computed by reference to the closing price as quoted on NASDAQ on February 29, 2000 was $21,960,991. As of February 29, 2000, 10,507,313 shares, not including options to purchase 2,096,000 shares of Wilshire Real Estate Investment Inc.'s common stock and 992,687 treasury shares, par value $0.0001 per share, were outstanding. DOCUMENTS INCORPORATED BY REFERENCE None. ================================================================================ WILSHIRE REAL ESTATE INVESTMENT INC. FORM 10-K INDEX PART I Item 1. Business..........................................................1 Item 2. Properties.......................................................20 Item 3. Legal Proceedings................................................20 Item 4. Submission of Matters to a Vote of Security Holders..............20 PART II Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters..............................................21 Item 6. Selected Financial Data..........................................22 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations........................................24 Item 7a. Quantitative and Qualitative Disclosures about Market Risk.......31 Item 8. Financial Statements and Supplementary Data......................34 Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure..............................35 PART III Item 10. Directors and Executive Officers of the Registrant...............36 Item 11. Executive Compensation...........................................37 Item 12. Security Ownership of Certain Beneficial Owners and Management...42 Item 13. Certain Relationships and Related Transactions...................43 PART IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.........................................................45 FORWARD-LOOKING STATEMENTS CERTAIN STATEMENTS CONTAINED HEREIN AND CERTAIN STATEMENTS CONTAINED IN FUTURE FILINGS BY THE COMPANY WITH THE SEC MAY NOT BE BASED ON HISTORICAL FACTS AND ARE "FORWARD-LOOKING STATEMENTS" WITHIN THE MEANING OF SECTION 27A OF THE SECURITIES ACT OF 1933, AS AMENDED, AND SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED. FORWARD-LOOKING STATEMENTS WHICH ARE BASED ON VARIOUS ASSUMPTIONS (SOME OF WHICH ARE BEYOND THE COMPANY'S CONTROL) MAY BE IDENTIFIED BY REFERENCE TO A FUTURE PERIOD OR PERIODS, OR BY THE USE OF FORWARD-LOOKING TERMINOLOGY, SUCH AS "MAY," "WILL," "BELIEVE," "EXPECT," "ANTICIPATE," "CONTINUE," OR SIMILAR TERMS OR VARIATIONS ON THOSE TERMS, OR THE NEGATIVE OF THOSE TERMS. ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THOSE SET FORTH IN FORWARD-LOOKING STATEMENTS DUE TO A VARIETY OF FACTORS, INCLUDING, BUT NOT LIMITED TO, THOSE RELATED TO THE ECONOMIC ENVIRONMENT, PARTICULARLY IN THE MARKET AREAS IN WHICH THE COMPANY OPERATES, THE FINANCIAL AND SECURITIES MARKETS AND THE AVAILABILITY OF AND COSTS ASSOCIATED WITH SOURCES OF LIQUIDITY, COMPETITIVE PRODUCTS AND PRICING, THE REAL ESTATE MARKET, FISCAL AND MONETARY POLICIES OF THE U.S. GOVERNMENT, CHANGES IN PREVAILING INTEREST RATES, ACQUISITIONS AND THE INTEGRATION OF ACQUIRED BUSINESSES, CREDIT RISK MANAGEMENT, YEAR 2000 AND ASSET/LIABILITY MANAGEMENT. EXCEPT AS MAY BE REQUIRED BY LAW, THE COMPANY DOES NOT UNDERTAKE, AND SPECIFICALLY DISCLAIMS ANY OBLIGATION, TO PUBLICLY RELEASE THE RESULTS OF ANY REVISIONS WHICH MAY BE MADE TO ANY FORWARD-LOOKING STATEMENTS TO REFLECT THE OCCURRENCE OF ANTICIPATED OR UNANTICIPATED EVENTS OR CIRCUMSTANCES AFTER THE DATE OF SUCH STATEMENTS. PART I ITEM 1. BUSINESS General Wilshire Real Estate Investment Inc. ("WREI" or the "Company") is a Nasdaq-listed company which invests primarily in the following types of assets: o mortgage-backed securities, o non-discounted and discounted mortgage loans, o real estate, and o other real estate related investments. The Company was originally incorporated as Wilshire Real Estate Investment Trust Inc. in the State of Maryland on October 24, 1997. However, in order to benefit from potential tax benefits related to significant net operating loss carryforwards and to avoid any risk of not qualifying as a real estate investment trust ("REIT"), the Company, with the approval of its shareholders, elected in September 1999 not to be taxed as a REIT, and the Company's name was changed to Wilshire Real Estate Investment Inc. During the third quarter of 1999, the Company decided to become internally managed and retained senior executives and other employees to implement this decision. Prior to this decision and subject to the supervision of the Company's Board of Directors, the Company's business affairs and day-to-day operations had been managed by Wilshire Realty Services Corporation ("WRSC"), a wholly-owned subsidiary of Wilshire Financial Services Group Inc. ("WFSG"), pursuant to a management agreement (the "Management Agreement"). The decision to become internally managed and cease to utilize the services of WRSC has resulted in disputes between the Company, on the one hand, and WFSG and certain of its affiliates, on the other. Background Beginning in August 1998, and more significantly during the fourth quarter of 1998, we were significantly and adversely affected by the dramatic movement of liquidity towards less-risky assets (e.g., U.S. Treasury instruments) and away from higher risk assets. In particular, the markets for mortgage-backed securities and pools of mortgage loans experienced significant declines as Wall Street investment banks marked these assets down - including illiquid and infrequently traded subordinated mortgage-backed securities - to their view of the market price and lenders became unwilling to lend against low-rated or unrated mortgage-backed securities and many pools of mortgage loans. These factors resulted in a dramatic reduction in market valuations for our mortgage-backed securities and mortgage loans, as well as a reduction in the availability of borrowings for those assets, and the Company was forced to liquidate holdings at reduced prices, resulting in significant losses in 1998. 1 In response to the adverse market conditions in the second half of 1998 and the resulting effect on our operations, we focused our efforts in 1999 on stabilizing our existing asset base and greatly reduced acquisition activities during the year ended December 31, 1999. General market conditions and availability of financing for certain of our asset categories, especially subordinated mortgage-backed securities and mezzanine loans, continued to be uncertain in 1999. Our results of operations for the year ended December 31, 1999 reflect this continued difficult marketplace including further impairment write-downs of mortgage-backed securities, a significant portion of which had previously been deducted from stockholders' equity through "Accumulated other comprehensive loss." Notwithstanding the uncertainty in 1999, we expect to gradually resume acquisition activities in 2000 with an increased emphasis on investment in mortgage-backed securities, loans and related assets and a decreased emphasis on commercial operating properties. We believe that investments in loans provide higher yields and allow us to more efficiently leverage our existing capital, thereby providing us a higher return on equity. In addition, we believe there may be attractive opportunities for additional investments in Europe. We may also seek to invest in other companies that invest in real estate related assets, especially where the market capitalizations of such companies do not reflect the inherent values of the underlying assets or franchises. We continue to make investment decisions on an opportunistic basis and will evaluate investment opportunities as they arise or are developed. Business Strategy Our main objectives are to realize current returns and capital gains through investments in real estate assets or companies that invest in real estate related assets. The key elements of our strategy are: Focus on Specific Return Objectives by Asset Class Mortgage-Backed Securities. Our investment emphasis is on subordinated mortgage-backed securities that provide consistent, recurring current income and that we believe may appreciate in value due to the prepayment and default experience of the underlying collateral. Non-discounted Loans. With respect to non-discounted loans, our investment emphasis is on non-discounted loans that provide current income. These loans may be commercial or residential and either first, second, or mezzanine position mortgages. Discounted Loans. We seek to identify and acquire discounted loans that will meet our risk-adjusted return objectives over an 18 to 24 month period. During this period, we typically either restructure the terms of the loans or exercise our rights to acquire control of the underlying properties. We also seek to invest in certain discounted loans that provide current cash income. Real Estate. Our investment emphasis with respect to real estate is on investment properties that provide consistent, recurring current income and where effective property management can lead to appreciation in value. In addition to direct acquisitions of these investments, we may seek to invest in other companies that invest in real estate related assets, especially where the market capitalizations of such companies do not reflect the inherent values of their underlying assets. Maintain a Diversified Portfolio of Real Estate Related Assets We seek diversification by investing in different forms of real estate related assets and types of underlying properties. We also diversify by investing in different geographic locations. We believe that by diversifying our form of real estate investments, types of underlying properties and the geographic base of our investments, we reduce the risks presented by various phases of real estate cycles and by factors that affect only particular geographic areas or products. Resecuritize Mortgage-Backed Securities We may, from time to time, pool a portion of our portfolio of mortgage-backed securities and issue new mortgage-backed securities derived from these pools. By structuring this kind of a resecuritization, we believe that we may be able to realize any appreciation in the value of the resecuritized mortgage-backed securities. We usually finance our acquisition of mortgage-backed securities with short-term floating-rate debt. Resecuritizing these mortgage-backed securities will enable us to replace this short-term debt with non-recourse long-term fixed-rate debt that better matches the amortization characteristics and cash flows of the underlying mortgage-backed securities. 2 Ongoing Disputes with WFSG and WRSC The Company is engaged in an ongoing dispute with WFSG relating to the termination of the extensive contractual and other relationships which formerly existed between the companies. Prior to September 1999, the Company's business affairs and day-to-day operations had been managed by WRSC, a wholly-owned subsidiary of WFSG, and the Company and WFSG had the same senior management team, though the Company had a significantly different shareholder base and the majority of its directors were independent. In addition, the Company and WFSG had other significant contractual relationships relating to the servicing of real estate-related assets (including loans and mortgage-backed securities) and also had certain cross shareholdings. Relations between the Company and WFSG declined during WFSG's bankruptcy restructuring in 1999 primarily as a result of the Company's concerns over WFSG's abilities to perform its obligations and the exclusion of the Company from the restructuring process and decisions about WFSG's strategic direction. Relations deteriorated further when the Company was notified that WFSG had terminated its Chief Executive Officer, Andrew Wiederhorn, and its President, Lawrence Mendelsohn, from their duties as employees of WFSG and its subsidiaries. Concerns about WFSG's ability to perform its obligations, the termination of Messrs. Wiederhorn and Mendelsohn, uncertainties about new management and concerns over WFSG's strategic direction led the Company and its independent directors to reassess its relationship with WFSG and ultimately to the decision to become internally managed and not rely on WFSG for the provision of services. As part of the Company's decision to become independently managed, the Company entered into employment agreements with Andrew Wiederhorn, as Chairman and Chief Executive Officer; Lawrence Mendelsohn, as President; Chris Tassos, as Chief Financial Officer and Executive Vice President; Richard Brennan, as Chief Investment Officer and Executive Vice President; and Robert Rosen, as Executive Vice President. Each of these individuals was previously a senior executive at WFSG. The decision to become internally managed and cease to utilize the services of WFSG and its affiliates has resulted in disputes between the Company and WFSG, which disputes are currently the subject of litigation in Portland, Oregon. On August 20, 1999, the Company filed a lawsuit against WFSG in the Circuit Court of the State of Oregon for Multnomah County. On August 23, 1999, the Company filed an amended Complaint in the lawsuit adding as additional defendants WRSC, WCC, a 50.01% subsidiary of WFSG, and Wilshire Management Leasing Corporation ("WML"), a wholly-owned subsidiary of WFSG alleging: (1) the termination of Messrs. Wiederhorn and Mendelsohn made WFSG and WRSC unable and/or unwilling to provide management to the Company as required under the Management Agreement; (2) the inability of WFSG and WRSC to manage the Company's business affairs triggered application of a facilities sharing agreement dated February 19, 1999 between the Company, WFSG, WRSC, WCC, and WML (the "Facilities Sharing Agreement"); and (3) WFSG's refusal to allow Messrs. Wiederhorn and Mendelsohn access to WFSG's facilities, personnel, and equipment for the Company's business violated the terms of the Facilities Sharing Agreement. The Facilities Sharing Agreement had been entered into by the parties to provide for the orderly transition of the Company's management in the event the Management Agreement was no longer operative and the Company was to become internally, rather than externally, managed. Under the Facilities Sharing Agreement, WFSG, WRSC, and the other parties were required to provide to the Company, for a period of two years, the facilities, services, equipment, and personnel necessary for the Company to internally manage itself, in return for the payment by the Company of the pro-rata cost to provide facilities, services, equipment, and personnel. On September 22, 1999, WFSG and WRSC filed papers in the above litigation alleging various affirmative defenses and counterclaims, including allegations that the Facilities Sharing Agreement was not in effect and was unenforceable, and that the Company breached the Management Agreement, obligating the Company to pay a termination fee. On September 22, 1999, the Company sent a letter to WRSC reserving its rights with respect to prior declarations of default by WRSC, and providing formal notice of non-renewal and termination "for cause" of the Management Agreement. The letter outlined various breaches of the Management Agreement by WRSC, including: failing to provide competent management to the Company; failing to provide necessary services and facilities; and taking actions contrary to the interests of the Company. WRSC has disputed the characterization of the termination as one "for cause" and has claimed that under the Management Agreement it is entitled to a termination fee (a sum equal to the management fees paid to WRSC for the preceding twelve months) from the Company. Notwithstanding the foregoing, the Company has sought to discuss the parties' disagreements with a view to reaching an amicable arrangement for severing the relationships between WFSG and the Company. As a result of the Company's overtures, the Company and WFSG began discussions to resolve their differences in late September. In connection with this matter, the Company, without admission, recorded a reserve for potential resolution of disputes with WFSG of $4.1 million at September 30, 1999. The Company, on behalf of itself and all of its subsidiaries and affiliates, Andrew A. Wiederhorn, and Lawrence A. Mendelsohn, entered into a partial settlement agreement dated as of December 10, 1999 with WFSG, on behalf of all of its subsidiaries and affiliates, other than First Bank of Beverly Hills, F.S.B. (the "Partial Settlement Agreement"). Under the terms of the Partial Settlement Agreement, the Company repurchased 992,687 shares of its common stock (the "Shares"), representing approximately 8.7% of shares outstanding, in a non-cash transaction from WFSG. The Shares, as well as 1,112,500 of options and cumulative dividends payable on the Shares, were received in exchange for a reduction in the amount of a pay-in-kind ("PIK") note owed by WFSG to the Company. The Shares and options represented WFSG's entire ownership interest in the Company. 3 On February 18, 2000, after the Company received permission from the court to do so, the Company filed a Second Amended Complaint which added claims against WFSG and its affiliated companies as follows: claims for declaratory relief that WFSG is entitled to no termination fee under the Management Agreement; seeking an accounting from WCC regarding the use of funds from lockbox accounts used to service assets which the Company owns or in which the Company has a beneficial interest; declaring the Company's entitlement to use prepaid service fees for the servicing of assets serviced under pooling and servicing agreements; and declaring WFSG to be in default of its Debtor-in-Possession ("DIP") loan agreement with the Company and declaring that the balance of $5.0 million is immediately due and payable. On March 2, 2000, WFSG filed an answer disputing each of the counterclaims added by the Second Amended Complaint, and realleging the counterclaims included in WFSG's original answer and counterclaim. Considerable discovery remains to be completed, and it is thus not possible to predict the outcome of the case. The case is scheduled for trial in October 2000. The Company intends to pursue its claims against WFSG and to defend the counterclaims filed by WFSG against the Company vigorously. At December 31, 1999, the balance of the reserve for potential resolution of disputes with WFSG was $2.3 million. The Company currently owns approximately 14.4% of WFSG's common stock and is determining what course of action maximizes the value of its investment. As a result, the Company may sell all or part of its shares of WFSG, retain its current position, or subject to applicable regulations, increase its ownership stake substantially. Servicing Arrangements Prior to the disputes with WFSG, we entered into loan servicing agreements with Wilshire Credit Corporation ("WCC"), an affiliate of WFSG, and Wilshire Servicing Company U.K. Limited, a wholly-owned subsidiary of WFSG (the "European Servicer" and with WCC, the "Servicers"). Under these servicing agreements, the Servicers provided loan and real property management services to us, including billing, portfolio administration and collection services. In return, we agreed to pay each of the Servicers a fee at market rates for servicing our investments and to reimburse them for certain out-of-pocket costs. We prepaid $3.2 million of future service fees as part of the WFSG and WCC restructuring, although WFSG had disputed this amount in the past (as well as servicing eligibility for application of the credit), suggesting that it was $2.3 million. At December 31, 1999, the prepaid service fee balance to WCC was reduced to $3.0 million. WCC (through its predecessor) was formed in 1987 to engage in the loan and lease servicing business. WCC was adversely affected by the decrease in assets owned by its customers as a result of the market volatility since the fourth quarter of 1998 and sought to restructure its indebtedness. This process was undertaken in connection with the WFSG restructuring pursuant to which WCC's servicing operation was transferred to a company controlled by WFSG. WCC successfully completed its restructuring on June 10, 1999. In March 2000, we terminated the servicing relationship in the United Kingdom with the European Servicer and transferred this servicing to an unaffiliated third party. We also terminated all loan and real property servicing in the United States with WCC, reserving our rights to do so with respect to certain mortgage-backed securities. Regulatory As a result of the Company's material ownership in a savings and loan holding company (WFSG), the then overlap in certain officers and directors between the two entities and other related factors, the Office of Thrift Supervision ("OTS") required the Company to file a change in control application (Form H(e)-1) with the OTS. The H(e)-1 Application was filed in June 1999 and remains on file with the OTS in a suspended status. The OTS placed various restrictions on the Company pending favorable action on the H(e)-1 Application, including prohibitions against acquiring any additional shares of WFSG. The Company believes that subsequent events, including the elimination of the overlap in officers and directors, have eliminated the position taken by the OTS, thereby mooting the need for the filing of the application and the related interim restrictions. Following discussions with the OTS, the Company is currently in the process of filing a request with the OTS that would confirm that the H(e)-1 Application need not be pursued (whereupon it would be withdrawn) and that the interim restrictions no longer apply. Investments We seek to invest directly or indirectly in real estate related assets that provide us with an appropriate risk-adjusted rate of return, current income and the opportunity for capital gains. We maintain a flexible approach with respect to the nature of our investments, seeking to take advantage of opportunities as they arise or are developed. 4 We have set forth below information regarding our principal categories of investment on December 31, 1999 and 1998.
December 31, 1999 December 31, 1998 ---------------------- ---------------------- Carrying Value % Carrying Value % -------------- ----- -------------- ----- (Dollars in thousands) Mortgage-Backed Securities (1) $104,572 47.4% $148,805 39.0% Loans: (2) U.S. Commercial (3) ......... 29,839 13.5 69,124 18.1 International (4) ........... 620 0.3 44,006 11.6 -------- ----- -------- ----- Total Non-Discounted Loans 30,459 13.8 113,130 29.7 Discounted Loans:(2) U.S. Commercial ............. 1,175 0.5 1,794 0.5 International ............... -- -- 704 0.2 -------- ----- -------- ----- Total Discounted Loans .... 1,175 0.5 2,498 0.7 Investment Properties: (5) U.S. Commercial ............. 40,679 18.4 61,566 16.1 International ............... 22,546 10.2 23,439 6.2 -------- ----- -------- ----- Total Investment Properties 63,225 28.6 85,005 22.3 Other Investments (6) ......... -- -- 9,933 2.6 Cash and Cash Equivalents ..... 5,862 2.7 4,782 1.3 Other Assets (7) .............. 15,519 7.0 16,964 4.4 -------- ----- -------- ----- Total Assets ................ $220,812 100.0% $381,117 100.0% ======== ===== ======== =====
- ---------------- (1) More than 90% of our mortgage-backed securities are secured by residential mortgage loans. (2) More than 90% of our discounted and non-discounted loans are secured by commercial or multi-family properties or have been extended to real estate holding companies, which own commercial or multi-family properties. (3) Subsequent to December 31, 1998, one loan with a carrying value of $38.6 million as of December 31, 1998 was paid off. (4) Subsequent to December 31, 1998, one loan with a carrying amount of $44 million as of December 31, 1998 was sold to increase liquidity. (5) More than 90% of our investment properties are commercial or multi-family properties and also include real estate owned and are net of development costs and escrow deposits. (6) Other investments consist of approximately $20.0 million principal amount of WFSG's 13% Series B Notes due 2004, which were carried at a book value of approximately $9.9 million as of December 31, 1998. This investment was converted to equity as part of WFSG's restructuring and now appears as part of other assets. (7) At December 31, 1999, other assets consist primarily of $4.0 million of investment in WFSG common stock, $3.0 million in prepaid service fees to WCC, $5.3 million of notes receivable from WFSG, $1.1 million of accrued interest and $2.1 million of miscellaneous other assets. At December 31, 1998, other assets consisted primarily of $12.5 million due from affiliates (an $18.4 million receivable net of a $5.9 million market valuation loss and impairment), $1.9 million of accrued interest receivable and $2.6 million of miscellaneous other assets. The following sections provide additional detail of specific investments as of December 31, 1999 and related discussion of strategic investment goals. Mortgage-Backed Securities Mortgage-backed securities are interests in pools of mortgages that have been securitized and are usually issued in multiple classes ranging in credit seniority. We focus on the subordinated classes, which we believe offer higher risk-adjusted returns. We seek to invest in subordinated mortgage-backed securities that provide consistent, recurring current income and that we believe may appreciate in value due to the prepayment and default experience of the underlying collateral. On December 31, 1999, more than 90% of our mortgage-backed securities were backed by pools of residential mortgage loans and were subordinated in right of payment to more senior interests in those pools. On December 31, 1999, our portfolio of mortgage-backed securities consisted of 90 classes of mortgage-backed securities representing interests in 64 securitizations from 24 different issuers. Subordinated mortgage-backed securities are generally the non-investment-grade classes of mortgage-backed securities that provide credit enhancement to more senior classes of such securities by having a lower payment priority in the cash flow from the underlying mortgage loans and absorbing any losses on the underlying mortgage loans prior to the senior classes. On "senior/subordinate" transactions, each subordinated class has a principal face amount equal to the subordination level required for the classes, if any, which are senior to the respective subordinated class and the subordination level required at the respective rating (i.e., BBB, BB, B, UR). On April 6, 1998, we acquired approximately $95.0 million of mortgage-backed securities in connection with our initial public offering and the remainder were acquired from time to time during the remainder of 1998 and 1999. Our mortgage-backed securities consist of securities backed by loans that were originated and are being serviced by unaffiliated non-governmental third parties and 5 securities backed by loans that were previously held in the portfolio of WFSG or its affiliates and for which WFSG or one of its affiliates is continuing to act as servicer. At December 31, 1999 and 1998, we valued our securities available for sale portfolio and gross unrealized gains and losses thereon as follows:
Gross Gross Amortized Unrealized Unrealized December 31, 1999 Cost(1) Gains(1) Losses(1) Fair Value - ------------------------------------ ----------- ------------ ----------- ---------- (Dollars in thousands) Mortgage-backed securities.......... $ 127,799 $ 3,487 $ 26,714 $ 104,572 =========== ============ =========== ========== Gross Gross Amortized Unrealized Unrealized December 31, 1998 Cost(1) Gains(1) Losses(1) Fair Value - ------------------------------------ ----------- ------------ ----------- ---------- (Dollars in thousands) Mortgage-backed securities.......... $ 179,243 $ 98 $ 30,536 $ 148,805 Other securities (2)................ 9,933 - - 9,933 ------------- -------------- ------------- ------------ $ 189,176 $ 98 $ 30,536 $ 158,738 =========== ============ =========== ==========
- ---------- (1) The amortized cost of our securities is net of the market valuation losses and impairments discussed in "Results of Operations". The unrealized gains and losses represent market value declines that, unlike "market value loss and impairment," the Company believes are temporary. (2) These securities consist primarily of certain publicly issued debt securities of WFSG. Pursuant to the restructuring of WFSG, these securities were converted into equity in WFSG. At December 31, 1998, the valuation of these securities was based on our ratable post-conversion share of the projected restructured equity of WFSG. The following table presents our mortgage-backed securities portfolio, by rating category, as of December 31, 1999. Ratings of Mortgage-Backed Securities Net Book Rating Category (1) Value ------------------- ----- AAA/Aaa1 to A-/A3......................................... $ - BBB+/Baa1 to BBB-/Baa3.................................... 14,956 BB+/Ba1 to BB-/Ba3........................................ 38,835 B+/B1 to B-/B3............................................ 11,540 CCC+/Caa1 to CCC-/Caa3.................................... - Unrated................................................... 39,241 --------- Total................................................ $ 104,572 ========= - -------------------- (1) Based on the most recent rating by one or more of the principal independent rating agencies which rate mortgage-backed securities: Standard & Poor's Corporation, Moody's Investors Service, Duff & Phelps or Fitch Investor Services, Inc. The two following tables set forth information, as of December 31, 1999, regarding our mortgage-backed securities. The following table sets forth the credit rating designated by the rating agency for each securitization transaction. Classes designated "A" have a superior claim on payment to those rated "B", which are superior to those rated "C." Additionally, multiple letters have a superior claim to designations with fewer letters. Thus, for example, "BBB" is superior to "BB," which in turn is superior to "B." The lower class designations in any securitization will receive interest payments subsequent to senior classes and will experience losses prior to any senior class. The lowest potential class designation is not rated ("NR") which, if included in a securitization, will generally receive interest last and experience losses first. IO securities receive the excess interest remaining after the interest payments have been made on all senior classes of bonds based on their respective principal balances. There is no principal associated with IO securities and they are considered liquidated when the particular class they are contractually tied to is paid down to zero. In excess of 90% of the mortgage loans underlying the Company's mortgage-backed securities are residential mortgage loans which generally may be prepaid at any time without penalty. 6 Mortgage-Backed Securities (as of December 31, 1999)
Class Company Investment ------------------------------------------------------------------- Class Balance at Rating Issue Collateral Initial Class December 31, Percentage Company's Book Issue Name Class (1) Date Type Balance 1999 of Class Basis (2) Yield (5) - ------------------------------------------------------------------------------------------------------------------------------------ BAMS 98-1 B4 B 5/25/98 Residential $ 515,029 $ 491,004 100.0% $ 389,135 11.75% BAMS 98-1 B5 NR 5/25/98 Residential 686,706 654,674 100.0% 225,477 18.00% BAMS 98-2 1B5 NR 6/25/98 Residential 495,151 487,159 100.0% 147,046 18.00% BAMS 98-2 2B5 NR 6/25/98 Residential 205,711 192,568 100.0% 79,913 18.00% BSMSI 96-6 B3 BBB 1/25/97 Residential 5,427,000 5,078,180 50.0% 2,572,499 9.00% BSMSI 96-6 B4 BB 1/25/97 Residential 4,824,000 4,680,616 69.5% 2,471,198 11.00% BSMSI 97-7 4B5 B 1/25/98 Residential 108,493 99,537 100.0% 88,846 11.75% BSMSI 97-7 4B6 NR 1/25/98 Residential 86,795 79,630 100.0% 24,623 18.00% BSMSI 97-7 5B5 B 1/25/98 Residential 143,515 140,287 100.0% 120,173 11.75% BSMSI 97-7 5B6 NR 1/25/98 Residential 107,637 105,216 100.0% 35,435 18.00% BSMSI 98-5 B5 B 5/25/98 Residential 139,900 122,021 100.0% 113,188 11.75% BSMSI 98-5 B6 NR 5/25/98 Residential 140,000 122,109 100.0% 33,385 18.00% CHASE 94-H B5 B 6/25/94 Residential 250,000 225,755 100.0% 189,440 11.75% CMC 98-1 2B5 B 4/25/98 Residential 132,500 122,890 100.0% 106,218 11.75% CMC 98-1 2B6 NR 4/25/98 Residential 132,506 122,896 100.0% 39,415 18.00% CMC 98-1 3B5 B 4/25/98 Residential 134,300 131,255 100.0% 111,398 11.75% CMC 98-1 3B6 NR 4/25/98 Residential 134,386 131,339 100.0% 44,786 18.00% CMC 98-1 B5 B 4/25/98 Residential 831,844 816,985 100.0% 582,930 11.75% CMC 98-1 B6 NR 4/25/98 Residential 1,039,805 1,021,232 100.0% 288,091 18.00% CMSI 98-4 B5 NR 7/25/98 Residential 761,918 750,181 100.0% 218,560 15.00% CMSI 98-6 B5 NR 8/25/98 Residential 910,697 897,670 100.0% 271,019 15.00% CWMBS 97-8 B5 NR 12/25/97 Residential 1,050,885 1,029,167 100.0% 333,079 15.00% CWMBS 98-10 B5 NR 6/25/98 Residential 1,126,037 1,081,198 100.0% 350,121 18.00% CWMBS 98-11 B5 NR 7/25/98 Residential 1,005,059 918,223 100.0% 294,496 15.00% CWMBS 98-12/ALT98-4 B5 NR 7/25/98 Residential 1,524,293 1,455,643 100.0% 390,191 15.00% CWMBS 98-14 B5 NR 8/25/98 Residential 450,649 397,188 100.0% 134,712 15.00% GECMS 98-11.1 B5 NR 7/25/98 Residential 1,553,574 1,530,239 100.0% 432,978 15.00% GECMS 98-11.2 B5 NR 7/25/98 Residential 747,933 736,740 100.0% 185,286 8.00% GECMS 98-11.3 B5 NR 7/25/98 Residential 174,570 163,890 100.0% 62,636 15.00% GECMS 98-5 B5 NR 4/25/98 Residential 1,331,723 1,304,393 100.0% 382,734 18.00% GECMS 98-8 1B5 NR 5/25/98 Residential 1,502,644 1,477,484 100.0% 437,966 18.00% GECMS 98-8A 2B5 NR 5/25/98 Residential 614,867 604,813 100.0% 175,826 18.00%
7
Class Company Investment ------------------------------------------------------------------- Class Balance at Rating Issue Collateral Initial Class December 31, Percentage Company's Book Issue Name Class (1) Date Type Balance 1999 of Class Basis (2) Yield (5) - ------------------------------------------------------------------------------------------------------------------------------------ GECMS 98-9 B5 NR 6/25/98 Residential 2,255,131 2,218,751 100.0% 660,578 18.00% MRFC 98-2 B6 NR 6/25/98 Residential 1,573,224 1,539,900 100.0% 394,426 11.75% NASCOR 98-12 B6 NR 6/25/98 Residential 2,001,786 1,970,256 100.0% 588,691 18.00% NASCOR 98-14 B6 NR 6/25/98 Residential 501,186 468,307 100.0% 201,864 18.00% NASCOR 98-17 B6 NR 8/25/98 Residential 1,627,003 1,604,209 100.0% 503,934 15.00% NASCOR 98-21 B5 NR 8/25/98 Residential 625,638 616,943 100.0% 180,003 15.00% NASCOR 98-4 A 1B5 NR 2/25/98 Residential 560,474 549,179 100.0% 148,006 18.00% NASCOR 98-4 B 2B5 NR 2/25/98 Residential 824,299 809,133 100.0% 238,039 18.00% NASCOR 98-5 B5 NR 3/25/98 Residential 750,451 737,324 100.0% 207,991 18.00% NISTAR 98-1 B5 NR 6/25/98 Residential 949,799 929,255 100.0% 264,686 18.00% OCWEN 98R1 B3 BBB 4/25/98 Residential 19,789,401 19,243,787 100.0% 17,345,363 8.25% RFMSI 98-S12 B3 NR 6/25/98 Residential 2,997,804 2,790,041 100.0% 842,519 15.00% RFMSI 98-S13 B3 NR 7/25/98 Residential 3,649,250 3,594,409 100.0% 1,044,409 15.00% RFMSI 98-S3 B3 NR 3/25/98 Residential 3,322,188 3,258,844 100.0% 924,613 15.00% RFMSI 98-S7 B3 NR 4/25/98 Residential 383,458 355,967 100.0% 135,781 18.00% BSMSI 98-1A B6 NR 3//25/98 Residential 1,953,230 1,947,735 100.0% 298,452 18.00% BSMSI 97-7A B6 NR 1/25/98 Residential 1,383,301 1,379,562 100.0% 235,952 18.00% INMC 94 L B3 BBB 7/25/94 Residential 2,809,045 2,793,437 100.0% 976,402 14.00% GECMS 94-20 B5 NR 6/25/94 Residential 114,186 111,392 100.0% 19,038 18.00% MRFC 98-2 B5 B 6/25/98 Residential 1,048,814 1,026,598 100.0% 511,047 16.00% NASCOR 97-3 B4 B 3/25/97 Residential 194,916 194,343 100.0% 100,423 16.00% NASCOR 1997-3 B5 NR 3/25/97 Residential 225,014 224,334 100.0% 51,591 18.00% RFMSI 1997-S16 B3 NR 11/25/97 Residential 472,632 466,823 100.0% 81,874 18.00% SAMI 98-8B B5 B 7/25/98 Residential 725,141 723,214 100.0% 358,613 16.00% SAMI 98-8B 3B5 B 7/25/98 Residential 276,075 272,861 100.0% 170,852 16.00% SAMI 98-8B 3B6 NR 7/25/98 Residential 344,756 340,742 100.0% 50,403 18.00% SAMI 98-8C 4B5 B 7/25/98 Residential 396,550 395,580 100.0% 187,416 16.00% SAMI 98-8C 4B6 NR 7/25/98 Residential 596,873 595,413 100.0% 91,199 18.00% PSEC 93-3 B3 B 7/25/93 Residential 1,022,504 998,785 100.0% 705,529 16.00% BAMS 98-4 1B4 B 8/25/98 Residential 923,915 919,806 100.0% 434,513 16.00% BAMS 98-4 1B5 NR 8/25/98 Residential 923,903 919,804 100.0% 132,274 18.00% CWHL 98-15 B5 NR 9/25/98 Residential 1,339,477 1,333,593 100.0% 179,592 18.00% MFAST 97-1 B2 BB 12/1/97 Residential 10,840,000 10,840,000 100.0% 3,695,429 12.00% PSWHI 97-4 B2 BB 1/20/98 Residential 7,800,000 7,800,000 100.0% 2,375,014 12.00% GECMS 98-12 1B5 NR 8/25/98 Residential 1,187,001 1,185,925 100.0% 230,724 18.00% GECMS 98-13 B5 NR 9/25/98 Residential 2,671,794 2,669,388 100.0% 526,125 18.00%
8
Class Company Investment ------------------------------------------------------------------- Class Balance at Rating Issue Collateral Initial Class December 31, Percentage Company's Book Issue Name Class (1) Date Type Balance 1999 of Class Basis (2) Yield (5) - ------------------------------------------------------------------------------------------------------------------------------------ GECMS 98-14 B5 NR 10/25/98 Residential 1,559,912 1,558,506 100.0% 307,174 18.00% GECMS 98-15 B5 NR 10/25/98 Residential 1,412,293 1,411,056 100.0% 278,140 18.00% RFMSI 97-S14 B2 B 11/25/97 Residential 1,386,448 1,385,181 100.0% 909,495 13.00% RFMSI 97-20 B2 B 1/25/98 Residential 1,726,484 1,724,931 100.0% 1,045,330 13.00% CITYH 97-A R NR 3/25/97 Residential 79,606,424 31,197,200 100.0% 3,512,292 10.50% CITYH 97-B R1 NR 4/25/97 Residential 197,547,812 80,700,059 100.0% 5,102,692 10.50% CITYH 97-C R1 NR 7/25/97 Residential 102,450,075 47,771,036 100.0% 1,552,972 10.50% CITYH 97-C R2 NR 7/25/97 Residential 97,549,924 29,453,541 100.0% 3,623,946 10.50% WIFC 96-3 (3) B1 BB 1/25/97 Residential 6,261,438 2,921,896 100.0% 5,514,439 8.00% WIFC 96-3 (3) B2 B 1/25/97 Residential 4,870,004 2,272,741 100.0% 3,347,666 11.00% WIFC 96-3 (3) B3 NR 1/25/97 Residential 12,522,867 5,222,723 100.0% 3,960,930 15.00% WIFC 97-WFC1 (3) B1 BB 10/25/97 Residential 9,908,014 9,241,651 100.0% 8,852,359 8.00% WIFC 97-WFC1 (3) B2 B 10/25/97 Residential 1,834,817 1,711,416 100.0% 1,202,991 11.00% WIFC 97-WFC1 (3) B3 NR 10/25/97 Residential 4,403,561 3,724,660 100.0% 1,325,693 15.00% WIFC 98-WFC2 (3) B1 BB 7/25/98 Residential 20,099,697 19,706,406 100.0% 18,231,464 8.00% WIFC 98-WFC2 (3) B2 B 7/25/98 Residential 3,215,951 3,153,024 100.0% 2,539,914 11.00% WIMLT 98-3 (3) C NR 10/5/98 Residential 177,729,958 92,021,463 100.0% 4,433,105 11.00% WIMLT 98-3 (3) B1 BB 10/5/98 Residential 1,778,958 1,778,958 100.0% 1,751,835 9.00% WCOST 95-A (3) B NR 3/25/95 Consumer 16,637,758 12,379,540 50.0% 3,617,990 9.50% Manufactured WMHT 95-A (3) B NR 7/25/95 Housing 5,006,883 5,006,883 100.0% 4,215,497 9.00% WMF 95-MA1 (3) (4) ADJ NR 8/25/95 Home Equity 5,299,965 7,040,049 89.7% 4,962,015 9.50% WMF 95-MF1 (3) (4) FIX NR 8/25/95 Home Equity 2,050,292 2,807,818 88.7% 2,098,659 9.50% ----------------------------- ------------- TOTAL $ 862,209,881 $ 469,188,560 $ 128,812,763 ============================= =============
- ---------- (1) NR means the security is not rated. (2) Based on the value reflected in the Company's financial statements as of December 31, 1999, which is the post-impairment basis (purchase price less amortization and impairment thereof) of the mortgage-backed securities (since future income or loss on mortgage-backed securities is a function of such post-impairment basis) plus accrued interest of $1,013,472. (3) Securities backed by loans that were previously held in the portfolio of WFSG or its affiliates and for which WFSG or one of its affiliates is continuing to act as servicer. (4) Includes prepaid senior class principal due to application of excess interest to senior class principal, thereby increasing subordinate class balance. (5) Book yield represents the effective yield expected on the security based upon the Company's original basis. 9
Constant Prepayment Rate for the Indicated Period (1) Delinquency (1)(4) ---------------------------------------------------------------------------- 1 3 6 12 Issue Name Month Months Months Months 30-59 Days 60-89 Days 90+ Days Foreclosure (1) - ---------------------------------------------------------------------------------------------------------------------------------- BAMS 98-1 13 8 8 N/A $ - $ - $ - $ - BAMS 98-1 13 8 8 N/A - - - - BAMS 98-2 17 11 10 16 - - - - BAMS 98-2 17 11 10 16 - - - - BSMSI 96-6 25 24 27 25 6,926,286 2,398,563 1,739,974 3,332,108 BSMSI 96-6 25 24 27 25 6,926,286 2,398,563 1,739,974 3,332,108 BSMSI 97-7 14 N/A 12 N/A 6,871,080 177,957 1,527,326 664,714 BSMSI 97-7 14 N/A 12 N/A 6,871,080 177,957 1,527,326 664,714 BSMSI 97-7 33 N/A 15 N/A 6,871,080 177,957 1,527,326 664,714 BSMSI 97-7 33 N/A 15 N/A 6,871,080 177,957 1,527,326 664,714 BSMSI 98-5 14 12 15 20 197,741 - 170,138 - BSMSI 98-5 14 12 15 20 197,741 - 170,138 - CHASE 94-H 15 10 8 21 - - 271,442 - CMC 98-1 7 7 10 18 2,864,166 - 231,732 232,865 CMC 98-1 7 7 10 18 2,864,166 - 231,732 232,865 CMC 98-1 7 7 10 18 2,864,166 - 231,732 232,865 CMC 98-1 7 7 10 18 2,864,166 - 231,732 232,865 CMC 98-1 7 7 10 18 2,864,166 - 231,732 232,865 CMC 98-1 7 7 10 18 2,864,166 - 231,732 232,865 CMSI 98-4 3 2 5 13 520,960 - - - CMSI 98-6 8 5 6 13 1,913,261 - - - CWMBS 97-8 4 6 10 26 908,000 - 433,477 - CWMBS 98-10 3 8 10 18 2,064,619 - 744,709 - CWMBS 98-11 7 9 10 17 3,468,605 532,174 55,781 158,070 CWMBS 98-12/ALT98-4 6 9 12 13 5,051,796 796,402 599,865 738,253 CWMBS 98-14 3 5 5 11 1,048,162 - - - GECMS 98-11.1 6 6 7 12 2,117,642 234,271 - 615,583 GECMS 98-11.2 6 6 7 12 591,637 - 495,223 220,815 GECMS 98-11.3 6 6 7 12 418,186 - - - GECMS 98-5 6 9 11 19 3,104,830 - - - Real Estate Cumulative Issue Name Owned (1) Bankruptcy (1)(2) Losses (1) - ----------------------------------------------------------------------- BAMS 98-1 $ - $ - - BAMS 98-1 - - - BAMS 98-2 - 519,035 - BAMS 98-2 - 519,035 - BSMSI 96-6 1,205,825 2,087,700 703,237 BSMSI 96-6 1,205,825 2,087,700 703,237 BSMSI 97-7 - - 37,395 BSMSI 97-7 - - 37,395 BSMSI 97-7 - - 37,395 BSMSI 97-7 - - 37,395 BSMSI 98-5 - - - BSMSI 98-5 - - - CHASE 94-H - - - CMC 98-1 - - - CMC 98-1 - - - CMC 98-1 - - - CMC 98-1 - - - CMC 98-1 - - - CMC 98-1 - - - CMSI 98-4 - - - CMSI 98-6 - - - CWMBS 97-8 - - - CWMBS 98-10 - - 27,322 CWMBS 98-11 - - 72,591 CWMBS 98-12/ALT98-4 - - 47,133 CWMBS 98-14 - - 28,001 GECMS 98-11.1 - - - GECMS 98-11.2 - - - GECMS 98-11.3 - - - GECMS 98-5 - - -
10
Constant Prepayment Rate for the Indicated Period (1) Delinquency (1)(4) -------------------------------------------------------------------------------------------------------- 1 3 6 12 Issue Name Month Months Months Months 30-59 Days 60-89 Days 90+ Days - ------------------------------------------------------------------------------------------------------------------------------------ GECMS 98-8 5 6 7 14 1,197,957 153,125 - GECMS 98-8A 5 6 7 14 - - - GECMS 98-9 4 6 7 12 2,586,054 - 233,412 MRFC 98-2 5 8 10 21 - - 257,016 NASCOR 98-12 9 7 9 12 4,558,706 180,710 1,108,019 NASCOR 98-14 8 9 7 11 - - - NASCOR 98-17 5 5 6 9 3,245,149 275,826 440,458 NASCOR 98-21 2 7 7 10 204,619 - - NASCOR 98-4 A 6 7 7 19 2,184,546 318,793 895,022 NASCOR 98-4 B 6 7 7 19 2,184,546 318,793 895,022 NASCOR 98-5 1 3 7 17 891,879 784,720 293,155 NISTAR 98-1 7 9 13 19 62,139 491,456 61,252 OCWEN 98R1 15 16 16 N/A 19,758,669 10,125,426 13,640,829 RFMSI 98-S12 10 0 6 15 7,050,286 555,396 363,603 RFMSI 98-S13 7 1 6 14 7,223,468 820,509 549,606 RFMSI 98-S3 10 1 6 19 9,047,207 2,375,201 824,843 RFMSI 98-S7 5 1 7 13 432,800 93,679 - BSMSI 98-1A 8 7 8 15 3,797,482 1,003,140 - N/A BSMSI 97-7A 20 15 N/A 6,871,080 177,957 1,527,326 INMC 94 L 15 16 17 26 1,131,378 219,393 558,884 GECMS 94-20 1 3 7 8 - - 153,712 MRFC 98-2 5 8 10 21 - - 257,016 NASCOR 97-3 6 11 17 22 500,821 - - NASCOR 1997-3 6 11 17 22 500,821 - - RFMSI 1997-S16 9 1 10 20 1,096,505 - - SAMI 98-8B 12 10 12 N/A 3,554,332 746,254 1,222,524 SAMI 98-8B 12 10 12 N/A 3,554,332 746,254 1,222,524 SAMI 98-8B 12 10 12 N/A 3,554,332 746,254 1,222,524 SAMI 98-8C 12 10 12 N/A 3,554,332 746,254 1,222,524 SAMI 98-8C 12 10 12 N/A 3,554,332 746,254 1,222,524 PSEC 93-3 5 15 14 32 231,855 - 222,525 BAMS 98-4 13 11 10 16 267,173 - - BAMS 98-4 13 11 10 16 267,173 - - CWHL 98-15 8 6 6 11 3,045,158 106,085 423,999 MFAST 97-1 22 21 22 21 5,642,739 1,772,217 4,069,447 PSWHI 97-4 23 20 21 21 3,594,803 1,589,514 2,898,012 Real Estate Cumulative Issue Name Foreclosure (1) Owned (1) Bankruptcy (1)(2) Losses (1) - -------------------------------------------------------------------------------------------------- GECMS 98-8 - - - - GECMS 98-8A - - - - GECMS 98-9 257,950 - - - MRFC 98-2 - - - - NASCOR 98-12 - - 233,194 6,504 NASCOR 98-14 - - - - NASCOR 98-17 - - 206,805 3,330 NASCOR 98-21 - - 100,000 2,720 NASCOR 98-4 A - - 669,970 7,491 NASCOR 98-4 B - - 669,970 7,491 NASCOR 98-5 745,888 - - 866 NISTAR 98-1 269,425 - 54,852 5,303 OCWEN 98R1 34,291,110 17,268,760 32,662,638 26,528,855 RFMSI 98-S12 830,354 516,253 - N/A RFMSI 98-S13 287,362 - - N/A RFMSI 98-S3 1,346,667 - - N/A RFMSI 98-S7 - - - N/A BSMSI 98-1A - - - - BSMSI 97-7A 664,714 - - 37,395 INMC 94 L 1,336,757 - - 1,122,561 GECMS 94-20 - - - - MRFC 98-2 - - - - NASCOR 97-3 - - - 69,416 NASCOR 1997-3 - - - 69,416 RFMSI 1997-S16 - - - N/A SAMI 98-8B 599,234 - 372,508 - SAMI 98-8B 599,234 - 372,508 - SAMI 98-8B 599,234 - 372,508 - SAMI 98-8C 599,234 - 372,508 - SAMI 98-8C 599,234 - 372,508 - PSEC 93-3 - - - - BAMS 98-4 - - - - BAMS 98-4 - - - - CWHL 98-15 472,829 - - - MFAST 97-1 - - 4,222,923 1,062,741 PSWHI 97-4 - - - 13,898,828
11
Constant Prepayment Rate for the Indicated Period (1) Delinquency (1)(4) --------------------------------------------------------------------------------------------------------- 1 3 6 12 Issue Name Month Months Months Months 30-59 Days 60-89 Days 90+ Days - ---------------------------------------------------------------------------- ------------------------------------------------------- GECMS 98-12 8 7 8 13 1,904,026 - 120,477 GECMS 98-13 5 6 7 10 3,058,047 - 514,389 GECMS 98-14 4 5 7 9 3,267,801 - 508,915 GECMS 98-15 10 8 8 10 3,291,022 - 257,966 RFMSI 97-S14 11 1 9 30 2,323,951 - 628,342 RFMSI 97-20 14 0 7 24 5,541,589 660,356 209,409 CITYH 97-A (5) 42 36 32 31 2,048,755 716,102 7,262,925 CITYH 97-B (5) 42 31 29 30 4,711,969 1,773,937 17,188,678 CITYH 97-C (R-1)(5) 44 37 36 35 1,355,021 793,270 13,662,400 CITYH 97-C (R-2)(5) 44 37 36 35 1,355,021 793,270 13,662,400 WIFC 96-3 (B-1)(3) 23 22 21 24 2,803,944 2,026,830 5,763,012 WIFC 96-3 (B-2)(3) 23 22 21 24 2,803,944 2,026,830 5,763,012 WIFC 96-3 (B-3)(3) 23 22 21 24 2,803,944 2,026,830 5,763,012 WIFC 97-WFC1 (B-1)(3) 16 17 19 21 1,800,806 920,681 2,851,292 WIFC 97-WFC1 (B-2)(3) 16 17 19 21 1,800,806 920,681 2,851,292 WIFC 97-WFC1 (B-3)(3) 16 17 19 21 1,800,806 920,681 2,851,292 WIFC 98-WFC2 (B-1)(3) 20 18 18 19 3,786,600 2,202,839 5,824,812 WIFC 98-WFC2 (B-2)(3) 20 18 18 19 3,786,600 2,202,839 5,824,812 WIMLT 98-3 (C)(3) 20 23 31 40 876,573 821,331 2,420,063 WIMLT 98-3 (B-1)(3) 20 23 31 40 876,573 821,331 2,420,063 WCOST 95-A (3) 10 12 11 10 1,207 76,152 5,195,074 WMHT 95-A (3) 26 26 29 29 239,020 143,200 391,845 WMF 95-MA1 (3) 27 28 29 29 487,509 196,201 1,718,984 WMF 95-MF1 (3) 27 28 29 29 487,509 196,201 1,718,984 Real Estate Cumulative Issue Name Foreclosure (1) Owned (1) Bankruptcy (1)(2) Losses (1) - --------------------------------------------------------------------------------------------------- GECMS 98-12 274,540 - - - GECMS 98-13 495,391 - - - GECMS 98-14 - - - - GECMS 98-15 - - - - RFMSI 97-S14 - - - N/A RFMSI 97-20 535,613 759,764 - N/A CITYH 97-A (5) 3,588,301 894,494 1,512,203 2,111,427 CITYH 97-B (5) 8,158,907 5,283,393 4,311,328 8,016,144 CITYH 97-C (R-1)(5) 8,465,760 3,886,369 4,603,106 5,832,688 CITYH 97-C (R-2)(5) 8,465,760 3,886,369 4,603,106 5,832,688 WIFC 96-3 (B-1)(3) 3,095,579 1,342,204 - 1,814,371 WIFC 96-3 (B-2)(3) 3,095,579 1,342,204 - 1,814,371 WIFC 96-3 (B-3)(3) 3,095,579 1,342,204 - 1,814,371 WIFC 97-WFC1 (B-1)(3) 1,354,857 606,248 - 424,857 WIFC 97-WFC1 (B-2)(3) 1,354,857 606,248 - 424,857 WIFC 97-WFC1 (B-3)(3) 1,354,857 606,248 - 424,857 WIFC 98-WFC2 (B-1)(3) 3,886,842 815,783 - 1,956,588 WIFC 98-WFC2 (B-2)(3) 3,886,842 815,783 - 1,956,588 WIMLT 98-3 (C)(3) 3,810,354 571,222 - 199,129 WIMLT 98-3 (B-1)(3) 3,810,354 571,222 - 199,129 WCOST 95-A (3) - - - 47,218 WMHT 95-A (3) - - - 61,391 WMF 95-MA1 (3) 865,893 218,080 - 430,316 WMF 95-MF1 (3) 865,893 218,080 - 430,316
- -------------- N/A Information is not available. (1) Data provided by trustees or servicers for the securities or other third-party sources. Delinquency data does not incorporate payment recency. For example, if a loan is 90 days delinquent at a point in time, and from that point on makes each regular monthly payment, that loan would be current on a recency basis, but not on a contractual delinquency basis. Because of this, for certain pools, delinquency rates may imply higher expected defaults than may actually occur. (2) Based on loans made to borrowers which were in bankruptcy as of December 31, 1999. (3) Securities backed by loans that were previously held in the portfolio of WFSG or its affiliates and for which WFSG or one of its affiliates is continuing to act as servicer. (4) Delinquency amounts do not include Foreclosure, Real Estate Owned, or Bankruptcy amounts included elsewhere in this table. (5) Delinquency amounts include Foreclosure, Real Estate Owned, and Bankruptcy amounts. 12 Non-Discounted Loans We consider non-discounted loans to be performing and sub-performing loans that are available for purchase at prices that more closely approximate their unpaid principal balances. Non-discounted loans include: Non-discounted Commercial Loans. Performing loans secured by commercial and multi-family properties located in the United States and the United Kingdom. Non-discounted Single-family Residential Loans. Non-discounted loans to individuals who do not qualify for traditional "Agency A" credit because their credit histories, debt to income ratios or other factors do not meet the standard lending criteria established by federal agencies such as the FNMA and FHLMC. These loans are generally secured by first mortgages on single-family residences located in the United States. We seek to identify and acquire non-discounted loans that provide current cash income and still meet our requirements with respect to risk-adjusted rates of return. Our investment emphasis with respect to non-discounted loans is on current income and appreciation as a result of favorable default experience. At December 31, 1999, non-discounted loans had an aggregate book value of $30.5 million and are primarily secured by mortgages or deeds of trust on commercial or multi-family real property. At December 31, 1999, approximately $29.9 million or 98% of our non-discounted loans were secured by real properties located in the United States ("U.S. Non-Discounted Commercial Loans") and $0.6 million were secured by real properties located in the United Kingdom ("International Non-Discounted Loans"). U.S. Non-Discounted Commercial Loans U.S. Non-Discounted Commercial Loans were originated by various unrelated parties under different underwriting criteria at different times and were acquired at various times. At December 31, 1999, our U.S. Non-Discounted Loans were secured by a variety of commercial properties. Most of our U.S. Non-Discounted Commercial Loans were secured by first priority liens and were current as to their monthly payments. Set forth below is a brief description of the principal U.S. Non-Discounted Commercial Loans in our loan portfolio at December 31, 1999. Starrett-Lehigh, 601 West 26th Street. This is a $25 million investment in mezzanine debt secured by the Starrett-Lehigh building in the Chelsea district of New York City. The building was acquired in 1996 with $100 million of senior debt, $52.5 million of subordinated debt and $26 million in reserves for capital expenditures and interest. The mezzanine loan pays interest at a rate of Libor plus 4.75%, with principal due on the maturity date in August 2001. The loan-to-value ratio on an as-is basis at the time of acquisition was 98%; however, since completion of the planned improvements, the current estimated LTV is approximately 60%. The building is a two million square foot, nineteen-story warehouse/showroom type building in the Chelsea section of Manhattan. NW Cornell & Miller. This was a first lien mortgage loan for the construction of a private school located in Portland, Oregon. The original construction loan of $4,878,300 rolled into a first lien, ten-year, fixed-rate loan at 9%, due April 1, 2009. The loan pays interest only for the first year with the interest capitalized onto the note, amortizes over a 29-year term, and has a balloon payment of $4.8 million due at end of the 10th year. The principal balance of the note at December 31, 1999 was $5.2 million. Discounted Loans Our discounted loans consist of mortgage loans that are in default or for which default is likely or imminent or for which the borrower is currently making monthly payments in accordance with a forbearance plan. These loans generally are purchased at a discount to both the unpaid principal amount of the loan and the estimated value of the underlying property. Hence, we refer to these mortgage loans as discounted loans throughout this document. Furthermore, we refer to discounted loans that are secured by commercial or multi-family real properties in the United States as "U.S. Discounted Commercial Loans." We refer to discounted loans that are secured by residential, commercial or multi-family real properties outside the United States as "International Discounted Loans." At December 31, 1999, the Company had approximately $1.2 million of U.S. Discounted Loans and no International Discounted Loans. Discounted Loans were originated by various unrelated parties under different underwriting criteria at different times and were acquired at various times. We seek to identify and acquire discounted loans that will meet our risk-adjusted return objectives over an 18 to 24 month period. During this period, we typically either restructure the terms of the loans or exercise our rights to acquire control of the underlying property. 13 With respect to discounted loans, we generally seek to cause the owners of the properties to take steps to improve the cash flow on the property and bring the loan current or to foreclose on the property and implement our own plan to improve cash flow. We also seek to diversify our investments in discounted loans and other real estate investments geographically in order to reduce our exposure to the real estate cycle in any one geographical area. The book value recorded on our financial statements generally reflects the purchase price paid by us for such loan. We generally expect to recover the excess of the estimated value of the property over the purchase price. We do not accrue interest or recognize income on such loans until we receive cash in respect of such loans. At December 31, 1999, our discounted loans were secured by a variety of commercial properties. Subsequent to year-end, substantially all of the discounted loans paid off at net book value. DIP Loan In conjunction with WFSG's restructuring in 1999, the Company funded a debtor-in-possession loan ("DIP") to WFSG of $5.0 million. The DIP loan bears interest at 12% and is secured by the stock of First Bank of Beverly Hills, F.S.B., WFSG's savings bank subsidiary, and its holding company, Wilshire Acquisitions Corporation. The DIP loan matures on February 29, 2004 and repayment is made through fully amortizing principal and interest payments commencing on February 29, 2000. Prior to February 29, 2000, only interest payments were required. In February 2000, the Company declared WFSG to be in default of the loan agreement with the Company and declared the balance immediately due and payable. WFSG disputes that they are in default of the loan agreement. For further discussion, see Item 1. Business. Real Estate We invest in commercial and multi-family real properties located in the United States and the United Kingdom. 14 The following table sets forth information regarding the majority of our investments in real estate at December 31, 1999.
Approximate Net Percentage Leased Name of Year Built/ Leaseable at December 31, No. of Annualized Date Acquired Property Location Renovated Sq. Ft. 1999 Leases Rent(1) - ------------- -------- -------- --------- ------- ---- ------ ---------- 4/8/98 Madison Street Portland, OR 1961 15,000 100% 2 $ 247,983 4/6/98 Taylor Street Portland, OR 1960 28,000 100% 4 323,487 4/27/98 Columbia Street Portland, OR N/A 12,999 100% 2 207,984 4/21/98 G.I. Joe's Gresham, OR 1987 55,888 100% 1 447,108 4/21/98 G.I. Joe's(3) Wilsonville, OR 1978 170,398 100% 1 759,780 4/21/98 G.I. Joe's Salem, OR 1981/98 96,933 100% 1 642,036 4/21/98 G.I. Joe's Tualatin, OR 1985/1985 55,100 100% 1 661,200 4/21/98 G.I. Joe's Milwaukee, OR 1972/1989 66,545 100% 1 465,816 4/6/98 Eugene Warehouse Eugene, OR Unknown 84,912 100% 1 281,288 11/18/98 Buena Vista Irwindale, CA N/A 654,734 N/A N/A N/A Business Park 7/7/98 Jefferson Street Portland, OR N/A 10,000 88% 2 89,760 4/21/98 G.I. Joe's - Wilsonville, OR N/A 474,804 N/A N/A N/A Excess Land 6/30/98 Warner Estates United Kingdom Various 227,977 98% 75 2,448,926 Weighted Average Rent Per Square Date Acquired Foot Occupied Net Book Value - ------------- ------------- -------------- 4/8/98 16.53 $ 1,790,000 4/6/98 11.55 2,537,000 4/27/98 16.00 1,608,000 4/21/98 8.00 27,312,000(2) 4/21/98 4.46 27,312,000(2) 4/21/98 6.62 27,312,000(2) 4/21/98 12.00 27,312,000(2) 4/21/98 7.00 27,312,000(2) 4/6/98 3.31 2,445,000 11/18/98 N/A 3,239,000 7/7/98 10.20 1,379,000 4/21/98 N/A 27,312,000(2) 6/30/98 10.96 22,546,000
- --------------------- N/A Not applicable (1) Annualized rent for the current period represents the base fixed rental scheduled to be paid by the tenants under the terms of the related lease agreement, which amount generally does not include payments on account for real estate taxes, operating expenses, and utility charges. We believe that annualized rent is helpful to investors as a measure of the revenues we could expect to receive from our leases. However, we cannot assure you that scheduled lease revenues will equal the actual lease revenues we received in the past. (2) Includes all G.I. Joe's properties owned by us. (3) This property was built in three phases. Phase 1 B Distribution Warehouse-built in 1978. It contains 104,497 sq. ft. with 4,044 sq.ft. of interior two story finished area. Phase 2 B Corporate Office-built in 1983. It is a single story structure containing 24,392 sq. ft. Phase 3 B An addition to the warehouse built in 1968. It contains 4,159 sq. ft. Set forth below is a brief description of each of the properties set forth in the above table: 1776 SW Madison Street ("Madison Building"). This three-story, brick office building is located 16 blocks from downtown Portland and is adjacent to the light-rail transit line. The building, which is currently leased to WFSG and its affiliates, serves as WFSG's corporate headquarters. This property, which was upgraded and remodeled in 1996, was originally constructed in 1961. The lease with WFSG expires in December 2001 and the rent is competitive for the Portland, Oregon marketplace. Subsequent to December 31, 1999,the Company sold this building (with other Portland properties noted below) at a gain of approximately $1 million. 1705 SW Taylor Street. The Taylor Street Buildings consist of two office/industrial buildings located 16 blocks from downtown Portland. Currently the properties are occupied by WFSG and its affiliates, under leases which expire in December 2001 on competitive terms in the Portland, Oregon marketplace. The Company sold these buildings after year-end (see Madison Building above). 1631 SW Columbia Street ("Columbia Buildings"). This office building is located 16 blocks from downtown Portland and is adjacent to the light-rail transit line. The building is currently leased to WFSG and its affiliates. This property, which was upgraded and remodeled in 1998, was originally constructed in 1961. The lease with WFSG expires in April 2003 and the rent is competitive for the Portland, Oregon marketplace. The Company sold this property after year - -end (see Madison Building above). The Company has agreed to assume WFSG's lease (with the new, unaffiliated owner of this building) prior to or on July 1, 2000 and occupy this building as the Company's corporate headquarters. 15 G.I. Joe's. The G.I. Joe's properties are comprised of five (5) retail buildings and G.I. Joe's Headquarters Office Complex/Warehouse/Distribution Center, totaling approximately 445,000 square feet. The retail buildings are located in Salem (two buildings adjacent to each other), Milwaukee, Tualatin, and Gresham, all major cities in the State of Oregon. The Office/Warehouse/Distribution Center is located in Wilsonville, Oregon. All of the buildings are leased to G.I. Joe's on competitive market rents under fifteen year leases ending in April 2013. G.I. Joe's subleases 29,952 square feet in Salem to Office Depot, Inc. The land at the Gresham location is under a 50-year ground lease (expiration in year 2037) with five (5) 10-year options between G.I. Joe's and Gresham RPR Associates, an unaffiliated entity. Adjacent to the Office/Warehouse/Distribution Center is a 10.90-acre tract available for future development by the Company. 90005 Prairie Road ("Eugene Warehouse"). This building is located on 4.5 acres with access to Interstate Route 5 via Belt Line Road and to the Eugene-Springfield metropolitan and Gateway areas. The property is served by an on-site rail spur and the property is within the West Eugene enterprise zone. This property has one tenant (which is not affiliated with the Company) under a lease which expires in November 2000. 1701 SW Jefferson Street. This office building is located 16 blocks from downtown Portland and is adjacent to the light-rail transit line. The building was leased to Tommy Luke Flowers, Inc. ("Tommy Luke"). This property was originally constructed in 1960. The Company sold this property after year-end (see Madison Building above). Buena Vista Business Park, 2400 Block of Bateman Avenue, Irwindale, California. This property was acquired on November 18,1998 and consists of 11 level finished industrial zoned lots ranging from 34,925 to 154,943 square feet and totally 654,794 square feet or 15.032 acres. The parcels are fully improved with all the major off-sites in place, i.e., paved-streets, streetlights, curbs, gutters and utilities. Irwindale is located at the center of the San Gabriel Valley which is located between the inland empire region and downtown Los Angeles. This site has access to Interstate Route 210 and Interstate Route 605. Warner Estates. At December 31, 1999, we maintained a (pound)14.541 million ($22.5 million) investment in International Commercial Properties which consisted of 21 properties in the Midlands and Southeast of England. There is approximately 228,000 square feet of rentable space in the portfolio and the properties are virtually 100% leased to 75 tenants, with most leases maturing in five to seven years. Leases provide for upward-only rental increases, which require tenants to pay the higher of their current rent or the market rates when rates are reviewed. With a well-diversified portfolio of tenants located in a variety of UK locations, this portfolio generates current income and is insulated from fluctuating property rental levels. Lease Expirations. The following table sets forth a summary schedule of the lease expirations for the commercial properties (other than the foreclosed properties) for leases in place as of December 31, 1999, assuming that none of the tenants exercise renewal options or termination rights, if any, at or prior to the scheduled expirations.
Percentage of Percentage Square Aggregate Average Base Rent Aggregate Number of Footage of Portfolio Annualized Base per Square Foot of Portfolio Year of Lease Leases Expiring Leased Rent of Expiring Expiring Annualized Expiration (1) Expiring Leases Square Feet Leases (2) Leases (3) Base Rent ----------------------------------------------------------------------------- ----------------------------------- 2000........ 10 102,759 12.6% $ 470,202 $ 4.58 7.2% 2001........ 7 22,285 2.7 332,273 14.91 5.1 2002........ 11 81,567 10.0 906,138 11.11 13.8 2003........ 6 20,418 2.5 289,292 14.17 4.4 2004........ 8 30,156 3.7 330,513 10.96 5.0 2005........ 1 2,138 .3 23,435 10.96 .4 2006........ 3 8,995 1.1 98,588 10.96 1.5 2007........ 3 4,881 .6 53,496 10.96 .8 Thereafter.. 26 544,818 66.5 4,071,431 7.47 61.8 ------------------------- ---------------------------------- ----------------------------------- 75 818,017 100.0% $ 6,575,368 $ 8.04 100.0% ========================= ================================== ===================================
- ------------------- (1) Lease year is on a calendar year basis. (2) Annualized base rent is calculated based on the amount of schedule rent in the expiring year. (3) Annualized base rent per square foot is calculated using the annualized base rent divided by a weighted average square footage. 16 Mortgage Indebtedness. Our general strategy is to leverage our investments by incurring borrowings secured by such investments. Set forth below is information regarding our mortgage indebtedness relating to U.S. Commercial Properties as of December 31, 1999.
Principal Maturity Annual Property Amount Interest Rate Date Amortization Payments -------- ------ ------------- ---- ------------ -------- Madison Street (1) $ 888,000 9.10% 11/1/06 25 Years $ 93,760 Madison Street B Second Lien (1) 618,000 10.00 10/1/08 25 Years 68,153 Taylor Street (1) 1,143,000 9.10 11/1/06 25 Years 120,817 Taylor Street B Second Lien (1) 1,027,000 10.00 10/1/08 25 Years 113,406 Eugene Warehouse 1,076,000 10.63 1/1/01 30 Years 133,080 Jefferson Street (1) 924,000 10.00 10/1/08 25 Years 101,956 Columbia Street (1) 1,243,000 10.00 10/1/08 25 Years 141,212 GI Joe's (2) 20,540,000 7.61 5/11/23 25 Years 1,897,756 Warner Estates (3) 18,033,000 8.20 1/25/19 20 Years 1,480,580
- --------------- (1) The properties were sold in January 2000 and all related debt was paid off at that time. (2) The G.I Joe's loan has an anticipated prepayment date of May 11, 2008. If the loan is not repaid by this date, the interest rate will increase to a new rate as specified in the loan agreement, which will be at least two percentage points higher. This loan has a balloon payment of $16,507,832. (3) U.S. dollar equivalents. The loan is denominated in pounds sterling and is interest only with a balloon payment at maturity. Many of the mortgage loans obtained by us to finance our real estate investments do not fully amortize over their terms and instead require substantial balloon payments on their maturity dates. Because the principal balance of such mortgage loans does not fully amortize over the term of the mortgage loan, such mortgage loans may be more difficult for us to repay at maturity than mortgage loans whose principal balance is fully amortized over the term of the mortgage loan. Our ability to pay the balloon amount due at maturity of such mortgage loans will depend on our ability to obtain adequate refinancing or funds from other sources to repay such mortgage loans. Significant Properties Set forth below is additional information with respect to G.I. Joe's, which is deemed "significant" under the requirements of the Securities and Exchange Commission. Depreciation. The basis, net of accumulated depreciation, of G.I. Joe's aggregated approximately $27.3 million as of December 31, 1999. The real property associated with G.I. Joe's (other than land) generally will be depreciated for federal income tax purposes over 39 years using the straight-line method. For financial reporting purposes, G.I. Joe's is recorded at its historical cost and has been depreciated using the straight-line method over its estimated useful life, which is estimated to be 35 years. Real Estate Taxes. The 1999 annual real estate taxes paid on G.I. Joe's were approximately $273,000. Of this amount, only $13,000 (for excess land) is an obligation of the Company as G.I. Joe's, Inc. is responsible for property taxes on the leased real estate according to the terms of the leases. Occupancy. At December 31, 1999, all six (6) properties were leased to G.I. Joe's under five (5) separate leases. The tenant is engaged in the retailing of sporting goods and automotive products. The tenant owned and occupied five of the six locations (except the 29,952 square feet building in Salem) at the time we purchased the buildings. Accordingly, there is no prior occupancy data since the current tenant owned and occupied the properties before our acquisition. According to the terms of the lease, G.I. Joe's is required to pay certain reserves on a monthly basis for 10 years, commencing with the beginning of the leases. G.I. Joe's is current in the payment of these reserves. Lease Expirations. At December 31, 1999, G.I. Joe's leases all the buildings under five (5) separate leases which all expire in April 2013. G.I. Joe's has two (2) five-year options upon lease expiration. The average rental rate is $6.70 per square foot (total annual rent of $2,975,940) for the first five years, on a triple net basis. The rental rate will be adjusted every five years based on the Consumer Price Index. 17 Funding Sources In order to maximize the return on our investments, we generally fund acquisitions with third-party debt financing so that our invested capital represents a limited percentage of the purchase price. The principal sources for funding loans and mortgage-backed securities are repurchase agreements with major investment banks. Repurchase agreements are secured lending arrangements which involve the borrower selling an asset to a lender at a fixed price with the borrower having an obligation to repurchase the asset within a specified period (generally 30 days) at a higher price reflecting the interest cost of the loan. If the value of the underlying asset declines as determined by the lender, the lender may request that the amount of the loan be reduced by cash payments from the borrower or additional collateral be provided by the borrower (generally known as "collateral calls"). Funding for real property assets generally are longer-term traditional mortgage financing with banks and other financial institutions. We closely monitor rates and terms of competing sources of funds on a regular basis and generally utilize the source which is the most cost effective. Following the substantial market volatility in the third and fourth quarters of 1998 and significant declines in valuations for mortgage-backed securities, the availability of financing for purchases of mortgage-backed securities has generally declined and is generally on less favorable terms. In addition, we are seeking to obtain longer term financing for a portion of our assets to decrease the risk of forced asset sales to meet collateral calls. The following table sets forth information relating to our borrowings and other interest-bearing obligations at December 31, 1999 and 1998. December 31, ------------------------ 1999 1998 ----------- ----------- (Dollars in thousands) Short-term borrowings.............................. $ 96,815 $ 225,566 Other borrowings................................... 64,412 60,577 ----------- ----------- Total..................................... $ 161,227 $ 286,143 =========== =========== The following table sets forth certain information related to the Company's short-term borrowings. During the reported period, short-term borrowings were comprised of warehouse lines, repurchase agreements and other short-term facilities. Averages are determined by utilizing month-end balances.
At or for the Year Ended December 31, ------------------------ 1999 1998 ----------- ----------- (Dollars in thousands) Average amount outstanding during the period...................... $ 155,473 $ 254,945 Maximum month-end balance outstanding during the period........... $ 203,742 $ 475,351 Weighted average rate: During the period............................................ 8.2% 7.2% At end of period............................................. 8.9% 7.6%
Asset Quality We are exposed to certain credit risks related to the value of the collateral that secures our loans and the ability of borrowers to repay their loans. We closely monitor our loans and foreclosed real estate for potential problems on a periodic basis and report to the Board of Directors at regularly scheduled monthly meetings. Each loan or foreclosed property is reviewed at least once a month and problem loans or properties are monitored at least weekly. Non-Performing Loans. It is our policy to establish an allowance for uncollectible interest on loans that are over 90 days past due or sooner when the probability of collection of interest is deemed to be insufficient to warrant further accrual. Upon such a determination, those loans are placed on non-accrual status and deemed to be non-performing. When a loan is placed on non-accrual status, previously accrued but unpaid interest is reversed by a charge to interest income. 18 Foreclosed Real Estate. We carry our holdings of foreclosed real estate at the lower of cost or fair value. Foreclosed real estate is periodically reevaluated to determine that it is being carried at the lower of cost or fair value less estimated costs to sell. Holding and maintenance costs related to properties are recorded as expenses in the period incurred. Deficiencies resulting from valuation adjustments to foreclosed real estate subsequent to acquisition are recognized as a valuation allowance. Subsequent increases related to the valuation of real estate owned are reflected as a reduction in the valuation allowance, but not below zero. In other words, the book basis of foreclosed real estate (net of valuation reserves provided after the date of foreclosure) cannot exceed the book basis of the real estate at the date of foreclosure, except to the extent of capital improvements. Increases and decreases in the valuation allowance are charged or credited to income, respectively. Allowances for Loan Losses. We maintain an allowance for loan losses at a level believed adequate to absorb estimated losses in the loan portfolios. The allowance is increased by provisions for loan losses charged against operations, recoveries of previously charged off credits, and allocations of discounts on purchased loans, and is decreased by charge-offs. Loans are charged off when they are deemed to be uncollectible. When we increase the allowance for loan losses related to loans other than discounted loans, we record a corresponding increase to the provision for loan losses in the statement of operations. For discounted loans, increases to the allowance for loan losses are recorded shortly after each acquisition of a pool by allocating a portion of the purchase discount deemed to be associated with measurable credit risk. The allocation is based on the analyses of specific valuation allowances discussed above. Amounts allocated to the allowance for loan losses from purchase discounts do not increase the provision for loan losses recorded in the statement of operations; rather they decrease the amounts of the purchase discounts that are accreted into the interest income over the lives of the loans. If, after the initial allocation of the purchase discount to the allowance for loan losses, we subsequently identify the need for additional allowances against discounted loans, the additional allowances are established through charges to the provision for loan losses. The following table sets forth the activity in the allowance for loan losses during the periods indicated. Year Ended December 31, ---------------------------- 1999 1998 ----------- ----------- (Dollars in thousands) Balance, beginning of period............. $ 11,108 $ - Allocation of purchased loan discount: at acquisition........................ 7,416 at disposition........................ (1,312) Charge offs.............................. (7,364) (901) Recoveries............................... 386 - (Recapture) provision for loan losses.... (1,150) 5,905 ----------- ----------- Balance, end of period................... $ 2,980 $ 11,108 =========== =========== During the year ended December 31, 1999, the Company reversed a provision for losses of $3.9 million taken in prior periods for a loan held for sale. The loan was secured by commercial properties in the United Kingdom with a carrying value of approximately $47.9 million. This valuation allowance had been established in 1998 based upon WRSC's estimate at that time of the ultimate recoverability of the asset. This provision reversal was partially offset by a provision for losses on loans of $0.1 million. In addition, we recognized a net write-down of $2.7 million in the carrying value of a $17.0 million note receivable from WFSG to reflect the estimated value of the common stock of WFSG to be received in exchange for a portion of the note. Total provision for losses for the year ended December 31, 1998 was $11.8 million, which included a $5.9 million valuation adjustment of an unsecured $18.4 million receivable from WFSG, in addition to the $5.9 million of loan loss provision included in the schedule above. The receivable from WFSG, net of this valuation adjustment, is included in due from WFSG in the consolidated statement of financial condition as of December 31, 1998. 19 The table below sets forth the delinquency status of our non-discounted loans at the dates indicated.
December 31, 1999 December 31, 1998 ------------------------ --------------------------- Percent Percent Balance of Portfolio Balance of Portfolio ------- ------------ ------- ------------ (Dollars in thousands) Period of Delinquency 31-60 days $ 154 .5% $ -- -% 61-90 days -- -- 514 .4 91 days or more (1)(2) 507 1.6 39,316(3) 32.9 ------- ---- ------- ----- Total loans delinquent $ 661 2.1% $39,830 33.3% ======= ==== ======= =====
- --------------- (1) All loans delinquent over 90 days were on nonaccrual status. (2) We classify loans as discounted or non-discounted on a pool basis. Each pool is designated as discounted or non-discounted based on whether the pool consists primarily of discounted or non-discounted loans at the time of acquisition. For example, a pool of non-discounted loans may contain non-performing loans at the time of acquisition as long as the non-performing loans were not the primary component of the pool at the time. As a result, the Company does not believe that this information is a meaningful indicator of the delinquency experience on its non-discounted loans. (3) The December 31, 1998 balance includes one loan for $38,560 to a party in Oregon. Subsequent to December 31, 1998, this loan was paid off. Computer Systems and Other Equipment The Company and its service providers utilize a number of technologically dependent systems to operate, service mortgage loans and manage mortgage and other related assets. Many existing computer software programs and other technologically dependent systems use two digits to identify the year in date fields and, as such, could fail or create erroneous results by or at the Year 2000. Management closely monitored the Company's operations subsequent to January 1, 2000 in relation to the Year 2000 matter and continues to monitor such operations. The Company's information systems are operational with no apparent adverse impact arising as a result of or associated with the Year 2000 matter. Additionally, the Company is not aware of, and has not experienced, any Year 2000 issues at its key service providers, vendors, mortgage securities servicers and other third parties. Management considers the risk of any residual potential Year 2000 matter failures to be minimal. ITEM 2. PROPERTIES OFFICES The Company's corporate headquarters are located in Portland, Oregon, where the Company subleases approximately 2,000 square feet of office space from WFSG on a month-to-month basis. The Company has agreed to assume WFSG's lease (with an unrelated third party) on or before July 1, 2000 for the space currently occupied by the Company and an adjacent building consisting of approximately an additional 10,000 square feet. ITEM 3. LEGAL PROCEEDINGS With the exception of disputes with WFSG and its affiliates discussed in "Item 1. Business," the Company is involved in various legal proceedings occurring in the ordinary course of business which the Company believes will not have a material adverse effect on the financial condition or operations of the Company. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS At the Company's Annual Meeting of Shareholders on September 10, 1999, the Company's shareholders voted not to elect REIT status and to change the Company's name to Wilshire Real Estate Investment Inc. 20 PART II ITEM 5. MARKET FOR THE REGISTRANT"S COMMON EQUITY AND RELATED STOCKHOLDER MATTER Effective April 6, 1998, our common stock, par value $0.0001 per share (the "Common Stock") became quoted on the National Association of Securities Dealers Automated Quotation System ("NASDAQ") under the symbol "WREI." The initial public offering price was $16.00 per share. The approximate number of record holders of our Common Stock at February 29, 2000 was 14. Prior to April 6, 1998, there was no public market for the Company's Common Stock. The following table sets forth the high and low sales prices for the Common Stock as quoted on the NASDAQ for the periods indicated.
1999 High Low ------------------------------------------ ------------------ --------------------- First quarter $ 4 $ 2-29/32 Second quarter $ 4-1/2 $ 3-5/16 Third quarter $ 3-7/8 $ 2-9/16 Fourth quarter $ 3-1/16 $ 2-1/8 1998 High Low ------------------------------------------ ------------------ --------------------- Second quarter (from April 6) $ 17-7/16 $ 16 Third quarter $ 17-3/8 $ 9-7/8 Fourth quarter $ 10-3/8 $ 2-1/16
The following table sets forth the amount of cash dividends declared on the common stock during the periods indicated. Cash Dividends 1999 Per Share -------------------------------------- -------------- Entire year None Cash Dividends 1998 Per Share -------------------------------------- -------------- Second quarter (from April 6) $ 0.27 Third quarter 0.40(1) Fourth quarter - - ---------- (1) The Company has delayed the expected payment date of a $0.40 cash dividend payable on October 27, 1998 to shareholders of record at September 30, 1998. The Company will pay interest, at the rate of 4% per annum, on the amount due calculated from the previously announced payment date through the date of the actual payment. The Company currently intends to retain its earnings to support its future growth strategy and does not anticipate declaring and paying any new dividends on its common stock in the foreseeable future. The Company anticipates paying the previously declared dividend to shareholders of record at September 30, 1998, subject to the financial condition, results of operations and capital requirements of the Company as well as other factors deemed relevant by the Board of Directors. 21 ITEM 6. SELECTED FINANCIAL DATA The following table sets forth selected historical, financial and operating data on a consolidated basis at December 31, 1999 and 1998 and for the years then ended. The information contained in this table should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations," and our historical consolidated financial statements, including the notes thereto, included elsewhere in this report.
Year Ended December 31, ------------------------------- 1999 1998 (1) ------------ ------------ (Dollars in thousands, except share data) Statement of Operations Data: Net Interest Income: Loans, loans held for sale and discounted loans ...... $ 6,740 $ 10,838 Securities ........................................... 15,342 15,709 Other investments .................................... 604 1,145 ------------ ------------ Total interest income ............................. 22,686 27,692 Interest expense ..................................... 12,897 13,608 ------------ ------------ Net interest income before provision for estimated losses .................................. 9,789 14,084 (Recapture) provision for loan losses ................ (1,150) 11,842 ------------ ------------ Net interest income after (recapture) provision for estimated losses .................................. 10,939 2,242 Real Estate Operations: Operating income ..................................... 7,148 4,939 Operating expense .................................... (205) (345) Interest expense ..................................... (4,546) (2,853) Gain on sale of real estate .......................... 1,042 -- Provision for losses ................................. (892) -- Depreciation ......................................... (1,102) (963) ------------ ------------ Total real estate operations ...................... 1,445 778 Other Operating (Loss) Income: Market valuation losses and impairments .............. (30,029) (54,822) Provision for disputes with WFSG ..................... (4,077) -- Gain on sale of securities ........................... 1,326 943 Gain on sale of loans ................................ -- 1,320 Gain (loss) on foreign currency ...................... (66) 23 Other income ......................................... 246 -- ------------ ------------ Total other operating loss ........................ (32,600) (52,536) Operating Expenses: Compensation and employee benefits ................... 1,353 -- Management fees ...................................... 2,404 3,179 Professional fees .................................... 1,250 1,220 Servicing fees ....................................... 256 691 Loan expenses ........................................ 49 500 Other ................................................ 1,119 1,282 ------------ ------------ Total operating expenses .......................... 6,431 6,872 ------------ ------------ Net Loss ................................................. $ (26,647) $ (56,388) ============ ============ Per Share Data: Net Loss ................................................. $ (2.33) $ (4.94) Dividends ................................................ $ -- $ 0.67 Weighted average shares outstanding ...................... 11,442,921 11,421,933
22
Year Ended December 31, ------------------------------- 1999 1998 (1) ------------ ------------ (Dollars in thousands, except share data) Cash Flow Data: Net cash (used in) provided by operating activities ..... $ (12,215) $ 4,484 Net cash provided by (used in) investing activities ...... $ 138,283 $ (447,921) Net cash (used in) provided by financing activities ...... $ (124,969) $ 448,219 Other Data: Depreciation ............................................. $ 1,102 $ 963 EBITDA(2) ................................................ $ (8,301) $ (38,964) Ratio of EBITDA to interest expense ...................... (0.48) (2.37) Ratio of earnings to fixed charges ....................... (1.07) (2.43)
December 31, ------------------------------- 1999 1998 ------------ ------------ Balance Sheet Data: Total assets ............................................. $ 220,812 $ 381,117 Cash and cash equivalents ................................ $ 5,862 $ 4,782 Securities available for sale, at fair value ............. $ 104,572 $ 158,738 Loans, net ............................................... $ 30,459 $ 69,124 Loans held for sale, net ................................. $ -- $ 44,006 Discounted loans, net .................................... $ 1,175 $ 2,498 Investments in real estate, net .......................... $ 63,225 $ 85,005 Investment in WFSG, at fair value ........................ $ 3,953 $ -- Notes receivable from WFSG ............................... $ 5,275 $ -- Prepaid service fees to WCC .............................. $ 2,974 $ -- Due from WFSG ............................................ $ -- $ 12,352 Short-term borrowings .................................... $ 96,815 $ 225,566 Other borrowings ......................................... $ 64,412 $ 60,577 Due to WCC ............................................... $ -- $ 11,698 Total stockholders' equity ............................... $ 50,872 $ 72,443 Ratio of total assets to stockholders' equity ............ 4.34 5.26
- ------------- (1) We commenced operations on April 6, 1998; therefore, the information presented only reflects actual operations for the abbreviated nine-month period ended December 31, 1998. (2) EBITDA means net income plus interest expense plus taxes and depreciation plus (or minus) amortization of premiums and discounts, net. 23 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion should be read in conjunction with the Consolidated Financial Statements of the Company and notes thereto. GENERAL Wilshire Real Estate Investment Inc. ("WREI" or the "Company") is a Nasdaq-listed company which invests primarily in the following types of assets: o mortgage-backed securities, o discounted and non-discounted mortgage loans, o real estate, and o other real estate related investments. We were incorporated on October 24, 1997 and commenced operations on April 6, 1998 following the completion of our initial public offering of approximately $167.0 million. In 1999, in response to adverse market conditions and the resulting effect on our operations, we focused our efforts on stabilizing our existing asset base and greatly reduced acquisition activities. General market conditions and availability of financing for certain of our asset categories, especially subordinated mortgage-backed securities and mezzanine loans, continue to be uncertain. Our results of operations for the year ended December 31, 1999 reflect this continued difficult marketplace, which include further impairment write-downs of mortgage-backed securities, a significant portion of which had previously been deducted from stockholders' equity through "Accumulated other comprehensive loss." At December 31, 1999, the Company had reduced its assets to approximately $220.8 million and its equity was $50.9 million. Notwithstanding this uncertainty, we expect to gradually resume acquisition activities with an increased emphasis on investment in mortgage-backed securities, loans and related assets and a decreased emphasis on commercial operating properties. We believe that investments in loans provide higher yields and allow us to more efficiently leverage our existing capital for a given risk tolerance, thereby providing us a higher risk-adjusted return on equity. In addition, we believe there may be attractive opportunities for additional investments in Europe. We may also seek to invest in other companies that invest in real estate related assets, especially where the market capitalizations of such companies do not reflect the inherent values of the underlying assets or franchises. Nonetheless, we continue to make investment decisions on an opportunistic basis and will evaluate investment opportunities as they arise or are developed. Total market valuation losses and impairments recorded in earnings for the year ended December 31, 1999 and 1998 were $30.0 million and $54.8 million, respectively. In an effort to increase liquidity and meet current obligations, we have delayed the expected payment date of a $0.40 per share cash dividend (or $4.1 million in the aggregate) originally payable on October 27, 1998 to shareholders of record at September 30, 1998. The Company will pay interest, at the rate of 4% per annum, on the amount due calculated from October 27, 1998 through the date of the actual payment. INCOME TAX STATUS In order to take advantage of the significant potential tax benefits related to net operating loss carryforwards and to avoid the risk of not qualifying as a real estate investment trust ("REIT"), we reevaluated our original plan to elect to be taxed as a REIT. Our Board of Directors had been informed that potentially serious adverse tax consequences could result (including tax penalties) in the event that we elected to be a REIT but were unable to qualify as such under the Internal Revenue Code of 1986, as amended. As a result of these factors, we concluded that it was in our best interests not to elect REIT status. On September 10, 1999, our shareholders voted not to elect REIT status. Since we elected not to be taxed as a REIT, we will be subject to corporate taxation. However, as of December 31, 1999, we had, for U.S. Federal tax purposes, a net operating loss carryforward of approximately $95 million, which begins to expire in 2018. U.S. tax regulations impose limitations on the use of net operating loss carryforwards following certain changes in ownership. If such a change were to occur with respect to the Company, the limitation could significantly reduce the amount of benefits that would be available to offset future taxable income each year starting with the year of the ownership change. To reduce the potential impact of such ownership changes, 24 the Company established a Shareholder Rights Plan dated as of December 23, 1999 and effective January 3, 2000. The Company has not recorded any tax assets with respect to the future benefits of the net operating loss carryforwards. RESULTS OF OPERATIONS - 1999 Compared to 1998 NET LOSS. Our net loss for the year ended December 31, 1999 amounted to $26.6 million, or $2.33 per share, compared to $56.4 million, or $4.94 per share, for the year ended December 31, 1998. The 1999 net loss is primarily attributable to $30.0 million of market valuation losses and impairments compared to $54.8 million of market valuation losses and impairment and $11.8 million of provision for loan losses for 1998. NET INTEREST INCOME. The following tables set forth information regarding the total amount of income from interest-earning assets and expenses from interest-bearing liabilities and the resultant average yields and rates:
For the Year Ended December 31, 1999 ------------------------------------ Average Interest Balance Income Yield/Rate -------- -------- ---------- (Dollars in thousands) Interest-Earning Assets: Loan portfolios ............................. $ 68,937 $ 6,740 9.8% Mortgage-backed securities available for sale 122,164 15,342 12.6 Other investments ........................... 13,206 604 4.6 -------- -------- ---- Total interest-earning assets .......... $204,307 $ 22,686 11.1% ======== ======== ==== Interest-Bearing Liabilities: Short-term borrowings ....................... $155,473 $ 12,688 8.2% Other borrowings ............................ 2,903 209 7.2 -------- -------- ---- Total interest-bearing liabilities ..... $158,376 $ 12,897 8.1% ======== ======== ==== Net interest income before provision for loan losses/spread (1)................. $ 9,789 3.0% Net interest margin (2) 4.8%
- ---------- (1) Net interest spread represents the unweighted difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities. (2) Net interest margin represents net interest income divided by average interest-earning assets. 25
For the Year Ended December 31, 1998 ------------------------------------- Average Interest Annualized Balance Income Yield/Rate (1) -------- -------- -------------- (Dollars in thousands) Interest-Earning Assets: Loan portfolios ............................. $121,295 $ 10,838 12.1% Mortgage-backed securities available for sale 195,112 14,674 10.2 Other securities available for sale ......... 15,617 1,035 9.0 Due from affiliates ......................... 6,281 604 13.0 Other investments ........................... 17,316 541 4.2 -------- -------- ---- Total interest-earning assets ........... $355,621 $ 27,692 10.5% ======== ======== ==== Interest-Bearing Liabilities: Short-term borrowings ....................... $254,945 $ 13,608 7.2% -------- -------- ---- Total interest-bearing liabilities ...... $254,945 $ 13,608 7.2% ======== ======== ==== Net interest income before provision for loan losses/spread (2)................. $ 14,084 3.3% Net interest margin (3) ................... 5.4%
- ---------- (1) Although the Company was in existence for all of 1998, operations were commenced on April 6, 1998 at the time of the initial public offering. Therefore, rates and yields for the year ended December 31, 1998 are annualized to reflect the Company's period of operations from April 6, 1998 to December 31, 1998. (2) Net interest spread represents the unweighted difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities. (3) Net interest margin represents net interest income divided by average interest-earning assets and is annualized based on the period of operations from April 6 to December 31, 1998. For the year ended December 31, 1999, the Company recovered $1.1 million of the allowance for loan losses compared to a provision of $11.8 million for 1998. These amounts are not reflected in the net interest income/spread above. Prepayments, delinquencies and defaults affect the net spread of the Company, primarily through their impact on mortgage loans that underlie the securities in the Company's mortgage-backed securities portfolio. For principal and interest subordinated mortgage-backed securities, which the Company generally purchases at a discount to principal amount, increased prepayments recapture such purchase discount sooner and therefore increase spread. Fewer prepayments would have the opposite effect, reducing spread. For interest only securities("IOs") and residuals, prepayment increases generally reduce spread since these securities derive their value from interest payments on loans that are outstanding. IOs have no principal face amount other than a notional balance and therefore are quite responsive to changes in prepayment. Residuals have both a principal face amount and often a credit related IO component. Increased prepayment often reduces spread except to the extent that such prepayment is related to a recovery on a defaulted loan. The impact on spread, however, depends upon the degree to which prepayment is less than or exceeds the Company's assumptions for prepayment at its time of purchase. The Company buys mortgage-backed securities based on prepayment, delinquency and default assumptions. Delinquency itself has little effect on spread from the Company's mortgage-backed securities portfolio since the loan servicers for each security generally advance both principal and interest payments and, therefore, the Company generally receives payments on such loans on a timely basis. More important is the loss severity on defaulted loans. Generally, the larger the loss severity is, the greater the reduction in spread will be. However, the Company's spread is only negatively impacted to the extent the principal face amount of defaults and the cumulative loss severity exceeds or is expected to exceed the Company's assumptions at its time of purchase or as subsequently adjusted through a permanent impairment determination. (RECAPTURE) PROVISION FOR LOAN LOSSES. During the year ended December 31, 1999, we reversed a provision for losses of $3.9 million taken in prior periods for a loan held for sale. The loan was secured by commercial properties in the United Kingdom ("UK") with a carrying value of approximately $47.9 million. This valuation allowance had been established in 1998 based upon management's estimate at that time of the ultimate recoverability of the asset. This provision reversal was partially offset by a provision for losses on loans of $0.1 million. In addition, we recognized a net write-down of $2.7 million in the carrying value of a $17.0 million 26 note receivable from WFSG to reflect the estimated value of the common stock of WFSG to be received in exchange for a portion of the note. Total provision for losses for the year ended December 31, 1998 was $11.8 million, which included a $5.9 million valuation adjustment of an unsecured $18.4 million receivable from WFSG and $5.9 million of loan loss provisions (including the provision for the UK loan noted above). The receivable from WFSG, net of this valuation adjustment, is included in due from WFSG in the consolidated statement of financial condition as of December 31, 1998. REAL ESTATE OPERATIONS. During the years ended December 31, 1999 and 1998, real estate operating income was comprised primarily of $7.1 million and $4.9 million, respectively, in gross rental and other income earned on such investments. Such revenue represents income generated from the Company's investment in various office buildings, retail stores, and other commercial property located in Oregon, California and the United Kingdom. Expenses incurred on such real estate investments include $4.5 million (1999) and $2.9 million (1998) of interest expense, $0.2 million (1999) and $0.3 million (1998) of rental operating expense and $1.1 million (1999) and $1.0 million (1998) of depreciation expense. OTHER LOSS. Our other loss was approximately $32.6 million and $52.5 million for the years ended December 31, 1999 and 1998, respectively. The components of the Company's net non-interest loss is comprised of the following: Market Valuation Losses and Impairments. The term "Market Valuation Losses and Impairments" as used herein refers to impairment losses recognized primarily on our mortgage-backed securities and loan portfolios, as a result of the international economic and financial turmoil which severely affected the market for the Company's principal investments beginning in the third quarter of 1998. Total market valuation losses and impairments for the year ended December 31, 1999 were $30.0 million. This amount includes $19.6 million of market valuation losses and impairments related to our portfolio of mortgage-backed securities available for sale, $8.7 million related to our investment in newly-issued WFSG stock, $1.0 million related to fees for advisory services in connection with our investment in WFSG stock and $0.7 million related to our holdings of WFSG's 13% Series B Notes prior to their conversion to newly-issued WFSG stock. Total market valuation losses and impairments for the year ended December 31, 1998 were $54.8 million. Of this amount, $49.5 million was recognized during the third quarter to reflect losses on loans and securities that were (i) ultimately sold in the fourth quarter to meet collateral calls or to provide liquidity; or (ii) not sold but were deemed to be other than temporarily impaired, resulting from faster than expected loan prepayments or other factors. During the fourth quarter of 1998, an additional $5.3 million of market valuation losses and impairments was recorded to reflect additional other than temporary impairment on certain securities and other assets which have not been sold. Of the total $54.8 million recognized during 1998, $32.2 million relates to assets sold during the fourth quarter and $22.4 million relates to assets not sold. Included in the $22.4 million related to assets not sold is $11.3 million related to our investment in WFSG's 13% Series B Notes due 2004, which was converted to newly issued common stock of WFSG following its restructuring. This loss reflected the write-down of this asset to the estimated value of our proportionate share of the equity in the restructured WFSG. Provision for disputes with WFSG. As discussed in ITEM 1. BUSINESS, the Company decided to become internally managed in the third quarter of 1999 and this has resulted in disputes between the Company, on the one hand, and WFSG and certain of its affiliates on the other. In connection with these disputes, the Company, without admission, recorded a reserve for potential resolution of disputes with WFSG and its affiliates of $4.1 million at September 30, 1999. Following a partial settlement of disputes with WFSG, the remaining reserve for potential resolution of disputes with WFSG and its affiliates was $2.3 million at December 31, 1999. Gain on the Sale of Securities. During the years ended December 31, 1999 and 1998, we sold mortgage-backed securities to unrelated third parties for approximately $46.6 million and $133.3 million, respectively, resulting in gains of approximately $1.3 million and $0.9 million, respectively. OPERATING EXPENSES. Management fees of $2.4 million and $3.2 million for the year ended December 31, 1999 and 1998, respectively, were comprised solely of the 1% (per annum) base management fee paid to WRSC (as provided pursuant to the Management Agreement between WRSC and the Company). WRSC earned no incentive fee for these periods. In addition to the management fee, we incurred loan service fees of $0.2 million and $0.7 million during the years ended December 31, 1999 and 1998, respectively, which were paid to WFSG or an affiliate of WFSG. The service fee structure is dependent on the assets being serviced, but in general, service fees related to discounted loans are based on a percentage of cash received and service fees related to non-discounted loans are based on a percentage of unpaid principal balance. We prepaid $3.2 million of future service fees as part of the WFSG and WCC restructuring, although WFSG disputed this amount in the past (as well as servicing eligibility for application of the credit), suggesting that the original amount was $2.3 million. At December 31, 1999, the balance of the unused prepaid 27 service fees were reduced to $3.0 million. (See Item 1. Business.) We also incurred $0.1 million (1999) and $0.5 million (1998) of loan related expenses which were reimbursed to the servicer for actual out of pocket servicing costs. Other expenses were comprised of professional services, insurance premiums and other sundry expenses. RESULTS OF OPERATIONS - QUARTER ENDED DECEMBER 31, 1999 COMPARED TO QUARTER ENDED DECEMBER 31, 1998. Our net income for the quarter ended December 31, 1999 was $1.1 million, or $0.10 per share, compared with a loss of $10.6 million, or $0.92 per share, for the quarter ended December 31, 1998. Net income for 1999 was primarily attributable to net interest income of $1.5 million, income from real estate operations of $1.0 million, other operating income of $0.5 million offset by operating expenses of $2.0 million. Our net loss for the corresponding 1998 period was primarily due to market valuation losses and impairments as a result of the market turmoil which occurred in the second half of 1998. The following table highlights the results of the quarter: Quarter Ended December 31, ------------------------- 1999 1998 -------- -------- Interest income ................................ $ 4,517 $ 10,957 Interest expense ............................... (3,056) (6,095) Provision for loan losses ...................... -- (8,842) -------- -------- Net interest income (loss) after provision for loan losses .............................. 1,461 (3,980) Real estate operations, net .................... 1,000 (13) Other operating income (loss) .................. 490 (3,950) Operating expenses ............................. (2,017) (2,607) -------- -------- Income (loss) before income taxes ............ 934 (10,550) Income tax (benefit) ........................... (200) -- -------- -------- Net income (loss) .............................. $ 1,134 $(10,550) ======== ======== Earnings (loss) per share: Basic ........................................ $ 0.10 $ (0.92) Diluted ...................................... $ 0.10 $ (0.92) CHANGES IN FINANCIAL CONDITION During 1999, total assets decreased to $220.8 million from $381.1 million at December 31, 1998. This decrease was primarily comprised of the net sales or repayment of the following assets: $54.2 million of securities available for sale, $21.8 million of investments in real estate and $84.0 million of loans, discounted loans and loans held for sale. Total liabilities decreased to $170.0 million during the period, primarily as a result of a decrease of $124.9 million in short-term and other borrowings associated with sales of mortgage-backed securities, loans, discounted loans, and investments in real estate. SECURITIES AVAILABLE FOR SALE. At December 31, 1999, securities available for sale include mortgage-backed securities with an aggregate market value of $104.6 million, net of realized and unrealized losses, compared to $158.7 million at December 31, 1998. This decrease of $54.1 million is primarily due to the sale of $45.3 million of securities, net principal payments received of $20.4 million and the permanent impairment of securities totaling $19.6 million which was partially offset by the purchase of $24.0 million of securities during the fourth quarter of 1999 and a decrease in unrealized losses of $7.2 million. We mark our securities portfolio to fair value at the end of each month based upon broker/dealer valuations, subject to an internal review process. For those securities that do not have an available market quotation, we request market values and underlying assumptions from the various broker/dealers that underwrote the securities, are currently financing the securities, or have had prior experience with the type of securities. Because our subordinated securities may not be readily marketable, as trading activity may be infrequent, the market value is typically available from only a small group of broker/dealers, and in many cases, only one broker/dealer. As of each reporting period, we evaluate whether and to what extent any unrealized loss is to be recognized as other than temporary. LOAN PORTFOLIO. During the year ended December 31, 1999, we reduced our loan portfolio to approximately $30.4 million from $113.1 million at December 31, 1998. This decrease of $82.7 million is primarily due to the sale of a $47.9 million loan secured by commercial properties in the United Kingdom and the $38.6 million payoff of a loan to a party in Oregon. 28 At December 31, 1999, approximately $0.5 million of our non-discounted loan portfolio was 91 days or more delinquent, which represented 1.6% of the portfolio. We maintain an allowance for loan losses at a level that the Company considers adequate to provide for probable losses based upon an evaluation of known and inherent risks. During the year ended December 31, 1999, we recaptured approximately $1.1 million, net of allowances for loan losses. DISCOUNTED LOAN PORTFOLIO. The carrying value of discounted loans (and not unpaid principal balance) was approximately $1.2 million at December 31, 1999, and they were serviced by WFSG or an affiliate of WFSG. At December 31, 1999, approximately $3.8 million (unpaid principal balance) of our discounted loan portfolio was 91 days or more delinquent, which represented 92.7% of the entire portfolio. Subsequent to December 31, 1999, a discounted loan with an unpaid principal balance of $1.2 million was paid off in full. We maintain an allowance for loan losses at a level that the Company considers adequate to provide for probable losses based upon an evaluation of known and inherent risks. During the year ended December 31, 1999, no provisions for loan losses had been provided for discounted loans. INVESTMENTS IN REAL ESTATE. Investments in real estate decreased approximately $21.8 million during the year ended December 31, 1999. This decrease was primarily due to sales of an industrial business park located in Tigard, Oregon for proceeds of approximately $4.1 million, a commercial warehouse in Salem, Oregon for proceeds of approximately $7.4 million, a commercial warehouse in Eugene, Oregon for proceeds of approximately $2.3 million and a commercial warehouse and land in Valencia, California for proceeds of approximately $6.0 million. In addition, we recognized approximately $1.1 million of depreciation expense related to operating properties and recorded a $0.9 million provision for real estate losses. We are currently in the process of marketing certain other commercial properties for sale as we continue to reduce our level of investment in commercial real estate income properties to increase liquidity for working capital and reinvestment opportunities. All of the real estate investments are held for sale (effective with the decision to sell all properties on October 1, 1999). SHORT-TERM BORROWINGS. Short-term borrowings decreased to approximately $96.8 million during the year ended December 31, 1999, resulting primarily from the sale of subordinated mortgage-backed securities. Interest rates on borrowings under these facilities are generally based on 30-day London Interbank Offer Rate ("LIBOR") rates, plus a spread. Repurchase agreements are secured lending arrangements which involve the borrower selling an asset to a lender at a fixed price with the borrower having an obligation to repurchase the asset within a specified period (generally 30 days) at a higher price reflecting the interest cost of the loan. If the value of the underlying asset declines or the lender marks the asset lower, the lender may request that the amount of the loan be reduced by cash payments from the borrower or additional collateral be provided by the borrower (generally known as "collateral calls"). Accordingly, in an environment where lenders consistently mark down the value of the underlying assets, a borrower can become subject to significant collateral calls. If the borrower does not have sufficient cash to meet the collateral call or additional unencumbered assets to pledge, it may be forced to sell assets to repay the loan. If the Company experiences further downward marks to market of its assets subject to repurchase agreements, it could experience cash collateral calls, thereby reducing liquidity, or be forced to sell further assets, which could result in losses. OTHER BORROWINGS. At December 31, 1999, we had $64.4 million of other borrowings. Of this amount, $45.5 million financed real estate investments of $59.6 million and $18.9 million financed a loan with an unpaid principal balance of $25 million. Other borrowings had a weighted average interest rate of 8.04%. STOCKHOLDERS' EQUITY. Stockholders' equity decreased to $50.9 million during the year ended December 31, 1999. The net decrease in stockholders' equity during this period was primarily attributable to a net operating loss of $26.6 million offset by a decrease in accumulated other comprehensive loss of $7.4 million. In addition, the Company entered into a partial settlement agreement with WFSG in December 1999 which included the repurchase of 992,687 shares of the Company's common stock which reduced stockholders' equity by $2.2 million. LIQUIDITY AND CAPITAL RESOURCES Liquidity is a measurement of our ability to meet potential cash requirements, including ongoing commitments to repay borrowings, fund investments, engage in loan acquisition and lending activities, meet collateral calls and for other general business purposes. The primary sources of funds for liquidity during the year ended December 31, 1999 consisted of net cash provided by investing activities, including the cash repayments related to our mortgage-backed securities portfolio, a loan receivable which paid off in January 1999, a loan which was sold in April 1999, sales of mortgage-backed securities in June 1999 and sales of investments in real estate. 29 The adverse market conditions, which negatively impacted us during the third and fourth quarters of 1998, began to stabilize during 1999, but remained uncertain. As of December 31, 1999, we had no outstanding collateral calls, compared with collateral calls outstanding as of December 31, 1998 of $4.4 million. On October 12, 1999, the Company and Credit Suisse First Boston, the Company's largest lender, agreed to replace the Company's short-term (monthly) repurchase facility with a longer-term repurchase facility for the financing of approximately $64 million of subordinated mortgage-backed securities and approximately $20 million facility for the financing of a $25 million commercial loan. The $64 million facility matures in October 2000 and becomes increasingly expensive over time. The $25 million facility finances the Starrett-Lehigh loan and matures on August 11, 2001, unless the Starrett-Lehigh loan is extended, in which case this facility will mature on August 11, 2002. The Company believes that this reduces the Company's reliance on short-term borrowings and eliminated all then-outstanding collateral calls. At December 31, 1999, the Company had outstanding financing arrangements with this lender of $57.1 million for subordinated mortgage-backed securities and $18.9 million for loans. These facilities require that cash received from the underlying collateral pay down the related debt. Our short-term borrowings and the availability of further borrowings are substantially affected by, among other things, changes in interest rates, changes in market spreads whereby the market value of the collateral securing such borrowings may decline substantially, or decreases in credit quality of underlying assets. In the event of declines in market value or credit quality, we may be required to provide additional collateral for, or repay a portion of outstanding balances of, our short-term, floating-rate borrowing facilities. For additional information with respect to our monthly mark-to-market of our securities available for sale portfolio, see "CHANGES IN FINANCIAL CONDITION-SECURITIES AVAILABLE FOR SALE." In addition, given the current relative lack of liquidity for below-investment-grade securities, we intend to maintain a relatively high degree of liquidity. Fluctuations in interest rates will continue to impact our net interest income to the extent our fixed rate assets are funded by variable rate debt or our variable rate assets reprice on a different schedule or in relation to a different index than any floating rate debt which in turn could impact potential returns to shareholders. See "Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK." At December 31, 1999, we had total consolidated secured indebtedness of $161.2 million, a reserve relating to the provision for the potential resolution of disputes with WFSG of $2.3 million, accrued interest payable of $1.1 million, a dividend payable of $4.1 million, as well as $1.2 million of other liabilities. The consolidated secured indebtedness consisted of (i) $86.9 million of repurchase agreements, (ii) lines of credit aggregating $9.9 million which are secured by loans and securities and (iii) $64.4 million outstanding of other borrowings maturing between 2000 and 2008 which are secured by real estate and loans. Loans are financed through short-term or intermediate-term financing facilities. If the value of the assets securing the loan declines as determined by the lender, the lender may request that the amount of the loan be reduced by cash payments from the borrower or additional collateral be provided by the borrower (generally known as "collateral calls"). Accordingly, in an environment where lenders consistently mark down the value of the underlying assets, a borrower can become subject to collateral calls, which can have a significant impact on liquidity. Similarly, if interest rates increase significantly, the borrowing cost under the financing facility may also increase while the interest rate on the assets securing the loan may not increase at the same time or to the same degree. Real property acquisitions are financed with intermediate or long-term mortgages with banks and other financial institutions. We generally finance acquisitions of mortgage-backed securities through committed and uncommitted thirty-day repurchase agreements with major Wall Street investment banks. Repurchase agreements are secured lending arrangements which involve the borrower selling an asset to a lender at a fixed price with the borrower having an obligation to repurchase the asset within a specified period (generally 30 days) at a higher price reflecting the interest cost of the loan. If the lender marks the asset lower, the lender may request that the amount of the loan be reduced by cash payments from the borrower or additional collateral be provided by the borrower (generally known as "collateral calls"). Mortgage-backed securities which are subject to repurchase agreements, as well as loans which secure other indebtedness, periodically are revalued by the lender, and a decline in the value that is recognized by the lender (whether or not the lender recognizes the full fair value of the security) may result in the lender requiring us to provide additional collateral to secure the indebtedness. As of December 31, 1999, the Company had approximately $109.2 million of indebtedness under the terms of which the lender could request additional collateral if the value of the underlying collateral declined (including financing facilities for both mortgage-backed securities and loans). Although the Company believes that the likelihood of significant declines in asset values has decreased since the third quarter of 1998, the Company is seeking to maintain a larger cash position and more unencumbered assets to deal with any future potential collateral calls. In addition, the Company is seeking to refinance some of this indebtedness with longer-term indebtedness which would not be subject to the same collateral calls. 30 If we are unable to fund additional collateral requirements or to repay, renew or replace maturing indebtedness on terms reasonably satisfactory to us, we may be required to sell (potentially on short notice) a portion of our assets, and could incur losses as a result. Furthermore, since from time to time there is extremely limited liquidity in the market for subordinated and residual interests in mortgage-related securities, there can be no assurance that we will be able to dispose of such securities promptly for fair value in such situations. Based on our monthly interest and other expenses, monthly cash receipts and collateral calls through February 29, 2000, we believe that our existing sources of funds will be adequate for purposes of meeting our short-term liquidity needs. There can be no assurance that this will be the case, however. Material increases in interest expense from variable-rate funding sources, collateral calls, or material decreases in monthly cash receipts, generally would negatively impact our liquidity. On the other hand, material decreases in interest expense from variable-rate funding sources, in collateral calls or an increase in market value of our mark-to-market financial assets generally would positively affect our liquidity. OTHER - YEAR 2000 COMPLIANCE The Company and its service providers utilize a number of technologically dependent systems to operate, service mortgage loans and manage mortgage and other related assets. Many existing computer software programs and other technologically dependent systems use two digits to identify the year in date fields and, as such, could fail or create erroneous results by or at the Year 2000. Management closely monitored the Company's operations subsequent to January 1, 2000 in relation to the Year 2000 matter and continues to monitor such operations. The Company's information systems were operational with no apparent adverse impact arising as a result of or associated with the Year 2000 matter. Additionally, the Company is not aware of, and has not experienced, any Year 2000 issues at its key service providers, vendors, mortgage securities servicers, and other third parties. Management considers the risk of any residual potential Year 2000 matter failures to be minimal. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Market risk is the exposure to loss resulting from changes in interest rates, foreign currency exchange rates, commodity prices, and equity prices. The primary market risk to which the Company is exposed is interest rate risk, which is highly sensitive to many factors, including governmental monetary and tax policies, domestic and international economic and political considerations, and other factors beyond the control of the Company. Changes in the general level of interest rates can affect the Company's net interest income, which is the difference between the interest income earned on interest-earning assets and the interest expense incurred in connection with its interest-bearing liabilities, by affecting the spread between the Company's interest-earning assets and interest-bearing liabilities. Changes in the level of interest rates also can affect, among other things, the ability of the Company to acquire loans, the value of the Company's mortgage-backed securities and other interest-earning assets, and its ability to realize gains from the sale of such assets. It is the objective of the Company to attempt to control risks associated with interest rate movements. In general, the Company's strategy is to limit our exposure to earnings variations and variations in the value of assets and liabilities as interest rates change over time. Our asset and liability management strategy is formulated and monitored regularly to review, among other things, the sensitivity of our assets and liabilities to interest rate changes, the book and market values of assets and liabilities, unrealized gains and losses, including those attributable to hedging transactions, purchase and securitization activity, and maturities of investments and borrowings. 31 The following tables quantify the potential changes in net interest income and net portfolio value as of December 31, 1999 should interest rates go up or down (shocked) by 100 to 400 basis points, assuming the yield curves of the rate shocks will be parallel to each other and instantaneous. Net portfolio value is calculated as the sum of the value of off-balance sheet instruments and the present value of cash in-flows generated from interest-earning assets net of cash out-flows in respect of interest-bearing liabilities. The cash flows associated with the loan portfolios and securities available for sale are calculated based on prepayment and default rates that vary by asset but not by changes in interest rates. Projected losses, as well as prepayments, are generated based upon the actual experience with the subject pool, as well as similar, more seasoned pools. To the extent available, loan characteristics such as loan-to-value ratio, interest rate, credit history and product types are used to produce the projected loss and prepayment assumptions that are included in the cash flow projections of the securities. The following tables apply the U.S. Treasury yield curve generally for assets and LIBOR for repurchase agreement liabilities and assume a uniform change in both rates. The tables assume that changes in interest rates occur instantaneously. The tables also reflect that the Company has a significant exposure to LIBOR rates since its short-term repurchase agreement borrowings are generally based on LIBOR rates. Actual results could differ significantly from those estimated in the tables. Projected Percent Change In - ------------------------------------------------------------------------------- Change in Interest Rates (1) Net Interest Income Net Portfolio Value - ---------------------------- ------------------- ------------------- -400 Basis Points 35.0% 13.2% -300 Basis Points 26.3% 10.1% -200 Basis Points 17.5% 6.9% -100 Basis Points 8.8% 3.5% 0 Basis Points 0.0% 0.0% 100 Basis Points -8.8% -3.5% 200 Basis Points -17.5% -7.0% 300 Basis Points -26.3% -10.5% 400 Basis Points - 35.0% -14.0% - ---------------- (1) Assumes that uniform changes occur instantaneously in both the yield on 10-year U.S. Treasury notes and the interest rate applicable to U.S. dollar deposits in the London interbank market. Change in Monthly Change in Change in Interest Rates (1) Net Interest Income Net Portfolio Value - ---------------------------- ------------------- ------------------- -400 Basis Points $ 276,850 $ 6,735,354 -300 Basis Points $ 207,638 $ 5,177,820 -200 Basis Points $ 138,425 $ 3,510,083 -100 Basis Points $ 69,213 $ 1,770,399 0 Basis Points - - 100 Basis Points $ (69,213) $ (1,796,530) 200 Basis Points $ (138,425) $ (3,592,758) 300 Basis Points $ (207,638) $ (5,370,329) 400 Basis Points $ (276,850) $ (7,128,251) - --------------- (1) Assumes that uniform changes occur instantaneously in both the yield on 10-year U.S. Treasury note and the interest rate applicable to U.S. dollar deposits in the London interbank market. 32 The following table sets forth information as to the type of funding used to finance the Company's assets as of December 31, 1999. As indicated in the table, a large percentage of the Company's fixed rate assets are financed by floating rate liabilities and the Company's variable rate assets are generally funded by variable rate liabilities which use the same index. Assets and Liabilities As of December 31, 1999 (Dollars in Thousands)
Interest-Bearing Assets Basis Amount Coupon Type Liability Type - ----------------------- ------------ ----------- --------- ---- Fixed Assets, Financed Floating $ 110,175 Fixed $ 90,374 LIBOR Fixed Assets, No Financing 5,275 Fixed - None Floating Assets, Financed Floating 25,000 LIBOR 18,920 LIBOR Floating Assets, No Financing 1,031 COFI - None ----------- ----------- Sub-total 141,481 109,294 Other Assets Investments in Real Estate 63,225 N/A 51,933 Fixed Cash and Cash Equivalents 5,862 N/A - None Investment in WFSG 3,953 N/A - None Other 6,291 N/A - None ----------- ----------- Sub-total 79,331 51,933 Liability Only Dividends - 4,090 Fixed Accounts Payable and Accrued Liabilities - 4,623 None ----------- ----------- Sub-total - 8,713 - ---------------------------------------------------------------------------------------------------------- Grand Total $ 220,812 $ 169,940 ==========================================================================================================
Asset and liability management involves managing the timing and magnitude of the repricing of assets and liabilities. It is the objective of the Company to attempt to control risks associated with interest rate movements. Asset and liability management can utilize a wide variety of off-balance sheet financial techniques to assist it in the management of interest rate risk. For example, in hedging the interest rate and exchange rate exposure of a foreign currency denominated asset or liability, we may enter into hedge transactions to counter movements in the different currencies as well as interest rates in those currencies. These hedges may be in the form of currency and interest rate swaps, options, and forwards, or combinations thereof. No such techniques were in use as of December 31, 1999. Methods for evaluating interest rate risk include an analysis of the Company's interest rate sensitivity "gap," which is defined as the difference between interest-earning assets and interest-bearing liabilities maturing or repricing within a given time period. A gap is considered positive when the amount of interest-rate sensitive assets exceeds the amount of interest-rate sensitive liabilities. A gap is considered negative when the amount of interest-rate sensitive liabilities exceeds interest-rate sensitive assets. During a period of rising interest rates, a negative gap would tend to adversely affect net interest income, while a positive gap would tend to result in an increase in net interest income. During a period of falling interest rates, a negative gap would tend to result in an increase in net interest income, while a positive gap would tend to affect net interest income adversely. Since different types of assets and liabilities with the same or similar maturities may react differently to changes in overall market rates or conditions, changes in interest rates may affect net interest income positively or negatively even if an institution were perfectly matched in each maturity category. 33 The following tables set forth the estimated maturity or repricing of the Company's interest-earning assets and interest-bearing liabilities at December 31, 1999. As of December 31, 1999 (Dollars in thousands)
Within 4 to 12 One Year to More than 3 Months Months 3 Years 3 Years TOTAL --------- --------- --------- --------- --------- Interest-sensitive assets(1): Cash and cash equivalents $ 5,862 $ -- $ -- $ -- $ 5,862 Securities available for sale -- -- -- 104,572 104,572 Loans(2) 25,026 119 248 6,241 31,634 DIP loan 165 777 2,457 1,601 5,000 Note receivable - WFSG -- 275 -- -- 275 --------- --------- --------- --------- --------- Total rate-sensitive assets $ 31,053 $ 1,171 $ 2,705 $ 112,414 $ 147,343 ========= ========= ========= ========= ========= Interest-sensitive liabilities : Repurchase agreements $ 109,294 $ -- $ -- $ -- $ 109,294 Notes payable 6,442 -- -- -- 6,442 Borrowing on real estate -- 1,076 -- 44,415 45,491 Dividends payable -- 4,090 -- -- 4,090 --------- --------- --------- --------- --------- Total rate-sensitive liabilities $ 115,736 $ 5,166 $ -- $ 44,415 $ 165,317 ========= ========= ========= ========= ========= Interest rate sensitivity gap (84,683) (3,995) 2,705 67,999 Cumulative interest rate sensitivity gap (84,683) (88,678) (85,973) (17,974) Cumulative interest rate sensitivity gap as a percentage of total rate-sensitive assets -57% -60% -58% -12%
- ---------------- (1) Real estate property holdings are not considered interest rate sensitive. (2) Amortizing fixed rate loans are assumed to prepay at a Constant Prepayment Rate ("CPR") of 10%. At December 31, 1998, we were a party to a swap contract in connection with our investment in a commercial mortgage loan secured by real property in the United Kingdom ("UK"). The swap contract, which covered the approximate five-year term of the asset and related financing, was intended to hedge the interest rate basis and currency exposure between UK Libor (the lending rate) and US Libor (the borrowing rate) payments, as well as the principal (notional) amount of the loan which, as of December 31, 1998, was $49.7 million. Under the terms of the agreement, the settlement was in U.S. dollars. The loan and the related swap were disposed of subsequent to December 31, 1998. At December 31, 1998, we were also party to a swap in connection with our investment in real estate in the UK. The notional amount is GBP 11,224,000 in which we convert floating rate financing to a fixed rate of interest. Subsequent to December 31, 1998, the terms of this swap were incorporated into the refinancing of the related asset, and the Company was released as a party to the swap. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA See Item 14 of Part IV of this Report. 34 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE On November 12, 1999, the Board of Directors of the Company appointed the firm of Ernst & Young LLP to replace Arthur Andersen LLP as the principal accountant to audit the Company's financial statements. Arthur Andersen LLP was replaced due to a potential conflict of interest with the services it performs for WFSG and its affiliates. The Company recently decided to become internally managed and this has resulted in disputes between the Company, on the one hand, and WFSG and certain of its affiliates on the other. The Company's business and investment affairs had been managed by WRSC pursuant to the Management Agreement and the Company had received managerial and administrative services from WRSC thereunder. The report of Arthur Andersen LLP on the financial statements of the Company for the 1998 year (the Company was formed on October 24, 1997, commenced operations on April 6, 1998 and was audited for the one year ended December 31, 1998) did not contain an adverse opinion or a disclaimer of opinion, nor was it qualified or modified as to uncertainty, audit scope or accounting principles, except that, in its report dated March 19, 1999, Arthur Andersen LLP included a matter-of-emphasis paragraph stating "As discussed in Note 1, Wilshire Realty Services Corporation, a wholly owned subsidiary of Wilshire Financial Services Group Inc. ("WFSG"), is the manager of the Company. Furthermore, Wilshire Credit Corporation ("WCC"), an affiliate of WFSG, provides loan servicing and real property management services to the Company. On March 3, 1999, WFSG filed a voluntary prepackaged petition for relief under Chapter 11 of the U.S. Bankruptcy Code. The WFSG plan of reorganization includes the transfer of servicing operations conducted by WCC to a newly formed subsidiary of WFSG. As discussed in Note 2, the Company has also entered into several transactions with these affiliated entities." However, the report of Arthur Andersen LLP for 1998, dated March 19, 1999 and included in this Form 10-K, does not include the matter-of-emphasis paragraph. During the period from the Company's inception, October 24, 1997, through November 12, 1999 there were no disagreements with Arthur Andersen LLP on any matter of accounting principles or practices, financial statement disclosure, or auditing scope or procedure, which disagreements, if not resolved to the satisfaction of Arthur Andersen LLP, would have caused it to make reference to the subject matter of the disagreement in connection with its report on the financial statements of the Company. 35 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The following sets forth information about our executive officers and directors as of February 29, 2000. The business address of each executive officer and director is the address of the Company, 1310 SW 17th Street, Portland, OR 97201, and each executive officer and director is a United States citizen. Andrew A. Wiederhorn, age 34, has been the Chairman of the Board of Directors and Chief Executive Officer of the Company since its formation. Mr. Wiederhorn also serves as Treasurer and Secretary. Until August 1999, Mr. Wiederhorn was also the Chairman of the Board of Directors, Chief Executive Officer, Secretary, Treasurer and a director for both WRSC and WFSG. In 1987, Mr. Wiederhorn founded WCC and served as the Chief Executive Officer of WCC and certain of its affiliates until August 1999. Mr. Wiederhorn received his B.S. degree in Business Administration from the University of Southern California. Lawrence A. Mendelsohn, age 38, has been a director and the President of the Company since its formation. Until August 1999, Mr. Mendelsohn was also the President of WFSG and WCC. From January 1992 until February 1993, Mr. Mendelsohn was Vice President, Principal and Head of Capital Markets for Emerging Markets at Bankers Trust New York Corporation/BT Securities Corporation. From August 1987 until January 1992, Mr. Mendelsohn was the Vice President, Senior Options Principal and Head of Proprietary Trading for Equities, Equity Options and Distressed Debt at J.P. Morgan and Co./J.P. Morgan Securities. Mr. Mendelsohn received an A.B. degree in Economics from the University of Chicago, an M.A. degree in International Politics from the University of Texas, an M.S. degree in Business Research from the University of Southern California and a Ph.D./ABD in Finance from the University of Southern California. David C. Egelhoff, age 51, has been a director of the Company since its formation. Mr. Egelhoff has been President of Macadam Forbes, Inc., a commercial real estate brokerage company headquartered in Portland, Oregon since 1981. Mr. Egelhoff is a licensed real estate broker who has extensive brokerage experience, including transactions with REITs. He is a member of the Oregon and National Board of Realtors and the Builders and Owners Management Association. Mr. Egelhoff received a degree in Finance and Marketing from the University of Wisconsin-Madison in 1971. Jordan D. Schnitzer, age 48, has been a director since March 27, 1998. Mr. Schnitzer has been President of Jordan Schnitzer Properties, an owner and developer of commercial and residential properties in Oregon, Washington and California, since 1976. Mr. Schnitzer is also President of Harsch Investment Properties, LLC, which owns and operates a portfolio of 25 properties in seven western U.S. states. Mr. Schnitzer received his undergraduate degree in Literature from the University of Oregon in 1973 and his J.D. from the Northwestern School of Law of Lewis and Clark College in 1976. Patrick Terrell, age 45, became a director of the Company on December 28, 1998. Mr. Terrell founded Leading Technology Company in 1986 and worked as the Chief Executive Officer until he sold the company in 1992. Mr. Terrell was also founder and Chief Executive Officer of Byte Shops Computer Stores, which he founded in 1976 and sold to Pacific Telesis in 1985. Mr. Terrell currently serves on the boards of B. S. Medical, United Soil Recycling, Microware, Inc. and Lakeside Associates. Mr. Terrell attended Oregon State University prior to forming Byte Shops computer stores in 1976. Chris Tassos, age 42, has been Executive Vice President and Chief Financial Officer of the Company since its formation. Until October 1999, Mr. Tassos was Executive Vice President and Chief Financial Officer of WFSG and Executive Vice President of WCC. From August 1995 until June 1997, he was Senior Vice President of WCC. From March 1992 until February 1995, he was the Chief Financial Officer and/or Senior Vice President of Finance of Long Beach Mortgage Company (formerly Long Beach Bank). Mr. Tassos received a B.A. degree from California State University, Fullerton. From July 1979 until April 1984 and May 1985 until September 1990, Mr. Tassos was an auditor for Deloitte & Touche LLP. Richard P. Brennan, age 43, is Executive Vice President, Chief Investment Officer. From March 1999 until October 1999, Mr. Brennan was Executive Vice President, Chief Investment Officer of WFSG. Mr. Brennan was Managing Director, Head of European Loan, Distressed Asset Trading, and Real Estate Investments for Donaldson, Lufkin and Jenrette, Inc. from March 1998 to February 1999. From February 1994 to March 1998, Mr. Brennan was Managing Director, Head of European Loans and Distressed Asset Trading for Merrill Lynch & Co. Robert G. Rosen, age 33, is Executive Vice President of the Company. From November 1997 until October 1999, Mr. Rosen was Senior Vice President, Asset Securitization and Capital Markets for WFSG. Mr. Rosen was the Vice President of Securitization at BTM Capital Corp., a wholly-owned subsidiary of the Bank of Tokyo-Mitsubishi, Ltd. from March 1997 until October 1997. From 36 January 1995 until March 1997, Mr. Rosen was a Director of Black Diamond Advisors, Inc., a firm specializing in securitization and capital markets needs of finance companies. From January 1994 to January 1995, Mr. Rosen was with Kidder Peabody and Co. in the Asset-Backed Securitization Group. Section 16(a) Beneficial Ownership Reporting Compliance Section 16(a) of the Securities Exchange Act of 1934 requires a company's directors and executive officers, and beneficial owners of more than 10% of the common stock of such company, to file with the Securities and Exchange Commission initial reports of ownership and periodic reports of changes in ownership of the company's securities. Based solely on a review of Forms 3, 4 and 5 and amendments thereto furnished to us for the year ended December 31, 1999, none of the company's directors, officers, or beneficial owners of more than 10% of the Company's Common Stock failed to timely furnish reports on Forms 3, 4 or 5. ITEM 11. EXECUTIVE COMPENSATION Compensation of Directors Each member of the Board of Directors who is not an officer or employee of the Company is paid a fee of $1,000 per meeting for each Board of Directors' meeting and $100 per hour for each committee meeting not held on a regularly scheduled meeting date attended by such member, either in person or telephonically. Officers and employees of the Company who also serve as directors do not receive any retainer or additional fees for serving as a directors. Under our Incentive Stock Option Plan, on the last trading day of each calendar quarter, we automatically grant to each director who is not also an employee of the Company or a subsidiary of the Company an option to purchase the number of shares of Common Stock equal to $5,000 divided by the fair market value per share of the Common Stock on the date of grant (i.e. its closing price as listed on the NASDAQ on such date). In addition, each director who is not also an employee of the Company or a subsidiary of the Company is eligible for annual grants of options. In 1999, the Company issued options to purchase 468,000 shares of Common Stock to the directors. Summary Compensation Table The following table sets forth the total compensation paid or accrued by the Company for services rendered during the year ended December 31, 1999 to the Chief Executive Officer of the Company, and to each of the four other most highly compensated executive officers of the Company whose total cash compensation for the year ended December 31, 1999 exceeded $100,000 (the "Named Executive Officers").
Long-Term Actual Compensation Compensation -------------------------------------------- ----------------------- Securities Underlying Name and Principal Position Year Salary ($) Bonus ($) (1) Options/SARs (#) - -------------------------------------- -------- ------------- ----------------- ----------------------- Andrew A. Wiederhorn Chairman, Chief Executive Officer, Secretary and Treasurer 1999 $ 84,091 -- 630,000 Lawrence A. Mendelsohn President 1999 $ 77,083 -- 350,000 Robert G. Rosen Executive Vice President, Capital Markets 1999 $ 46,627 $ 310,909 210,000 Richard P. Brennan Executive Vice President and Chief Investment Officer 1999 $ 46,627 $ 122,462 210,000 Chris Tassos Executive Vice President and Chief Financial Officer 1999 $ 46,627 $ 92,424 120,000
- ---------- (1) Bonuses are shown net of a $555,000 reimbursement from WFSG to the Company under a settlement agreement. 37 During the year ended December 31, 1998 and until their employment with the Company, the executive officers of the Company did not receive any compensation from the Company for their services. To the extent such officers were also officers of WFSG, they were compensated by WFSG for their services. WFSG is the parent company of WRSC, which received certain fees from the Company for management services it provided the Company under a management agreement. Following the Company's decision to become internally managed, the Company entered into the employment agreements with its executive officers described above. See Item 1. - BUSINESS. Option/SAR Grants in Last Fiscal Year The following table provides information concerning stock options granted by the Company during the year ended December 31, 1999 to each of the Named Executive Officers.
Potential % of Total Realizable Value Options/SARs at Assumed Annual Rates Number of Granted to of Stock Price Securities Employee in Exercise Appreciation for Option Underlying Year Ended or Term (1) Options/SARs December 31, Base Price Expiration ------------------------ Name Granted (#) 1999 ($/sh) Date 5% 10% - ------------------------------ --------------- --------------- ------------ -------------- ----------- ---------- Andrew A. Wiederhorn 630,000 39.9% $4.53 2009 $ 353,000 $2,253,000 Lawrence A. Mendelsohn 350,000 22.2% $4.53 2009 $ 196,000 $1,251,000 Robert G. Rosen 210,000 13.3% $4.53 2009 $ 118,000 $ 751,000 Richard P. Brennan 210,000 13.3% $4.53 2009 $ 118,000 $ 751,000 Chris Tassos 120,000 7.6% $4.53 2009 $ 67,000 $ 429,000
- ---------- (1) These amounts represent hypothetical gains that could be achieved for the options if they are exercised at the end of their terms. The assumed 5% and 10% rates of stock price appreciation are mandated by rules of the Securities and Exchange Commission. They do not represent the Company's estimate or projection of future prices of the Common Stock. Employment and Other Arrangements The Company has entered into substantially similar employment agreements with Andrew A. Wiederhorn (as Chief Executive Officer), Lawrence A. Mendelsohn (as President), Chris Tassos (as Chief Financial Officer), Richard P. Brennan (as Chief Investment Officer), and Robert G. Rosen (as Executive Vice President) (each individually, an "Executive" and collectively, the "Executives"). Each agreement provides for an initial three-year term which is automatically renewable for successive two-year terms (the "Employment Term") unless either party gives written notice to the other at least ninety days prior to the expiration of the then Employment Term. The agreements provide for an annual base salary of $300,000 for Mr. Wiederhorn, $275,000 for Mr. Mendelsohn, and $250,000 for Mr. Tassos, Mr. Brennan, and Mr. Rosen (which may be increased, but not decreased, by the Compensation Committee of the Board of Directors) and an annual bonus for each. The bonus payable is based upon the Company's return on equity for which purposes equity is increased by the amount of unrealized losses shown under the heading "other comprehensive income or loss" during the bonus year. If the Company's return on equity determined on a post bonus basis is 15% or more, the Executives will be entitled to share in a bonus pool equal to 20% of after-tax income (prior to subtracting the amount of the bonus pool). If the Company's return on equity is between 5% and 15%, the bonus pool will equal 10% of such after-tax income. If the return on equity determined on a post-bonus basis is less than 5%, the bonus formula results in no bonus to the Executives except for a discretionary bonus approved by the Compensation Committee of the Board of Directors. The agreements also provide that a portion of the anticipated annual bonus may be advanced to the executive on a quarterly basis; provided, however, that if the anticipated annual bonus declines in future quarters, such executive may need to repay all or a portion of any such advance. The agreements also provide that the Executives may participate in the Company's Incentive Stock Option Plan. The agreements also provide that during the Employment Term and thereafter, the Company will indemnify the Executives to the fullest extent permitted by law, in connection with any claim against the Executive as a result of the Executive serving as an officer or director of the Company or in any capacity at the request of the Company in or with regard to any other entity, employee benefit plan or enterprise. Following the Executives' termination of employment, the Company will continue to cover the Executives even if the Executives have ceased to serve in such capacity. 38 The agreements may be terminated at any time by the Executive for Good Reason or with or without Good Reason during the Change in Control Protection Period (if a Change in Control occurs) or by the Company with or without Cause (as each capitalized term is defined in the agreement). If termination is the result of Executive's death, the Company will pay to the Executive's spouse (or his estate), an amount equal to (i) any earned but not yet paid compensation, (ii) a pro-rated bonus, (iii) any other amounts or benefits due under then applicable employee benefit plans of the Company (in accordance with such plan, policy or practice), (iv) payment on a monthly basis of 6 months of base salary to Executive's spouse or dependents and (v) continued medical coverage for the Executive's spouse and dependents for up to one year. In addition, the Executive will receive accelerated full vesting under all outstanding equity-based and long-term incentive plans. If Executive's employment is terminated by reason of disability, the Executive will be entitled to receive payments and benefits to which his representatives would be entitled in the event of his termination by reason of death, provided that the payment of base salary will be reduced by any long-term disability payments under any policy maintained by the Company. The Agreements also provide for the Company to make a recourse loan to each Executive up to $50,000 annually for the purchase of the Company's stock by such Executive. The loans bear interest at the prime rate. Interest is not paid in cash but payable in kind on an annual basis (i.e., compounded annually). Upon termination, the loan becomes due and payable six months after the date of termination. At December 31, 1999, the Company had outstanding loans of $198,000 to the Executives. Compensation Committee Report on Executive Compensation The Compensation Committee report below shall not be deemed incorporated by reference by any general statement incorporating by reference this Annual Report on Form 10-K into any filing under the Securities Act of 1933, as amended (the "Securities Act") or under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), except to the extent the Company specifically incorporates this information by reference, and shall not otherwise be deemed filed under the Securities Act or Exchange Act. The Compensation Committee of the Board of Directors of the Company (the "Committee") is made up exclusively of non-employee directors. The Committee administers the executive compensation programs of the Company. All actions of the Committee pertaining to executive compensation are submitted to the Board of Directors for approval. The Company's executive compensation program is designed to attract, retain, and motivate high caliber executives and to focus the interests of the executives on objectives that enhance stockholder value. These goals are attained by emphasizing "pay for performance" by having a portion of the executive's compensation dependent upon business results and by providing equity interests in the Company. The principal elements of the Company's executive compensation program are base salary, bonus, and stock options. In addition, the Company recognizes individual contributions as well as overall business results, using a discretionary bonus program. Base Salary Base salaries for the Company's executives are intended to reflect the scope of each executives' responsibilities, the success of the Company, and contributions of each executive to that success. Executive salaries are adjusted gradually over time and only as necessary to meet this objective. Increases in base salary may be moderated by other considerations, such as geographic or market data, industry trends or internal fairness within the Company. The base salaries for Andrew A. Wiederhorn, Lawrence A. Mendelsohn, Chris Tassos, Richard P. Brennan, and Robert G. Rosen for 1999 are set forth in their respective employment agreements, which are described under "Employment and Other Arrangements." Bonuses Annual bonuses were paid by the Company in 1999. The amount of the annual discretionary and other bonuses paid by the Company was determined by the Committee in conjunction with settlement discussions with WFSG. Stock Option Plan At its initial public offering in April 1998, the Company adopted an Incentive Stock Option Plan (the "Stock Plan"). The purpose of the Stock Plan is to enable the Company to attract, retain and motivate key employees and directors by providing them with equity participation in the Company. Accordingly, the Stock Plan permits the Company to grant stock options, restricted stock and stock appreciation rights (collectively "Awards") to employees, directors, consultants, and vendors of the Company and subsidiaries of the Company. The Board of Directors has delegated administration of the Stock Plan to the Committee. 39 Under the Stock Plan, the Committee may grant stock options with an exercise price not less than the fair market value of the shares covered by the option on the date the option is granted. The Committee may also grant Awards of restricted shares of Common Stock. Each restricted stock Award would specify the number of shares of Common Stock to be issued to the recipient, the date of issuance, any consideration for such shares and the restrictions imposed on the shares (including the conditions of release or lapse of such restrictions). The Committee may also grant Awards of stock appreciation rights. A stock appreciation right entitles the holder to receive from the Company, in cash or Common Stock, at the time of exercise, the excess of the fair market value at the date of exercise of a share of Common Stock over a specified price fixed by the Committee in the Award, multiplied by the number of shares as to which the right is being exercised. The specified price fixed by the Committee will not be less than the fair market value of shares of Common Stock at the date the stock appreciation right was granted. In 1999, the Company issued options for a total of 1,580,000 shares of Common Stock to executive officers and employees. Policy of Deductibility of Compensation Section 162(m) of the Internal Revenue Code limits the Company's tax deduction to $1 million for compensation paid to the Named Executive Officers, unless certain requirements are met. One of these requirements is that compensation over $1 million must be performance based. The Committee intends to continue to use performance-based compensation, which should minimize the effect of these regulations. However, the Committee strongly believes that its primary responsibility is to provide a compensation program that will attract, retain and reward the executive talent necessary to maximize the return to stockholders, and that the loss of a tax deduction may be necessary in some circumstances. Base salary does not qualify as performance-based compensation under IRS regulations. CEO Compensation and President Compensation Andrew A. Wiederhorn was appointed the Company's Chief Executive Officer and Lawrence A. Mendelsohn was appointed its President at its formation. The base salary for each of these officers for 1999 was determined by the Committee and is set forth in their employment agreements. COMPENSATION COMMITTEE Andrew A. Wiederhorn Lawrence A. Mendelsohn David C. Egelhoff Patrick Terrell 40 PERFORMANCE GRAPH The Performance Graph shall not be deemed incorporated by reference by any general statement incorporating by reference this Annual Report on Form 10-K into any filing under the Securities Act or under the Exchange Act, except to the extent the Company specifically incorporates this information by reference, and shall not otherwise be deemed filed under the Securities Act or the Exchange Act. The following Performance Graph covers the period beginning April 6, 1998 when our Common Stock was first traded on the NASDAQ Stock Market through December 31, 1999. The graph compares the shareholder return on the Company's Common Stock to the Standard & Poor's 500 Stock Index ("S&P 500") and a peer group of companies ("PGI"). [THE FOLLOWING TABLE WAS PRESENTED AS A LINE CHART IN THE PRINTED MATERIAL] [OBJECT OMITTED]
1998 Measurement Period (1)(2) -------------------------------------------------------- April 6, December 31, December 31, 1998 1998 1999 --------------- -------------- ----------------- Company $ 100.00 $ 18.56 $ 12.88 PGI(3) $ 100.00 $ 46.81 $ 31.19 S&P 500 $ 100.00 $ 109.62 $ 131.02
- ---------- (1) Assumes all distributions to stockholders are reinvested on the payment dates. (2) Assumes $100 invested on April 6, 1998 in our Common Stock, the S&P 500 Index and the PGI. (3) The companies included in the PGI are Anthracite Capital, Amresco Capital Trust Inc., Resource America Inc., Dynex Capital Inc., Hanover Capital Mortgage Holdings, Novastar Financial Inc. and Capital Trust. 41 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The following table shows as of February 29, 2000 the beneficial ownership of common stock with respect to (i) each person who was known by the Company to own beneficially more than 5% of the outstanding shares of the Company's common stock, (ii) each director and nominee for director, (iii) each executive officer named below, and (iv) directors and executive officers as a group.
Amount and Nature of Beneficial Percent of Name and Address of Beneficial Owner (1) Ownership (2) Class - ------------------------------------------------------------------------------ -------------------- -------------- Andrew A. Wiederhorn............................................... 821,636(3) 7.8 Lawrence A. Mendelsohn............................................. 508,338(4) 4.8 Donald Berchtold................................................... 10,814(5) * Richard P. Brennan................................................. 75,000 * Robert L. Moir..................................................... 0 * Robert G. Rosen.................................................... 26,333(6) * Robert A. Sprouse III.............................................. 0 * R. Scott Stevenson................................................. 100 * Chris Tassos....................................................... 15,860(7) * David C. Egelhoff.................................................. 17,300(8) * Jordan D. Schnitzer................................................ 498,640(8) 4.9 Patrick Terrell.................................................... 305,500(9) 2.9 Friedman, Billings, Ramsey Group, Inc.............................. 779,484(10) 6.7 Strome Investment Management L.P................................... 992,000(11) 8.6 Clarence B. Coleman and Joan F. Coleman............................ 637,189(12) 5.5 All executive officers and directors as a group (9 persons)........ 1,982,417(13) 18.8
(1) The address for each stockholder, other than Friedman, Billings, Ramsey Group, Inc., Strome Investment Management, L.P., and Clarence B. Coleman and Joan F. Coleman is c/o Wilshire Real Estate Investment Inc., 1310 SW 17th Street, Portland, OR 97201. The address for Friedman, Billings, Ramsey Group, Inc. is 1001 19th Street North, Arlington, VA 22209-1710. The address for Strome Investment Management, L.P. is 100 Wilshire Blvd., 15th Floor, Santa Monica, CA 90401. The address for Clarence B. Coleman and Joan F. Coleman is 5530 Fernhoff Road, Oakland, CA 94619. (2) Beneficial ownership is determined in accordance with the rules of the Securities and Exchange Commission. Shares of Common Stock subject to options or warrants exercisable within 60 days of February 28, 1999 are deemed outstanding for computing the percentage beneficially owned by the person or group holding such options or warrants, but are not deemed outstanding for computing the percentage of any other person. Except as noted, each shareholder has sole voting power and sole investment power with respect to all shares beneficial owned by such shareholder. (3) Includes 603,001 shares of Common Stock held by Mr. Wiederhorn's spouse, 38,636 shares of Common Stock held by Mr. Wiederhorn's minor children, and 100,000 shares of Common Stock held by a partnership controlled by Mr. Wiederhorn's spouse. (4) Includes 109,736 shares of Common Stock held by Mr. Mendelsohn's spouse and 293,602 shares of Common Stock held by two limited liability companies controlled by Mr. Mendelsohn's spouse and 80,000 shares of Common Stock held by a limited partnership controlled by Mr. Mendelsohn and his spouse. (5) Includes 7,454 shares held by Mr. Berchtold's minor children. (6) Includes 3,333 shares of Common Stock issuable upon the exercise of outstanding options. (7) Includes 12,500 shares of Common Stock issuable upon the exercise of outstanding options. (8) Includes 6,500 shares of Common Stock issuable upon the exercise of outstanding options. (9) Includes 5,500 shares of Common Stock issuable on the exercise of outstanding options and 50,000 shares held by Mr. Terrell's spouse. (10) Based upon information obtained from a Schedule 13G filed with the Securities and Exchange Commission on or about February 14, 2000. (11) Based upon information obtained from a Schedule 13D filed with the Securities and Exchange Commission on or about January 28, 2000. The Schedule 13D was filed on behalf of (i) Strome Partners, L.P. , (ii) Strome Offshore Limited , (iii) Strome Hedgecap Fund, L.P. , (iv) Strome Hedgecap Limited, (v) Strome Investment Management, L.P. , (vi) SSCO, Inc. ("SSCO"), and (vii) Mark Strome, a settler and trustee of the Mark E. Strome Living Trust, dated 1/16/97, as the controlling shareholder of SSCO. (12) Based upon information obtained from a Schedule 13D filed with the Securities and Exchange Commission on or about August 26, 1999. (13) Includes 34,333 shares of Common Stock issuable upon the exercise of outstanding options. * Less than one percent. 42 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Background Prior to September 1999, the Company and WFSG had the same senior management team, though the Company had a different shareholder base and the majority of its directors were independent, and the Company's business affairs and day-to-day operations were managed by WRSC, a wholly-owned subsidiary of WFSG, pursuant to a management agreement ("Management Agreement"). After September 1999, the Company's independent directors decided that the Company should be internally managed and the Company and WFSG ceased to have the same senior executives and no longer had any common directors. In addition, the Company is currently engaged in an ongoing dispute with WFSG relating to the termination of the contractual and other relationships which existed between the companies prior to September 1999. Accordingly, the Company no longer views WFSG and its subsidiaries as affiliated parties. Relationships Prior to September 1999 Prior to September 1999, we had a number of contractual relationships with WFSG and its affiliates. The Company's business affairs and day-to-day operations were managed by a subsidiary of WFSG, pursuant to a management agreement and the Company had entered into loan servicing agreements with Wilshire Credit Corporation ("WCC"), an affiliate of WFSG, and Wilshire Servicing Company U.K. Limited, a wholly-owned subsidiary of WFSG (collectively, the "Servicers"). Under these servicing agreements, the Servicers provided loan and real property management services to us, including billing, portfolio administration and collection services. In return, we agreed to pay each of the Servicers a fee at market rates for servicing our investments and to reimburse them for certain out-of-pocket costs. During 1999, servicing fees and reimbursement for expenses totaled $256,000 and $49,000, respectively and management fees under the Management Agreement totaled $2,404,000. We prepaid $3.2 million of future service fees as part of the WFSG and WCC restructuring described below, although WFSG had disputed this amount in the past (as well as servicing eligibility for application of the credit), suggesting that the original amount was $2.3 million. Conflicts relating to WFSG's Restructuring A conflict of interest also arose out of our status as a creditor of WFSG in connection with its debt restructuring. In addition to holding certain of WFSG's publicly traded notes, we had an outstanding receivable of approximately $17.0 million from WFSG, which bore interest at 13% per annum. WFSG incurred significant losses as a result of adverse market conditions in 1998 and on March 3, 1999 filed a prepackaged plan of reorganization (the "Restructuring Plan") with the U.S. Bankruptcy Court for the District of Delaware as part of a voluntary bankruptcy filing under Chapter 11 of the U.S. Bankruptcy Code. Prior to the solicitation of WFSG's Restructuring Plan, the unofficial noteholders committee of WFSG (which did not include the Company) negotiated a compromise and settlement of the Company's claim against WFSG in respect of the $17.0 million receivable. The Company was represented by its independent directors in connection with the compromise and settlement negotiations. Under this compromise and settlement, if the Company funded the full amount of the debtor-in-possession facility described below, the Company would have received a new note for the full amount of the receivable bearing interest at 6% per annum, payable monthly in arrears and treated the same as the other holders of WFSG's 13% Series B Notes. The business decision to provide the debtor-in-possession facility was based on the independent directors' desire to obtain the best possible treatment for the Company's holdings of WFSG's 13% Series B Notes and the account receivable due from WFSG and the fact that the debtor-in-possession facility had priority as a matter of law and was fully secured by the stock of WFSG's banking subsidiary, First Bank of Beverly Hills, F.S.B. Without funding of the debtor-in-possession facility, it is unlikely that the Company would have received as favorable treatment for its investments. The new note would bear interest at 6%, and therefore, the carrying value of the receivable was reduced by $5.9 million at December 31, 1998 to reflect the reduction in interest rate. The Restructuring Plan was approved by the court on April 12, 1999 and, on June 10, 1999, WFSG emerged from bankruptcy pursuant to the Restructuring Plan. As part of the Plan, during the quarter ended March 31, 1999, the Company agreed to provide WFSG with debtor-in-possession financing pursuant to which the Company agreed to lend up to $10.0 million (the "DIP Facility"). The DIP Facility bears interest at a rate of 12% per annum and is secured by the stock of First Bank of Beverly Hills, FSB, WFSG's savings bank subsidiary. The DIP Facility matures on February 29, 2004 and repayment is made through fully amortizing principal and interest payments commencing on February 29, 2000. Prior to February 29, 2000, only interest payments are required. The Company loaned $5.0 million under the DIP Facility on March 3, 1999 and did not provide WFSG with the remaining balance. Accordingly, under the agreement negotiated by the Company's Independent Directors with WFSG and its creditors, 50%, or approximately $8.5 million, of WFSG's obligation was treated pari passu with the claims of WFSG's noteholders and converted, together with approximately $21.4 million (in principal plus accrued but unpaid interest) of WFSG's 13% Series B Notes, to 2,874,791 shares of newly issued common stock of WFSG on June 10, 1999, the effective date of the Restructuring Plan. Additionally, on the effective date of the Restructuring Plan, the Company acquired approximately $8.5 million in principal amount of WFSG's 6% Convertible PIK Notes due 2006 (the "PIK Notes") in exchange for the remaining 50% of the $17.0 million intercompany receivable owed by WFSG to the Company. 43 In connection with the restructuring of WCC's debt, we paid $15 million to WCC in January 1999, consisting of a payment of amounts owed by the Company to WCC of $11.8 million and the prepayment of $3.2 million of future service fees for a release of a guarantee by the Company of $35 million of WCC's indebtedness and of any and all claims against us by the guaranteed party. At that time, we had approximately $3.2 million of prepaid future service fees with WCC. However, this figure (as well as servicing eligibility for application of the credit) had been disputed by WFSG in the past, which claimed that the amount owed to WCC was approximately $900,000 higher thereby reducing the amount of the prepayment credit to $2.3 million. Relations Following September 1999 As noted above, the Company is engaged in an ongoing dispute with WFSG relating to the termination of the extensive contractual and other relationships which formerly existed between the companies. The decision to become internally managed and cease to utilize the services of WFSG and its affiliates has resulted in disputes between the Company and WFSG, which include disputes over the termination of the Management Agreement, the applicability of a facilities sharing agreement and other matters. Notwithstanding the foregoing, the Company has sought to discuss the parties' disagreements with a view to reaching an amicable arrangement for severing the relationships between WFSG and the Company. As a result of the Company's overtures, the Company and WFSG began discussions to resolve their differences in late September 1999. In connection with this matter, the Company, without admission, recorded a reserve for potential resolution of disputes with WFSG of $4.1 million at September 30, 1999. Subsequently, the Company entered into a partial settlement agreement dated as of December 10, 1999 with WFSG, pursuant to which the Company repurchased 992,687 shares of its common stock (the "Shares"), representing approximately 8.7% of shares outstanding, in a non-cash transaction from WFSG. The Shares, as well as 1,112,500 of options and cumulative dividends payable on the Shares, were received in exchange for a reduction in value of a PIK note owed by WFSG to the Company. The Shares and options represented WFSG's entire ownership interest in the Company. In October 1999, the Company also purchased from WFSG approximately $20.9 million of mortgage-backed securities from WFSG as part of these settlement discussions. In March 2000, we terminated the servicing relationship in the United Kingdom with the European Servicer and transferred this servicing to an unaffiliated third party. We also terminated all loan and real property servicing in the United States with WCC, reserving our rights to do so with respect to certain mortgage-backed securities. On February 18, 2000, after the Company received permission from the court to do so, the Company filed a Second Amended Complaint which added claims against WFSG and its affiliated companies as follows: claims for declaratory relief that WFSG is entitled to no termination fee under the Management Agreement; seeking an accounting from WCC regarding the use of funds from lockbox accounts used to service assets which the Company owns or in which the Company has a beneficial interest; declaring the Company's entitlement to use prepaid service fees for the servicing of assets serviced under pooling and servicing agreements; and declaring WFSG to be in default of its Debtor-in-Possession ("DIP") loan agreement with the Company and declaring that the balance of $5.0 million is immediately due and payable. On March 2, 2000, WFSG filed an answer disputing each of the counterclaims added by the Second Amended Complaint, and realleging the counterclaims included in WFSG's original answer and counterclaim. Considerable discovery remains to be completed, and it is thus not possible to predict the outcome of the case. The case is scheduled for trial in October 2000. The Company intends to pursue its claims against WFSG and to defend the counterclaims filed by WFSG against the Company vigorously. At December 31, 1999, the balance of the reserve for potential resolution of disputes with WFSG was $2.3 million. 44 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K. (a) Financial Statements Consolidated Statements of Financial Condition at December 31, 1999 and 1998 Consolidated Statements of Operations for the Years Ended December 31, 1999 and 1998 Consolidated Statements of Stockholders' Equity for the Years Ended December 31, 1999 and 1998 Consolidated Statements of Cash Flow for the Years Ended December 31, 1999 and 1998 All financial statement schedules of the Company are omitted because they are not required or are not applicable. (b) Reports on Form 8-K filed during the fourth quarter of the period covered by this report: (i) Current Report on Form 8-K filed November 15, 1999; (ii) Current Report on Form 8-K filed December 17, 1999; and (iii) Current Report on Form 8-K filed December 23, 1999. (c) Exhibits See Exhibit Index immediately following the signature pages. 45 INDEX TO FINANCIAL STATEMENTS Page ---- Report of Independent Auditors - Ernst & Young LLP.......................... F-2 Report of Independent Public Accountants - Arthur Andersen LLP.............. F-3 Consolidated Financial Statements: Consolidated Statements of Financial Condition at December 31, 1999 and 1998.................................................................. F-4 Consolidated Statements of Operations for the years ended December 31, 1999 and 1998............................................................. F-5 Consolidated Statements of Stockholders' Equity for the years ended December 31, 1999 and 1998................................................ F-6 Consolidated Statements of Cash Flows for the years ended December 31, 1999 and 1998............................................................. F-7 Notes to Consolidated Financial Statements.................................. F-8 F-1 REPORT OF INDEPENDENT AUDITORS - ERNST & YOUNG LLP To the Board of Directors and Stockholders of Wilshire Real Estate Investment Inc. We have audited the accompanying consolidated statement of financial condition of Wilshire Real Estate Investment Inc. and Subsidiaries (the "Company") as of December 31, 1999, and the related consolidated statements of operations, changes in stockholders' equity and cash flows for the year then ended. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audit. We conducted our audit in accordance with auditing standards generally accepted in the United States. 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 audit provides a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Wilshire Real Estate Investment Inc. and Subsidiaries as of December 31, 1999, and the results of their operations and their cash flows for the year then ended in conformity with accounting principles generally accepted in the United States. /S/ ERNST & YOUNG LLP Los Angeles, California February 11, 2000 F-2 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To the Board of Directors and Stockholders of Wilshire Real Estate Investment Inc. We have audited the accompanying consolidated statement of financial condition of Wilshire Real Estate Investment Inc. and Subsidiaries (the "Company") as of December 31, 1998, and the related consolidated statements of operations, changes in stockholders' equity and cash flows for the year then ended. 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 audit. We conducted our audit in accordance with generally accepted auditing standards. 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 audit provides a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Wilshire Real Estate Investment Inc. and Subsidiaries as of December 31, 1998, and the results of their operations and their cash flows for the year then ended in conformity with generally accepted accounting principles. /S/ ARTHUR ANDERSEN LLP Los Angeles, California March 19, 1999 F-3 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION (Dollars in thousands)
December 31, ---------------------- 1999 1998 --------- --------- Assets Cash and cash equivalents $ 5,862 $ 4,782 Securities available for sale, at fair value 104,572 158,738 Loans held for sale, net -- 44,006 Loans, net 30,459 69,124 Discounted loans, net 1,175 2,498 Investments in real estate held for sale, net 63,225 85,005 Investment in WFSG, at fair value 3,953 -- Notes receivable from WFSG 5,275 -- Due from WFSG -- 12,352 Accrued interest receivable 1,108 1,939 Prepaid service fees to WCC 2,974 -- Other assets 2,209 2,673 --------- --------- Total assets $ 220,812 $ 381,117 ========= ========= Liabilities and Stockholders' Equity Liabilities: Short-term borrowings $ 96,815 $ 225,566 Other borrowings 64,412 60,577 Accounts payable and accrued liabilities 4,623 6,233 Due to WCC -- 11,698 Dividends payable 4,090 4,600 --------- --------- Total liabilities 169,940 308,674 --------- --------- Commitments and contingencies (Note 12) Stockholders' Equity: Preferred stock, $.0001 par value; 25,000,000 shares authorized; no shares issued and outstanding -- -- Common stock, $.0001 par value; 200,000,000 shares authorized; 11,500,000 shares issued; and 10,507,313 and 11,500,000 shares outstanding in 1999 and 1998, respectively 166,981 166,981 Treasury stock; 992,687 common shares, at cost (2,171) -- Accumulated deficit (90,915) (64,093) Accumulated other comprehensive loss (23,023) (30,445) --------- --------- Total stockholders' equity 50,872 72,443 --------- --------- Total liabilities and stockholders' equity $ 220,812 $ 381,117 ========= =========
The accompanying notes are an integral part of these consolidated financial statements. F-4 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (Dollars in thousands, except share data)
Year Ended December 31, ---------------------- 1999 1998 --------- --------- Net Interest Income: Loans held for sale, loans and discounted loans $ 6,740 $ 10,838 Securities 15,342 15,709 Other investments 604 1,145 --------- --------- Total interest income 22,686 27,692 Interest expense 12,897 13,608 --------- --------- Net interest income before provision for loan losses 9,789 14,084 (Recapture) provision for loan losses (1,150) 11,842 --------- --------- Net interest income after provision for loan losses 10,939 2,242 Real Estate Operations: Operating income 7,148 4,939 Operating expense (205) (345) Interest expense (4,546) (2,853) Gain on sale of real estate 1,042 -- Provision for losses (892) -- Depreciation (1,102) (963) --------- --------- Total real estate operations 1,445 778 Other Operating (Loss) Income: Market valuation losses and impairments (30,029) (54,822) Provision for disputes with WFSG (Note 2) (4,077) -- Gain on sale of securities 1,326 943 Gain on sale of loans -- 1,320 Gain (loss) on foreign currency translation (66) 23 Other income 246 -- --------- --------- Total other operating loss (32,600) (52,536) Operating Expenses: Compensation and employee benefits 1,353 -- Management fees 2,404 3,179 Professional fees 1,250 1,220 Servicing fees 256 691 Loan expenses 49 500 Other 1,119 1,282 --------- --------- Total operating expenses 6,431 6,872 --------- --------- NET LOSS $ (26,647) $ (56,388) ========= ========= BASIC AND DILUTED NET LOSS PER SHARE $ (2.33) $ (4.94) WEIGHTED AVERAGE SHARES OUTSTANDING 11,442,921 11,421,933
The accompanying notes are an integral part of these consolidated financial statements. F-5 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (Dollars in thousands)
Common Stock Treasury Stock Accumulated Other --------------------------------------------------- Accumulated Comprehensive Shares (1) Amount Shares Amount Deficit Loss Total ---------- ------ ------ ------ ------- ---- ----- Initial capital -- $ 2 -- $ -- $ -- $ -- $ 2 Issuance of common stock 11,500,000 166,979 -- -- -- -- 166,979 Comprehensive loss: Net loss -- -- -- -- (56,388) -- (56,388) Other comprehensive loss: Foreign currency translation -- -- -- -- -- (7) (7) Unrealized holding losses on securities available for sale -- -- -- -- -- (67,817) (67,817) Reclassification adjustment for losses on securities included in net loss -- -- -- -- -- 37,379 37,379 -------- Total comprehensive loss (86,833) Dividends declared -- -- -- -- (7,705) -- (7,705) -------------------------------------------------------------------------------------------- Balance at December 31, 1998 11,500,000 166,981 -- -- (64,093) (30,445) 72,443 Comprehensive loss: Net loss -- -- -- -- (26,647) -- (26,647) Other comprehensive loss: Foreign currency translation -- -- -- -- -- (148) (148) Unrealized holding losses on securities available for sale -- -- -- -- -- (12,015) (12,015) Reclassification adjustment for losses on securities included in net loss -- -- -- -- -- 19,585 19,585 -------- Total comprehensive loss (19,225) Treasury stock acquired (Note 2) (992,687) -- 992,687 (2,171) -- -- (2,171) Recourse loans to officers to acquire stock -- -- -- -- (198) -- (198) Discount on dividend purchase -- -- -- -- 23 -- 23 -------------------------------------------------------------------------------------------- Balance at December 31, 1999 10,507,313 $ 166,981 992,687 $ (2,171) $ (90,915) $ (23,023) $ 50,872 ============================================================================================
- ---------- (1) Issued and outstanding. The accompanying notes are an integral part of these consolidated financial statements. F-6 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (Dollars in thousands)
Year Ended December 31, ----------------------- 1999 1998 --------- --------- CASH FLOWS FROM OPERATING ACTIVITIES: Net loss $ (26,647) $ (56,388) Adjustments to reconcile net loss to net cash (used in) provided by (used in) operating activities: Depreciation 1,102 963 Amortization of premiums and accretion of discounts, net (377) (1,322) (Recapture) provision for loan losses (1,150) 11,842 Provision for losses on real estate 892 -- Market valuation losses and impairments 30,029 54,822 Loss on foreign currency translation 24 -- Gain on sale of securities (1,326) (943) Gain on sale of loans -- (1,320) Gain on sale of real estate (1,042) -- Change in: Receivables from WFSG and its affiliates, net (9,344) (6,591) Provision for claims with WFSG 2,284 -- Accrued interest receivable 792 (1,939) Prepaid service fees to WCC (2,974) -- Other assets (559) (2,673) Accounts payable and accrued liabilities (3,919) 8,033 --------- --------- Net cash (used in) provided by operating activities (12,215) 4,484 --------- --------- CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of securities available for sale (30,420) (365,919) Repayments of securities available for sale 19,588 5,517 Proceeds from sale of securities available for sale 46,585 133,327 Purchase of loans and discounted loans (663) (672,919) Principal repayments on loans and discounted loans 39,802 21,907 Proceeds from sale of real estate 20,131 -- Proceeds from sale of loans 48,366 515,386 Investments in real estate (223) (85,648) DIP loan advanced to WFSG (5,000) -- Other 117 428 --------- --------- Net cash provided by (used in) investing activities 138,283 (447,921) --------- --------- CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from short-term borrowings 22,301 529,851 Repayments on short-term borrowings (132,162) (306,085) Proceeds from securitized mortgage obligations -- 372,318 Repayment of securitized mortgage obligations -- (372,318) Proceeds from other borrowings -- 60,940 Repayments on other borrowings (14,622) (363) Dividend payments on common stock (486) (3,105) Proceeds from issuance of common stock -- 166,981 --------- --------- Net cash (used in) provided by financing activities (124,969) 448,219 --------- --------- EFFECT OF EXCHANGE RATE CHANGES ON CASH (19) -- --------- --------- NET INCREASE IN CASH AND CASH EQUIVALENTS 1,080 4,782 CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 4,782 -- --------- --------- CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 5,862 $ 4,782 ========= ========= SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid for interest $ 19,589 $ 12,655 Cash paid for taxes $ -- $ -- NONCASH FINANCING AND INVESTING ACTIVITIES: Investment in WFSG $ 3,104 $ -- Purchase of treasury stock and securities available for sale $ (4,591) $ -- Common stock dividend declared but not paid $ -- $ 4,600 Additions to investment in real estate acquired in settlement of loans $ -- $ 348
The accompanying notes are an integral part of these consolidated financial statements. F-7 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except share data) NOTE 1 - ORGANIZATION AND RELATIONSHIPS The Company was originally incorporated as Wilshire Real Estate Investment Trust Inc. in the State of Maryland on October 24, 1997. However, in order to benefit from significant net operating loss carryforwards and to avoid any risk of not qualifying as a real estate investment trust ("REIT"), the Company, with the approval of its shareholders, elected in September 1999 not to be taxed as a REIT, and the Company's name was changed to Wilshire Real Estate Investment Inc. The Company was initially formed with a capital investment of $2 thousand. On April 6, 1998, the Company was capitalized with the sale of 11,500,000 shares of common stock, par value $.0001 per share, at a price of $16.00 per share (the "Offering"). Total net proceeds of the Offering after underwriting and offering expenses were $167.0 million. During the third quarter of 1999, the Company decided to become internally managed and retained senior executives and other employees to implement this decision. Prior to this decision and subject to the supervision of the Company's Board of Directors, the Company's business affairs and day-to-day operations had been managed by Wilshire Realty Services Corporation ("WRSC"), a wholly-owned subsidiary of Wilshire Financial Services Group Inc. ("WFSG"), pursuant to a management agreement (the "Management Agreement"). The decision to become internally managed and cease to utilize the services of WRSC has resulted in disputes between the Company, on the one hand, and WFSG and certain of its affiliates on the other (see Note 2). NOTE 2 - RELATIONSHIP WITH WFSG AND ITS AFFILIATES The Company is engaged in an ongoing dispute with WFSG relating to the termination of the contractual and other relationships which formerly existed between the companies. Prior to September 1999, the Company's business affairs and day-to-day operations had been managed by WRSC, a wholly-owned subsidiary of WFSG, and the Company and WFSG had the same senior management team, though the Company had a significantly different shareholder base and the majority of its directors were independent. In addition, the Company and WFSG had other significant contractual relationships relating to the servicing of real estate related assets and also had certain cross shareholdings. Relations between the Company and WFSG declined during WFSG's bankruptcy restructuring in 1999 primarily as a result of the Company's concerns over WFSG's abilities to perform its obligations and the exclusion of the Company from the restructuring process and decisions about WFSG's strategic direction. Relations deteriorated further when the Company was notified that WFSG had terminated its Chief Executive Officer, Andrew Wiederhorn, and its President, Lawrence Mendelsohn, from their duties as employees of WFSG and its subsidiaries. Concerns about WFSG's abilities to perform its obligations, the termination of Wiederhorn and Mendelsohn, uncertainties about new management and concerns over WFSG's strategic direction led the Company and its independent directors to reassess its relationship with WFSG and ultimately to the decision to become internally managed and not rely on WFSG for the provision of services. The Company, on behalf of itself and all of its subsidiaries and affiliates, Andrew A. Wiederhorn, and Lawrence A. Mendelsohn, entered into a partial settlement agreement dated as of December 10, 1999 with WFSG, on behalf of all of its subsidiaries and affiliates, other than First Bank of Beverly Hills, F.S.B. (the "Partial Settlement Agreement"). Under the terms of the Partial Settlement Agreement, the Company repurchased 992,687 shares of its common stock (the "Shares"), representing approximately 8.6% of shares outstanding, in a non-cash transaction from WFSG. The Shares, as well as 1,112,500 of options (see Note 13) and cumulative dividends payable on the Shares, were received in exchange for a reduction in the amount of a pay-in-kind ("PIK") note owed by WFSG to the Company in the amount of $5.8 million. The Shares and options represented WFSG's entire ownership interest in the Company. Though negotiations are still continuing, the Company and WFSG have been unable as of February 11, 2000 to resolve the remaining matters in dispute and there is an increased likelihood that the parties will need to litigate to resolve the remaining matters in dispute, which include WFSG's claim that it is entitled to a termination fee under the Management Agreement. Following a partial settlement of disputes with WFSG, the balance of the reserve for potential resolution of disputes with WFSG was $2.3 million at December 31, 1999. Transactions with WFSG and its Affiliates On March 3, 1999, WFSG submitted a prepackaged plan of reorganization as part of a Chapter 11 bankruptcy filing in the Federal Court of Wilmington, Delaware. On June 10, 1999, WFSG's bankruptcy reorganization was consummated. F-8 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except share data) Through its independent directors, the Company was a party to some of the restructuring negotiations since the Company owned $20 million in principal amount of WFSG's 13% Series B Notes and had a $17.0 million unsecured receivable from WFSG, bearing interest at 13%. In January 1999, the Company entered into an agreement to provide WFSG with debtor-in-possession financing of up to $10.0 million (the "DIP Facility") as part of a compromise and settlement of the $17.0 million receivable due from WFSG. Under this compromise and settlement, if the Company funded the full amount of the DIP Facility, the Company would have received a new note for the full amount of the receivable, bearing interest at 6% per annum payable monthly in arrears. The DIP Facility bears interest at 12% and is secured by the stock of First Bank of Beverly Hills, FSB, WFSG's savings bank subsidiary, and its holding company, Wilshire Acquisitions Corporation. The DIP Facility matures on February 29, 2004 and repayment is made through fully amortizing principal and interest payments commencing on February 29, 2000. Prior to February 29, 2000, only interest payments are required. The Company funded $5.0 million of the DIP Facility on March 3, 1999 but did not provide WFSG with the remaining half. Accordingly, under the agreement negotiated by the Company's independent directors with WFSG and its creditors, 50%, or approximately $8.5 million, of WFSG's obligation was treated pari passu with the claims of WFSG's noteholders and converted, together with approximately $21.4 million (in principal plus accrued but unpaid interest) of WFSG's 13% Series B Notes, to 2,874,791 shares of newly issued common stock of WFSG on June 10, 1999, the effective date of the restructuring plan. Additionally, on the effective date of the restructuring plan, the Company received approximately $8.5 million in principal amount of WFSG's 6% Convertible PIK Notes due 2006 (the "PIK Notes") in exchange for the remaining 50% of the $17.0 million receivable due from WFSG. Following the completion of WFSG's restructuring plan, the Company held 2,874,791 shares, or approximately 14.4%, of common stock of WFSG. In the first quarter of 1999, the Company remitted $15 million to WCC. This payment relieved the Company of its payable to WCC (approximately $11.8 million) and its guarantee of certain WCC indebtedness. The difference between the $15 million payment and the payable balance of approximately $3.2 million represents an undiscounted prepayment of future service fees to be charged by WCC to the Company, although WFSG had disputed this amount in the past (as well as servicing eligibility for application of the credit), suggesting that the original amount was $2.3 million (unaudited). At December 31, 1999, the balance of the unused prepaid service fees was reduced to $3.0 million. The following table sets forth the Company's transactions with WFSG and its affiliates as of December 31, 1998 and 1999. The Company's Transactions With WFSG and Its Affiliates December 31, --------------------------------- 1998 1999 ------------ ------------ Type of Investment WFSG's 13% Series B Notes ............ $ 9,933,000(1) $ -- Due from WFSG ........................ 12,352,000 -- Due to WCC ........................... (11,698,000) Other Borrowings ..................... (13,076,000)(3) (2,569,000)(3) PIK Notes ............................ -- --(2) WFSG Common Stock .................... -- 3,953,000(4) DIP Facility ......................... -- 5,000,000(5) Other Notes Receivable from WFSG ..... -- 275,000(2) Prepaid Service Fees to WCC .......... -- 2,974,000 - ---------- (1) Based on the value of the 13% Series B Notes as shown in the Company's consolidated financial statements as of December 31, 1998. The principal amount of the 13% Series B Notes held by the Company was $20 million. (2) In October 1999, the Company acquired approximately $20,9 million of mortgage-backed securities from WFSG by assuming short-term borrowing of $18.5 million and a $2.4 million reduction in the carrying amount of the PIK Notes. In December 1999, the Company entered into a partial settlement agreement with WFSG which included the repurchase of 992,687 shares of the Company's common stock. As a result of these non-cash settlements, the balance of the PIK Notes were paid off and a new note for $275,000 was created. (3) Investments in real estate were pledged against these loans. Subsequent to December 31, 1999, the Company repaid these loans in full. (4) Based on $1.375 per share. WFSG's common stock currently trades on the OTC Bulletin Board and the closing price as of December 31, 199 was $1.375 per share. (5) The DIP Facility no longer has priority over other creditors and will be treated like any other secured loan. F-9 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except share data) The effect of the various transactions between the Company and WFSG and its affiliates are summarized below for the years ended December 31: 1999 1998 -------- -------- Interest income (1) ................................ $ 1,887 $ 1,639 Interest expense ................................... -- 344 -------- -------- 1,887 1,295 Provision for loan losses .......................... 2,699 5,937 -------- -------- (812) (4,642) Real estate operations, net (2) .................... 46 (33) Other operating income: Market valuation losses and impairments ...... (10,443) (11,346) Provision for disputes with WFSG ............. (4,077) -- -------- -------- (15,286) (16,021) Operating expenses ................................. 2,260 3,870 -------- -------- $(17,546) $(19,891) ======== ======== - ---------- (1) Does not include interest income on MBS securities resulting from securitizations by WFSG or its affiliates. (2) Does not include rental income paid by third parties on properties partially financed by WFSG or its affiliates. Servicing Arrangements Prior to the disputes with WFSG, the Company entered into loan servicing agreements with Wilshire Credit Corporation ("WCC"), an affiliate of WFSG, and Wilshire Servicing Company U.K. Limited, a wholly-owned subsidiary of WFSG (the "European Servicer" and with WCC, the "Servicers"). Under these servicing agreements, the Servicers provided loan and real property management services to the Company, including billing, portfolio administration and collection services. In return, the Company agreed to pay each of the Servicers a fee at market rates for servicing the Company's investments and to reimburse them for certain out-of-pocket costs. NOTE 3 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Nature of Operations - The operations of the Company consist primarily of the acquisition of pools of performing, sub-performing and non-performing residential and commercial mortgage loans, as well as commercial real estate and mortgage-backed securities. The Company's primary sources of revenue are from loans, mortgage-backed securities and real estate. The Company was incorporated in the State of Maryland on October 24, 1997. Prior to April 6, 1998, the Company had substantially no operating activity. Principles of Consolidation - The accompanying consolidated financial statements include the accounts of Wilshire Real Estate Investment Inc. and its four subsidiaries, including Wilshire Real Estate Partnership L.P. ("WREP"), Wilshire Real Estate Partnership 1998-1 LLC, Wilshire REIT 1998-1 and WREP Islands Limited. Intercompany accounts have been eliminated in consolidation. Use of Estimates in the Preparation of the Consolidated Financial Statements-The preparation of the consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements. Significant estimates include valuation allowances for loans and real estate owned, the determination of fair values of certain financial instruments for which there is no active market, the allocation of basis between assets sold and retained, the evaluation of other than temporary market value declines, and the selection of yields utilized to recognize interest income on certain mortgage-backed securities. Estimates and assumptions also affect the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Cash and Cash Equivalents - For purposes of reporting the consolidated financial condition and cash flows, cash and cash equivalents include cash and due from banks, federal funds sold and securities with original maturities of 90 days or less. F-10 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except share data) Securities Available For Sale - Securities available for sale include mortgage-backed securities and other securities that are designated as assets available for sale because the Company does not intend to hold them to maturity. Securities available for sale are carried at estimated fair values with the net unrealized gains or losses reported in accumulated other comprehensive loss, which is included as a separate component in stockholders' equity. The Company records its securities portfolio at estimated fair value at the end of each month based upon available broker/dealer valuations, subject to an internal review process. For those securities that do not have an available market quotation, the Company requests market values and underlying assumptions from the various broker/dealers that underwrote the securities, are currently financing the securities, or have had prior experience with the securities. As of each reporting period, the Company evaluates whether and to what extent any decline in the estimated fair values is to be recognized in earnings as other than temporary. Other than temporary declines in the carrying value of securities, if any, are charged to earnings and the basis of each security is adjusted, accordingly. At disposition, the realized net gain or loss is included in earnings on a specific identification basis. The amortization of premiums and accretion of discounts are computed using the interest method after considering actual and estimated prepayment rates, if applicable. Actual prepayment experience and the yields are reviewed at least quarterly. The Company considers securities available for sale to be impaired if the Company is unable to demonstrate the ability to hold such asset until a temporary decline in the market value reverses or the anticipated cash flows on such asset are not expected to exceed the Company's amortized basis in such asset. The Company currently believes that it has a reasonable expectation to recover its amortized basis in securities available for sale based on its post-impairment basis in these securities. Loans Held for Sale, Loans, Discounted Loans and Allowance for Loan Losses - - The Company acquires performing loan portfolios for prices generally at par or at a premium or discount to the principal face amount (i.e., unpaid principal balance plus accrued interest) and re-performing and sub-performing loan portfolios for prices generally at or below their principal amount. Non-performing loans are generally acquired at discounts to the principal face amount. Purchased sub-performing and non-performing loans are generally classified as discounted loans in the consolidated statement of financial condition. Loans that have been identified as likely to be sold are classified as loans held for sale in the consolidated statement of financial condition. Loans other than discounted loans and loans held for sale are classified as loans. Discounted loans are presented in the consolidated statement of financial condition net of unaccreted discounts and allowance for loan losses established for those loans. Unaccreted discounts represent the portion of the difference between the purchase price and the principal face amount on specific loans that is available for accretion to interest income. The allowance for loan losses includes valuation allowances for estimated losses against the principal face amount that are established at acquisition and for subsequent valuation adjustments that are provided for through current period earnings and are based on discounted future cash flows or the fair value of the underlying real estate collateral for collateral dependent loans. If total cash received on a pool of loans exceeds original estimates, excess specific valuation allowances are recorded as additional discount accretion on the cost-recovery method. The allocated specific valuation allowances are included in the allowance for loan losses. Where appropriate, discounts are accreted into interest income on a cash basis. Loans, other than discounted loans, are presented in the consolidated statement of financial condition in substantially the same manner as discounted loans. Interest income is recognized on an accrual basis. Deferred fees and costs and premiums are recognized in interest income over the life of the loan using a method that approximates the interest method. Certain loans and discounted loans are designated as held for sale and are presented at the lower of cost or fair value. If fair value is less than cost, a valuation allowance is recorded through a charge to earnings to reduce the carrying value to fair value. The Company evaluates loans for impairment. Commercial and multi-family real estate loans are considered to be impaired, for financial reporting purposes, when it is probable that the Company will be unable to collect all principal or interest due, according to the contractual terms of the loan agreement. Specific valuation allowances are established either at acquisition or through provisions for loan losses, as described above, for impaired loans based on the fair value of the underlying collateral. All specific valuation allowances established for pools of loans and discounted loans are recorded in the allowance for loan losses. The allowance for each pool is decreased by the amount of loans charged off and is increased by the provision for estimated losses on loans and recoveries of previously charged-off loans. The allowance for each pool is maintained at a level believed adequate by management to absorb probable losses. Management's determination of the adequacy of the allowance is based on an evaluation of the portfolio, previous loan loss experience, current economic conditions, volume, growth and composition of the portfolio and other relevant factors. Actual losses may differ from management's estimates. F-11 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except share data) It is the Company's policy to establish an allowance for uncollectible interest on performing loans that are past due more than 90 days or sooner when, in the judgment of management, the probability of collection of interest is deemed to be insufficient to warrant further accrual. Upon such a determination, those loans are placed on non-accrual status and deemed to be non-performing. When a loan is placed on non-accrual status, previously accrued but unpaid interest is reversed by a charge to interest income. Investments In Real Estate - Real estate purchased directly is originally recorded at the purchase price. Real estate acquired in settlement of loans is originally recorded at fair value less estimated costs to sell. Any excess of net loan cost basis over the fair value less estimated selling costs of real estate acquired through foreclosure is charged to the allowance for loan losses. Any subsequent operating expenses or income, reductions in estimated fair values, as well as gains or losses on disposition of such properties, are recorded in current operations. Effective October 1, 1999, the Company holds its investments in real estate as held-for-sale. Depreciation on investments in real estate is computed using the straight-line method over the estimated useful lives of the assets as follows. Buildings and improvements.......... 35 years Tenant improvements................. Lesser of lease term or useful life Expenditures for repairs and maintenance are charged to operations as incurred. Significant renovations are capitalized and amortized over their expected useful lives. Fees and costs incurred in the successful negotiation of leases are deferred and amortized on a straight-line basis over the terms of the respective leases. Rental revenue is reported on a straight-line basis over the terms of the respective leases. Income Taxes-The Company files its income tax returns with the relevant tax authorities in the United States on a consolidated basis. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is provided when it is not probable that some portion or all of the deferred tax assets will be realized. Net Loss Per Share-Basic EPS excludes dilution and is computed by dividing the net loss available to common stockholders by the weighted average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the Company. During the years ended December 31, 1999 and 1998, however, the Company experienced a net loss, which resulted in common stock equivalents having an anti-dilutive effect on earnings per share. Weighted average shares outstanding is therefore equivalent for basic and diluted net loss per share. Comprehensive Income-In 1998, the Company adopted SFAS No. 130, "Reporting Comprehensive Income", which requires companies to report all changes in equity during a period, except those relating to investment by owners and distributions to owners, in a financial statement for the period in which they are recognized. The Company has chosen to disclose comprehensive loss, which encompasses net loss, unrealized holding losses on available for sale securities during the year, realized gain/losses on available for sale securities, and currency translation adjustments, on the face of the accompanying consolidated statements of stockholders' equity. Reclassification-Certain items in the consolidated financial statements for 1998 were reclassified to conform to the 1999 presentation. NOTE 4 - RECENTLY ISSUED ACCOUNTING STANDARDS In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities". The Statement establishes accounting and reporting standards requiring that every derivative instrument (including certain derivative instruments embedded in other contracts) be recorded in the consolidated statement of financial condition 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 gain or loss to be offset with the related results F-12 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except share data) on the hedged item in the consolidated statement of operations, and requires that a company formally document, designate, and assess the effectiveness of transactions that receive hedge accounting. Management expects that the Company will adopt SFAS No. 133 (as amended by SFAS No. 137) on January 1, 2001. Management has not yet quantified the impact of adopting SFAS No. 133 on its consolidated financial statements and has not determined the method of its adoption of SFAS No. 133. NOTE 5 - SECURITIES AVAILABLE FOR SALE At December 31, 1999 and 1998, securities available for sale were as follows: Gross Gross Amortized Unrealized Unrealized December 31, 1999 Cost (1) Gains Losses Fair Value - -------------------------------- -------- -------- -------- -------- Mortgage-backed securities ..... $127,799 $ 3,487 $ 26,714 $104,572 Other securities ............... -- -- -- -- -------- -------- -------- -------- $127,799 $ 3,487 $ 26,714 $104,572 ======== ======== ======== ======== Gross Gross Amortized Unrealized Unrealized December 31, 1999 Cost (1) Gains Losses Fair Value - -------------------------------- -------- -------- -------- -------- Mortgage-backed securities ..... $179,243 $ 98 $ 30,536 $148,805 Other securities ............... 9,933 -- -- 9,933 -------- -------- -------- -------- $189,176 $ 98 $ 30,536 $158,738 ======== ======== ======== ======== - ---------- (1) The amortized cost of the securities reflects impairment adjustments deemed to be other than temporary. The total amount of impairment write-downs of $19.6 million and $22.4 million has been included in market valuation losses and impairments in the accompanying consolidated statements of operations for the years ended December 31, 1999 and 1998, respectively. The Company expects to receive payments on securities over periods that are considerably shorter than the contractual maturities of the securities, which range from 6 to 30 years due to prepayments. At December 31, 1999, the net unrealized loss on available-for-sale mortgage-backed securities totaled approximately $23.2 million. In the opinion of management, these losses represent temporary declines in the fair values of such securities. These unrealized gains and losses are reflected in "Accumulated other comprehensive loss" in stockholders' equity. Should management's estimates of the temporary nature of these market value declines change in the future to other than temporary, such changes would be reflected as losses in the Company's consolidated statement of operations. At December 31, 1998, other securities available for sale consisted of $20 million (face value) of 13% WFSG Series B Notes due in 2004 with a carrying value of $9.9 million, net of an impairment write down of $11.3 million, which is included in market valuation losses and impairments described above. WFSG and the unofficial committee of noteholders, representing a majority of the noteholders, agreed to a restructuring of WFSG whereby the noteholders (including holders of WFSG's 13% Series B Notes) exchanged their notes for newly issued common stock in WFSG. Management's valuation of these note holdings of $9.9 million as of December 31, 1998 was based on the Company's ratable portion of WFSG's estimated contemplated reorganization equity. At December 31, 1999, substantially all securities available for sale were pledged to secure short-term borrowings and lines of credit (see Note 8). F-13 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except share data) NOTE 6 - LOANS HELD FOR SALE, LOANS, AND DISCOUNTED LOANS The Company's loans are comprised of loans held for sale, loans, and discounted loans. Following is a summary of each loan category by type at December 31, 1999 and 1998: Discounted December 31, 1999 Loans Loans - ----------------- ----- ----- Unpaid principal balance of real estate loans: Over four residential units ....................... $ -- $ 349 Commercial ........................................ 30,843 3,781 ------- ------- Total loans secured by real estate ................ 30,843 4,130 Less: Allowance for loan losses ......................... 343 2,637 Discount on purchased loans and deferred fees ..... 41 318 ------- ------- $30,459 $ 1,175 ======= ======= Loans Held Discounted December 31, 1998 for Sale Loans Loans - ----------------- -------- ----- ----- Unpaid principal balance of real estate loans: One to four residential units .............. $ -- $ 411 $ -- Over four residential units ................ -- -- 337 Commercial ................................. 49,725 30,236 7,346 ------- ------- ------- Total loans secured by real estate ......... 49,725 30,647 7,683 Other (1) ....................................... -- 39,316 -- Less: Allowance for loan losses .................. 5,594 773 4,741 Discount on purchased loan and deferred fees 125 66 444 ------- ------- ------- $44,006 $69,124 $ 2,498 ======= ======= ======= - ---------- (1) Includes $38.6 million of securities under agreement to repurchase. On October 1, 1998, the counterparty filed a petition for reorganization under Chapter 11 in the United States Bankruptcy Court for the District of Oregon. On November 20, 1998, the counterparty and the Company reached an agreement in which the repurchase agreement was converted into a loan. Subsequent to December 31, 1998, the Company sold its interest in this loan and recovered its carrying value. At December 31, 1998 these assets were pledged to secure short-term borrowings (see Note 8). As of December 31, 1999 and 1998, the unpaid principal balances of loans with adjustable rates of interest were $26.1 million and $76.2 million, respectively, and loans with fixed rates of interest were $8.8 million and $51.2 million, respectively, before allowances and discounts. Adjustable-rate loans are generally indexed to U.S. Treasury Bills, the FHLB's Eleventh District Cost of Funds Index, LIBOR or Prime and are subject to limitations on the timing and extent of adjustment. Most loans adjust within six months of changes in the index. At December 31, 1999 and 1998, loans with an unpaid principal balance of approximately $5.2 million and $4.9 million, respectively, were pledged to secure credit line borrowings included in short-term borrowings. Additionally, other loans of $25 million and $114.0 million, respectively, were pledged to secure repurchase agreements. F-14 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except share data) Activity in the allowance for loan losses is summarized as follows: Year Ended December 31, ----------------------- 1999 1998 -------- -------- Balance, beginning of period ..................... $ 11,108 $ -- Allocation of purchased loan discounts: At acquisition .............................. -- 7,416 At disposition .............................. -- (1,312) Charge offs (1999-WFSG related, Note 2) .......... (7,364) (901) Recoveries ....................................... 386 -- (Recapture) provision for loan losses ............ (1,150) 5,905 -------- -------- Balance, end of period ........................... $ 2,980 $ 11,108 ======== ======== During the year ended December 31, 1999, the Company reversed a provision for losses of $3.9 million taken in prior periods for a loan held for sale. The loan was secured by commercial properties in the United Kingdom with a carrying value of approximately $47.9 million. This valuation allowance had been established in 1998 based upon management's estimate at that time of the ultimate recoverability of the asset. This provision reversal was partially offset by a provision for losses on loans of $0.1 million. In addition, the Company recognized a net write-down of $2.7 million in the carrying value of a $17.0 million note receivable from WFSG to reflect the estimated value of the common stock of WFSG received in exchange for a portion of the note. During the year ended December 31, 1998, the Company recorded a provision for losses of $11.8 million, of which $5.9 million related to assets classified in loans, loans held for sale or discounted loans. The remaining $5.9 million of provision for losses is not included in the allowance for loan losses activity above, but rather, is attributable to a valuation adjustment recorded on a note receivable from WFSG, and is included in due from WFSG as of December 31, 1998. At December 31, 1999, the Company had no impaired loans (other than discounted loans). At December 31, 1998, the Company had impaired loans (other than discounted loans) with a net carrying value of approximately $39.3 million. Substantially all of the balance at December 31, 1998 was accounted for by a single loan, which was paid off subsequent to December 31, 1998 at the approximate carrying value. The above amounts do not include impaired discounted loans. Management has determined that generally all discounted loans meet the criteria for impairment and evaluates the carrying values of these loans based on the portfolio approach, rather than a loan-by-loan basis. Management estimates are utilized to determine the adequacy of the allowance for loan losses. Estimates are also involved in determining the ultimate recoverability of purchased loans and, consequently, the pricing of purchased loans. These estimates are inherently uncertain and depend on the outcome of future events. Although management believes the level of the allowance is adequate to absorb losses probable in the loan portfolio, rising interest rates, various other economic factors and regulatory requirements may result in increasing levels of losses. Those losses will be recognized if and when these events occur. F-15 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except share data) NOTE 7 - INVESTMENTS IN REAL ESTATE At December 31, 1999 and 1998, the Company's investments in real estate were comprised of the following: December 31, ----------------------- 1999 1998 -------- -------- Commercial and multi-family real estate: Land ............................................. $ 18,355 $ 26,338 Building and improvements ........................ 46,349 58,856 Less: Accumulated depreciation ................... (1,848) (963) -------- -------- 62,856 84,231 Other real estate owned, net ..................... 369 774 -------- -------- $ 63,225 $ 85,005 ======== ======== At December 31, 1999 approximately $40.7 million or 64.3% of the investments in commercial and multi-family real estate were located in the United States and the remainder of commercial or multi-family properties were located in the United Kingdom. Investments in real estate are recorded at cost less accumulated depreciation, which, in the opinion of management, is less than the net realizable value of the properties on an individual basis. The Company reviews its investments in real estate for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. Effective October 1, 1999, the Company holds its investments in real estate as held for sale at lower of cost or market value. NOTE 8 - SHORT-TERM BORROWINGS Short-term borrowings at December 31, 1999 and 1998 include repurchase agreements, line of credit borrowings and other short-term borrowings. Proceeds from the various credit facilities are used primarily for the acquisition of mortgage-backed securities and loan pools. Following is information about short-term borrowings: December 31, --------------------------- 1999 1998 ------------ ----------- Average balance during the period............... $ 155,473 $ 254,945 Highest amount outstanding during the period.... $ 203,742 $ 475,351 Average interest rate - during the period....... 8.2% 7.2% Average interest rate - end of period........... 8.9% 7.6% In certain instances, repurchase agreement lenders on mortgage-backed securities have withheld principal and/or interest payments on such assets in order to reduce outstanding, unpaid margin calls. At December 31, 1999, there were no outstanding unpaid collateral calls. At December 31, 1998, there were approximately $4.0 million of outstanding collateral calls, based on the dealer's market valuation of the underlying collateral, net of withheld principal and interest payments. NOTE 9 - OTHER BORROWINGS At December 31, 1999, the Company had $64.4 million of other borrowings with a weighted average interest rate of 8.04%. Investments in real estate with a carrying amount of $59.6 million and a loan with an unpaid principal balance of $25 million were pledged as collateral against these loans. Included in other borrowings is $2.6 million of mortgage borrowings payable to WFMC 1997-1, a wholly-owned subsidiary of WFSG. Maturities of these borrowings range from 2000 to 2008. At December 31, 1998, the Company had $60.6 million of other borrowings with a weighted average interest rate of 8.52%. At December 31, 1998, investments in real estate with a carrying amount of $81.0 million were pledged as collateral against these loans. Included in other borrowings is $13.1 million of mortgage borrowings payable to WFMC 1997-1, a wholly-owned subsidiary of WFSG. F-16 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except share data) At December 31, 1999, the contractual repayment terms of other borrowings for each of next five years and the total thereafter is as follows: Other Year Borrowings ---- ---------- 2000 $ 2,101 2001 2,152 2002 2,195 2003 2,237 2004 2,286 Thereafter 53,441 $ 64,412 The Company is subject to various covenants in the agreements evidencing its indebtedness, including the maintenance of specified amounts of capital. At December 31, 1999, management believes the Company was in compliance with all obligations under the agreements evidencing its indebtedness, as defined in the applicable agreements. NOTE 10 - DIVIDENDS PAYABLE On October 26, 1998, the Company revised the expected payment date of a $0.40 per share cash dividend payable on October 27, 1998 to shareholders of record on September 30, 1998 to January 27, 1999. On December 30, 1998, the Company announced that the status of the dividend payment would be reviewed in approximately three months from that date. At present, the Company has not made the dividend payment. The Company will pay interest, at the rate of 4% per annum, on the amount due calculated from the previously announced payment date through the date of the actual payment. In December 1999, the Company purchased the dividend rights to approximately $0.1 million at a 20% discount from a shareholder and $0.4 million from WFSG (see Note 2). NOTE 11 - INCOME TAXES The Company originally was formed with a view of qualifying as a REIT under Sections 856 through 860 of the Internal Revenue Code of 1986, as amended. However, to qualify as a REIT, the Company must first make an affirmative election to be taxed as a REIT when the Company files its federal income tax return. Due to the significant potential tax benefits from net operating loss carryforwards of the Company and risks of not qualifying as a REIT, the Company reevaluated its original plan to elect to be taxed as a REIT. On September 10, 1999, the Company's shareholders voted not to elect REIT status and, as a result, the Company will be subject to corporate taxation. As of December 31, 1999, the Company had, for U.S. Federal tax purposes, a net operating loss carryforward of approximately $95 million, which begins to expire in 2018. U.S. tax regulations impose limitations on the use of loss carryforwards following certain changes in ownership. If such a change were to occur with respect to the Company, the limitation could significantly reduce the amount of benefits that would be available to offset future taxable income each year, starting with the year of ownership change. To reduce the potential impact of such ownership changes, the Company established a Shareholder Rights Plan dated as of December 23, 1999 and effective January 3, 2000. The Company has not recorded any tax assets for the future benefits of the net operating loss carryforwards. F-17 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except share data) A reconciliation, stated as a percentage of pretax loss, of the U.S. federal statutory rate to the effective tax rate on the loss from continuing operations is as follows: Year Ended December 31, ----------------------- 1999 1998 ------ ------ U.S. federal statutory rate ...................... (35.0)% (34.0)% State taxes, net of federal benefit .............. (6.9) (6.9) Valuation allowance .............................. 41.9 40.6 Other ............................................ -- 0.3 ------ ------ Effective tax rate ............................... - % - % ====== ====== The tax effects of temporary differences and carryforwards resulting in deferred income taxes are as follows: December 31, ------------------------ 1999 1998 -------- -------- Loss carryforwards ....................... $ 44,675 $ 21,773 Unrealized holding losses on available for sale securities .......... 8,774 12,205 Other .................................... 3,842 1,754 -------- -------- Subtotal .......................... 57,291 $ 35,732 -------- -------- Deferred Tax Liabilities: Tax mark to market adjustment ............ (8,774) (12,205) Other .................................... -- (412) -------- -------- Subtotal .......................... (8,774) (12,617) -------- -------- Valuation allowance ............................ (48,517) (23,115) -------- -------- Net deferred tax asset ......................... $ -- $ -- ======== ======== Given the lack of sufficient earnings history, the Company does not believe the recognition of a deferred tax asset is appropriate at this time. NOTE 12 - COMMITMENTS, CONTINGENCIES & OFF-BALANCE SHEET RISK The Company may utilize a wide variety of off-balance sheet financial techniques to assist them in the management of interest rate risk. In hedging the interest rate and/or exchange rate exposure of a foreign currency denominated asset or liability, the Company may enter into hedge transactions to counter movements in the different currencies, as well as interest rates in those currencies. These hedges may be in the form of currency and interest rate swaps, options, and forwards, or combinations thereof. At December 31, 1998, the Company was a party to a swap contract in connection with its investment in a commercial mortgage loan secured by real property in the United Kingdom ("UK"). The swap contract, which covered the approximate five year term of the asset and related financing, was intended to hedge the interest rate basis and currency exposure between UK LIBOR (the lending rate) and US LIBOR (the borrowing rate) payments, as well as the principal (notional) amount of the loan which, as of December 31, 1998, was $49.7 million. Under the terms of the agreement, the settlement was in U.S. dollars. During the year ended December 31, 1998, the Company received $937,651 and paid GBP789,082 under the terms of the swap. The loan and the related swap were disposed of subsequent to December 31, 1998. The Company was also party to a five-year swap with a notional amount of GBP11,224,000 in connection with its investment in real estate in the UK. Subsequent to December 31, 1998, the terms of the swap were incorporated into the refinancing of the related asset, and the Company was released as a party to the swap. F-18 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except share data) At December 31, 1999, the Company had no outstanding off-balance-sheet positions. During 1999, the Company engaged a financial advisor to evaluate whether to retain, enhance or dispose of the Company's ownership interest in WFSG. A $1.3 million retainer fee was paid during 1999 and is included in the Company's 1999 consolidated statement of operations. Additionally, if certain conditions are met prior to the expiration date of the arrangement in June 2000, an additional fee of $1.2 million will be due. With the exception of disputes with WFSG and its affiliates discussed in Note 2, the Company is involved in various legal proceedings occurring in the ordinary course of business which the Company believes will not have a material adverse effect on the consolidated financial condition or operations of the Company. NOTE 13 - STOCK OPTIONS AND RIGHTS The Company adopted a non-qualified stock option plan ("the Option Plan") which provides for options to purchase shares of the Company's common stock. The maximum number of shares of common stock that may be issued pursuant to options granted under the Option Plan is 3,500,000 shares. In 1998, the Company granted options to WRSC and its independent directors under the Option Plan, representing the right to acquire 1,150,000 shares of common stock. Of these initial grants, 1,135,000 were granted to WRSC and 5,000 were granted to each of the Company's three independent directors. The initial grants of options under the Option Plan to WRSC vest at a rate of 25% per year for each of the first four anniversaries following the closing of the Initial Public Offering ("Offering"), and expire on the tenth anniversary of the Offering. The initial grants to the Independent Directors vest immediately and expire ten years from the date of grant. In the future, newly elected directors will receive 5,000 options on the day they join the Board at an exercise price equivalent to the closing price on that day. In addition, on the last day of each calendar quarter, each Independent Director will receive, on the last day of each quarter, an automatic non-statutory option grant to purchase 1,500 shares of common stock at 110% of the fair market value on that day. Automatic grants will vest one third on each of the first three anniversaries of the grant date and expire on the tenth anniversary of the grant date. In conjunction with the partial settlement agreement with WFSG and certain of its affiliates on December 10, 1999 (see Note 2), the Company received 1,112,500 of the options issued to WRSC at the initial public offering, which were subsequently cancelled. A summary of the Company's stock options as of and for the year ended December 31, 1999 is presented below:
Weighted Average Exercise Shares Price ---------- ------ Outstanding at beginning of period .............. -- $ -- Granted ......................................... 1,165,500 $15.89 Forfeited ....................................... 2,048,000 $ 4.52 Cancelled/Forfeited ............................. (1,117,500) $16.00 ---------- Outstanding at end of period .................... 2,096,000 $ 4.75 ==========
Weighted Average Weighted Average Range of Remaining Exercise Exercise Prices Shares Life Price - ------------------------------------ ----------- ----------------- ----------------- $2.34............................... 4,500 10.00 $ 2.48 $2.81-4.26.......................... 18,500 9.00-9.50 $ 3.57 $3.30-4.53.......................... 2,034,500 9.75 $ 4.53 $11.28-18.63........................ 38,500 8.25-8.75 $ 17.37
F-19 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except share data) A summary of the Company's stock options as of and for the period ended December 31, 1998 is presented below:
Weighted Average Exercise Shares Price ---------- ------ Outstanding at beginning of period .............. -- $ -- Granted ......................................... 1,168,500 $15.89 Forfeited ....................................... (3,000) $14.96 ---------- Outstanding at end of period .................... 1,165,500 $15.89 ==========
Weighted Weighted Average Average Range of Remaining Exercise Exercise Prices Shares Life Price - ------------------------------------------ ---------- ----------- --------- $2.81 - 3.37.............................. 9,500 10.00 $ 3.08 $11.28.................................... 3,000 9.75 $ 11.28 $16.00.................................... 1,150,000 9.25 $ 16.00 $18.63.................................... 3,000 9.50 $ 18.63
The Company applies Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," and related Interpretations in accounting for the Option Plan. Accordingly, no compensation expense has been recognized in the Consolidated Statements of Operations for grants under the Option Plan. Had compensation expense for the Company's Option Plan been determined based on the fair value at the grant date consistent with the methods of SFAS No. 123 "Accounting for Stock Based Compensation", the Company's net loss and loss per share for the year ended December 31, 1999 and 1998 would have been increased to the pro forma amounts indicated below: Year ended December 31, ------------------------- 1999 1998 --------- --------- Net loss: As reported................................... $ (26,647) $ (56,388) Pro forma..................................... $ (27,083) $ (58,265) Net loss per common and common share equivalent: Basic loss per share: As reported.............................. $ (2.33) $ (4.94) Pro forma................................ $ (2.37) $ (5.10) Diluted loss per share: As reported.............................. $ (2.33) $ (4.94) Pro forma................................ $ (2.37) $ (5.10) There were no options granted in 1999 or 1998 with exercise prices below the market value of the stock at the grant date. The weighted average fair value of options granted during 1999 and 1998 was $0.45 and $3.80, respectively, for options with exercise prices exceeding the market price of the stock at the grant date. Fair values were estimated using the Black-Scholes option-pricing model with the following weighted average assumptions used: 1% dividend yield, expected volatility of 25%, risk-free interest rate of 5.0% and expected lives of three to five years. On December 15, 1999, the Company declared a distribution of one right (a "Right") to purchase one one-tenth of a share of the Company's Common Stock for each outstanding share of Common Stock, payable to the stockholders of record on January 3, 2000. The Board of Directors authorized and directed the issuance of one Right with respect to each Common Share issued thereafter until the Distribution Date (as defined in the Rights Agreement) and, in certain circumstances, with respect to Common Shares issued after the Distribution Date. The description and terms of the Rights are set forth in a Rights Agreement between the Corporation and The Bank F-20 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except share data) of New York, as Rights Agent, dated as of December 23, 1999. The Rights are not exercisable until the Distribution Date and will expire at the close of business on December 23, 2009, unless earlier redeemed by the Corporation. NOTE 14 - ESTIMATED FAIR VALUE OF FINANCIAL INSTRUMENTS The following disclosure of the estimated fair value of financial instruments is made in accordance with the requirements of SFAS No. 107, "Disclosures about Fair Value of Financial Instruments." The estimated fair value amounts have been determined by the Company using available market information and appropriate valuation methodologies. However, considerable judgment is required to interpret market data to develop estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amounts the Company could realize in a current market exchange. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts.
December 31, 1999 December 31, 1998 -------------------------- ------------------------ Carrying Estimated Carrying Estimated Amount Fair Value Amount Fair Value ----------- ----------- ---------- ----------- Assets: Cash and cash equivalents..................... $ 5,862 $ 5,862 $ 4,782 $ 4,782 Mortgage-backed securities available for sale. 104,572 104,572 148,805 148,805 Other securities available for sale........... - - 9,933 9,933 Loans, loans held for sale, and discounted loans, net................................. 31,634 31,727 115,628 117,921 Liabilities: Short-term borrowings......................... 96,815 96,815 225,566 225,566 Other borrowings.............................. 64,412 64,412 60,577 60,577
The methods and assumptions used to estimate the fair value of each class of financial instrument for which it is practicable to estimate that value are explained below: Cash and cash equivalents-The carrying amounts approximate fair values due to the short-term nature of these instruments. Mortgage-backed securities-The fair values of securities are based upon broker dealer quotes, subject to the Company's internal review process. Loans, loans held for sale and discounted loans, net-The fair value of discounted loans, which are predominately non-performing loans, is more difficult to estimate due to uncertainties as to the nature, timing and extent to which the loans will be either collected according to original terms, restructured, or foreclosed upon. Discounted loans fair values were estimated using the Company's best judgment for these factors in determining the estimated present value of future net cash flows discounted at a risk-adjusted market rate of return. For other loans, fair values are estimated for portfolios of loans with similar financial characteristics. Loans are segregated by type, such as fixed- and adjustable-rate interest terms. The fair values of fixed-rate mortgage loans are based on discounted cash flows utilizing applicable risk-adjusted spreads relative to the current pricing of similar fixed-rate loans as well as anticipated prepayment schedules. The fair values of adjustable-rate mortgage loans are based on discounted cash flows utilizing discount rates that approximate the pricing of available mortgage-backed securities having similar rate and repricing characteristics, as well as anticipated prepayment schedules. No value adjustments have been made for changes in credit within the loan portfolio. It is management's opinion that the allowance for estimated loan losses pertaining to loans results in a fair value adjustment of the credit risk of such loans. Short-term borrowings-The carrying amounts of short-term borrowings approximate fair value due to the short-term nature of these instruments. Other borrowings-The fair value of other borrowings is estimated based on current market rates for similar borrowings with similar characteristics. F-21 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except share data) The fair value estimates presented herein are based on pertinent information available to management as of December 31, 1999 and 1998, respectively. Although management is not aware of any factors that would significantly affect the estimated fair value amounts, such amounts have not been comprehensively revalued for purposes of these financial statements since that date, and therefore, current estimates of fair value may differ significantly from the amounts presented herein. NOTE 15 - QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
Quarter Ended ---------------------------------------------------------------- December 31, September 30, June 30, March 31, 1999 1999 1999 1999 ----------------- --------------------------------- ------------ Interest income................................ $ 4,517 $ 4,805 $ 6,280 $ 7,084 Interest expense............................... (3,056) (2,803) (3,345) (3,693) (Recapture) provision for loan losses.......... -- -- -- (1,150) ---------- ---------- ---------- ---------- Net interest income after provision for loan losses................................ 1,461 2,002 2,935 4,541 Real estate operations, net.................... 1,000 597 (91) (61) Other operating income (loss).................. 490 (10,096) (21,761) (1,233) Other operating expenses....................... (2,017) (1,675) (1,259) (1,480) ---------- ---------- ---------- ---------- Income (loss) before income taxes.............. 934 (9,172) (20,176) 1,767 Income tax (benefit) provision................. (200) 200 -- -- ---------- ---------- ---------- ---------- Net income (loss).............................. $ 1,134 $ (9,372) $ (20,176) $ 1,767 ========== ========== ========== ========== Earnings (loss) per share: Basic..................................... $ 0.10 $ (0.82) $ (1.75) $ 0.15 Diluted................................... $ 0.10 $ (0.82) $ (1.75) $ 0.15
Quarter Ended ------------------------------------------------- December 31, September 30, June 30, 1998 1998 1998 ------------------------------------------------- Interest income................................ $ 10,957 $ 11,645 $ 5,090 Interest expense............................... (6,095) (6,012) (1,501) Provision for loan losses...................... (8,842) (3,000) - ------------ ------------ ------------ Net interest (loss) income after provision for loan losses............................... (3,980) 2,633 3,589 Real estate operations, net.................... (13) 428 363 Other operating loss........................... (3,950) (48,586) - Other operating expenses....................... (2,607) (3,355) (910) ------------ ------------ ------------ (Loss) income before income taxes.............. (10,550) (48,880) 3,042 Income tax provision........................... -- -- -- ------------ ------------ ------------ Net (loss) income.............................. $ (10,550) $ (48,880) $ 3,042 ============ ============ ============ (Loss) earnings per share: Basic.................................... $ (0.92) $ (4.25) $ 0.27 Diluted............................... $ (0.92) $ (4.25) $ 0.27
F-22 WILSHIRE REAL ESTATE INVESTMENT INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands, except share data) NOTE 16 - PARENT COMPANY INFORMATION Condensed Statements of Financial Condition December 31, --------------------- 1999 1998 ------- ------- ASSETS Cash ............................................... $ 4 $ 3 Investments in subsidiaries ........................ 78,205 97,185 ------- ------- Total assets .................................... $78,209 $97,188 ======= ======= LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable and other liabilities ............. $ 235 $ 506 Intercompany payable, net .......................... 23,012 19,639 Dividend payable ................................... 4,090 4,600 ------- ------- Total liabilities ............................... 27,337 24,745 Contributed and retained equity .................... 50,872 72,443 ------- ------- Total liabilities and equity .................... $78,209 $97,188 ======= ======= Condensed Statements of Operations Year Ended December 31, ----------------------- 1999 1998 --------- --------- Total revenues ..................................... $ -- $ -- Total expenses ..................................... 412 48 -------- -------- Loss before equity in losses of subsidiaries and income tax provision ......................... (412) (48) Equity in losses of subsidiaries ................... (26,235) (56,340) Income tax provision ............................... -- -- -------- -------- Net loss ........................................... $(26,647) $(56,388) ======== ======== F-23 Condensed Statements of Cash Flows
Year Ended December 31, ----------------------- 1999 1998 --------- ---------- CASH FLOWS FROM OPERATING ACTIVITIES: Net Loss ....................................................... $ (26,647) $ (56,388) Adjustments to reconcile net loss to net cash provided by operating activities: Equity in loss of subsidiaries .............................. 26,235 56,340 Change in: Accounts payable and other liabilities .................. (271) 506 Intercompany payable .................................... 1,170 19,639 --------- --------- Net cash provided by operating activities .......... 487 20,097 --------- --------- CASH FLOWS FROM INVESTING ACTIVITIES: Net investment in subsidiaries ............................ -- (183,970) --------- --------- Net cash used in investing activities ............. -- (183,970) --------- --------- CASH FLOWS FROM FINANCING ACTIVITIES: Dividend payments on common stock ........................ (486) (3,105) Issuance of capital stock ................................ -- 166,981 --------- --------- Net cash (used in) provided by financing activities (486) 163,876 --------- --------- NET INCREASE IN CASH ........................................... 1 3 CASH: Beginning of year ........................................ 3 -- --------- --------- End of year .............................................. $ 4 $ 3 ========= ========= NONCASH FINANCING ACTIVITIES: Common stock dividend declared but not paid .............. $ -- $ 4,600 Purchase of treasury stock ............................... $ (2,171) $ --
SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf on March 17, 2000 by the undersigned, thereunto duly authorized. Wilshire Real Estate Investment Inc. By: /s/ Lawrence A. Mendelsohn ---------------------------------- Lawrence A. Mendelsohn President Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below on March 17, 2000 by the following persons on behalf of the Registrant and in the capacities indicated. /s/ Andrew A. Wiederhorn -------------------------------------- Andrew A. Wiederhorn Chairman of the Board, Chief Executive Officer, Secretary and Treasurer /s/ Lawrence A. Mendelsohn -------------------------------------- Lawrence A. Mendelsohn President /s/ Chris Tassos -------------------------------------- Chris Tassos Executive Vice President and Chief Financial Officer /s/ David C. Egelhoff -------------------------------------- David C. Egelhoff Director /s/ Jordan D. Schnitzer -------------------------------------- Jordan D. Schnitzer Director /s/ Patrick Terrell -------------------------------------- Patrick Terrell Director Exhibit Index Exhibit Number Description - ------ ----------- 3.1 Amended and Restated Articles of Incorporation (Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 1999) 3.2 By-laws (Incorporated by reference to the Company's Registration Statement on Form S-11 (Registration No. 333-39035)) 10.1 Form of Management Agreement (Incorporated by reference to the Company's Registration Statement on Form S-11 (Registration No. 333-39035)) 10.2 Form of Partnership Agreement of Wilshire Real Estate Partnership L.P. (Incorporated by reference to the Company's Registration Statement on Form S-11 (Registration No. 333-39035)) 10.3 Form of Stock Option Plan (Incorporated by reference to the Company's Registration Statement on Form S-11 (Registration No. 333-39035)) 10.4 Form of Real Estate Asset Servicing Agreement (Incorporated by reference to the Company's Registration Statement on Form S-11 (Registration No. 333-39035)) 10.5 Form of services Agreement (Incorporated by reference to the Company's Registration Statement on Form S-11 (Registration No. 333-39035)) 10.6 Purchase and Sale Agreement, dated April 7, 1998 among WREP 1998-1 LLC, G.I. Joe's Inc. and PD Properties, L.L.C. (Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1998) 10.7 Amendment No. 1 to Management Agreement dated as of April 6, 1998 between the Company and Wilshire Realty Services Corporation (Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1999) 10.8 Loan Servicing Agreement dated as of April 6, 1998 between the Company and Wilshire Credit Corporation (Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1999) 10.9 Amended and Restated Loan Servicing Agreement dated as of December 23, 1998 between the Company and Wilshire Servicing Company UK Limited (Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1998) *10.10 Employment Agreement dated September 4, 1999 between the Company and Wilshire Real Estate Partnership L.P. and Andrew A. Wiederhorn *10.11 Employment Agreement dated September 4, 1999 between the Company and Wilshire Real Estate Partnership L.P. and Lawrence A. Mendelsohn *10.12 Employment Agreement dated October 9, 1999 between the Company and Wilshire Real Estate Partnership L.P. and Chris Tassos *10.13 Employment Agreement dated October 9, 1999 between the Company and Wilshire Real Estate Partnership L.P. and Robert G. Rosen *10.14 Employment Agreement dated October 9, 1999 between the Company and Wilshire Real Estate Partnership L.P. and Richard Brennan *11 Computation of Loss Per Common Share 16.1 Letter dated November 12, 1999 from Arthur Andersen (Incorporated by reference to the Company's Current Report on Form 8-K filed November 15, 1999) *21.1 Subsidiaries 99.1 Settlement Agreement, dated as of December 10, 1999, among the Company, on behalf of itself and all of its subsidiaries and affiliates, Andrew A. Wiederhorn, Lawrence A. Mendelsohn, Wilshire Financial Services Group Inc., on behalf of itself and all of its subsidiaries and affiliates other than First Bank of Beverly Hills, F.S.B. (Incorporated by reference to the Company's Current Report on Form 8-K filed December 17, 1999.) - ---------- *Filed herewith. EX-10.10 2 EMPLOYMENT AGREEMENT Exhibit 10.10 EMPLOYMENT AGREEMENT EMPLOYMENT AGREEMENT, dated as of September 4, 1999, by and between Wilshire Real Estate Investment Inc. and Wilshire Real Estate Partnership L.P. (collectively and individually, the "Company"), with its principal office at 1310 SW 17th Street, Portland, Oregon 97201 and Andrew A. Wiederhorn, residing at 4311 SW Greenleaf Drive, Portland, Oregon 97221 (the "Executive"). W I T N E S S E T H: WHEREAS, Executive is currently employed as the Chief Executive Officer of the Company and is also the Chairman of the Board and a director of the Company; and WHEREAS, the Company and Executive desire to enter into this agreement (the "Agreement") to set forth terms of Executive's employment by the Company. NOW, THEREFORE, in consideration of the premises and mutual covenants contained herein and for other good and valuable consideration, the parties agree as follows: 1. TERM OF EMPLOYMENT. Except for earlier termination as provided in Section 7 hereof, Executive's employment under this Agreement shall be for a three (3) year and 26 days term (the "Employment Term") commencing on September 4, 1999 (the "Commencement Date"). Subject to Section 7 hereof, the Employment Term shall be automatically extended for additional terms of successive two (2) year periods unless the Company or Executive gives written notice of the termination of Executive's employment hereunder at least ninety (90) days prior to the expiration of the then current Employment Term. 2. POSITIONS. (a) Executive shall serve as Chief Executive Officer of the Company. It is the intention of the parties that during the Employment Term, Executive shall also serve on the Board of Directors of the Company (the "Board") as Chairman without additional compensation. During the term of this Agreement, the Company shall recommend the Executive for election as a director. (b) Executive shall report directly to the Board or other managing body of the Company and shall have such duties and authority, consistent with his position as Chief Executive Officer of the Company, as shall be determined from time to time by the Board, provided that Executive shall have authority comparable to that of chief executive officers of United States public companies that are similar in size and business to the Company. (c) During the Employment Term, Executive shall devote substantially all of his business time, energy, skill and efforts to the performance of his duties and responsibilities hereunder; provided, however, that Executive shall be allowed to (i) serve as a director, employee or consultant of companies solely owned by the Executive or by Executive's family; (ii) serve as a director of other companies; (iii) engage in charitable activities; and (iv) manage his personal financial and legal affairs. 3. BASE SALARY. During the Employment Term, the Company shall pay Executive a base salary at the annual rate of not less than $300,000.00. Base salary shall be payable in accordance with the usual payroll practices of the Company (including withholding). Executive's Base Salary shall be subject to annual review by the Board in October of each year and may be increased, but not decreased, from time to time upon recommendation of the Compensation Committee of the Board (the "Committee"). The base salary determined as aforesaid from time to time shall constitute "Base Salary" for purposes of this Agreement. 4. INCENTIVE COMPENSATION. (a) BONUS. For each 12 month period during the Employment Term commencing on September 30, 1999 (each, an "Annual Period"), Executive shall be entitled to receive an annual bonus (the "Bonus") equal to 45% of the Bonus Pool for such Annual Period. For each Annual Period, the Bonus Pool shall be (i) if Post-Bonus ROE is 15% or greater, 20% of Pre-Bonus Earnings, (ii) if Post-Bonus ROE is 5% or greater but less than 15%, 10% of PreBonus Earnings, or (iii) if Post-Bonus ROE is less than 5%, zero. For purposes of this agreement, the following terms shall have the following meanings: "PRE-BONUS EARNINGS" means the Company's after-tax income (as determined in accordance with generally accepted accounting principles and reflected on the Company's financial statements) for the relevant Annual Period or portion thereof determined prior to subtracting the amount of the Bonus Pool payable for that Annual Period; provided, however, that in determining Pre-Bonus Earnings for purposes of this Section 4, Pre-Bonus Earnings shall be increased or decreased for the relevant Annual Period by the amount of unrealized gains or unrealized losses, as the case may be, which are incurred after the commencement of the relevant Annual Period and which are reflected directly in equity as "other comprehensive income or loss" during such Annual Period. "POST-BONUS EARNINGS" means the Company's Pre-Bonus Earnings after subtracting the after-tax amount of the Bonus Pool payable for that Annual Period. "EQUITY" means the Company's total shareholders' equity (as determined in accordance with generally accepted accounting principles and reflected on the Company's financial statements) at the beginning of the relevant Annual Period; provided, however, that in determining Equity for purposes of this Section 4, Equity shall be increased by the amount of unrealized losses which are shown on the Company's balance sheet as of the beginning of the relevant Annual Period under the heading "other comprehensive income or loss". For example, if the Company's shareholders' equity as of September 30, 1999 was $63.831 million and there was $20.658 million of accumulated other comprehensive loss, then Equity would be $84.489 million. "POST-BONUS ROE" means the Company's Post-Bonus Earnings for the relevant Annual Period divided by its Equity at the beginning of the relevant Annual Period (expressed in percentage terms). To assist the reader in understanding the foregoing provisions, examples of such Bonus determinations are set forth on Schedule I hereto. Such annual Bonus shall be payable by November 15th of each year following the Annual Period for which the Bonus is payable and, if necessary, shall be adjusted for any subsequent amendments to the Company's financial statements. The Company will apply the annual Bonus to repay any outstanding Excess Advance (as defined below) prior to making any payment to Executive. To the extent that the Company repurchases any of its outstanding common stock or the Company's net operating losses under Section 382 of the Code (as defined below) are disallowed, the parties agree to negotiate in good faith to amend the incentive compensation provisions of this Section 4 to provide Executive with comparable goals and returns to those that existed prior to the occurrence of such events. Following the initial Employment Term, such Bonus shall be subject to shareholder approval as and to the extent required by Section 162(m) of the Internal Revenue Code of 1986, as amended (the "Code"). (b) ADVANCES. Following any quarterly period during an Annual Period, the Company shall, at the request of the Executive, pay an advance on any such Bonus; provided, however, that (i) any such advance (together with any prior advances made during the relevant Annual Period) shall not exceed 80% of the pro rata portion of the Estimated Annual Bonus (as defined below) attributable to such quarterly period and to any prior quarterly periods during such Annual Period and (ii) any such advance shall not exceed $300,000 per quarter. Any such advances shall be treated as advances of Executive's Bonus and shall not bear interest. The Estimated Annual Bonus is determined by annualizing the Company's Pre-Bonus Earnings and Post-Bonus Earnings (based on the Company's financial statements) for the quarterly period or periods during such Annual Period (or for purposes of Section 8, monthly periods) and determining the annual Bonus payable to Executive as described in Section 4(a). In the event that the aggregate amount of advances outstanding immediately following the end of any quarterly period during the relevant Annual Period exceeds 80% of the pro rata portion of the Estimated Annual Bonus ("Permitted Advances") determined immediately following such quarterly period, the amount in excess of the Permitted Advances shall be treated as an interest free loan from the Company ("Advance Reimbursement Loan") for the next succeeding quarterly period (the "Following Quarter") and if at the end of the Following Quarter the aggregate amount of outstanding advances continues to exceed the Permitted Advances (the "Excess Advance"), Executive shall repay the Excess Advance to the Company within 30 days of the end of such Following Quarter. (c) OPTIONS. The Company shall grant to Executive stock options (the "Initial Options") on 630,000 shares of the Company's common stock (the "Common Stock") under the Company's Incentive Stock Plan (the "Incentive Stock Plan"). The Initial Options shall have an exercise price equal to the Company's book value per outstanding share as of September 30, 1999, which exercise price is in excess of the market value per share based on the share price of the Common Stock as of such date. The Initial Options will be fully exercisable at the time of vesting and 25% of the Initial Options shall vest on each anniversary of this Agreement (which will result in the Initial Options being fully vested on the fourth anniversary of this Agreement). In addition, the Executive shall be entitled to participate in the Company's Incentive Stock Plan and receive nonqualified, incentive or other options ("Options") to purchase shares of the Company's Common Stock under the Incentive Stock Plan as determined by the Committee from time to time provided that the Incentive Stock Plan is approved by the shareholders of the Company to the extent required by Section 162(m) of the Code. Notwithstanding the foregoing, the Company may recommend to the Committee that Executive be granted Options under a plan other than the Incentive Stock Plan provided that such other plan contains terms and conditions which are substantially similar to the terms and conditions of the Incentive Stock Plan, and further provided, that such other plan is approved by the shareholders of the Company to the extent required by Section 162(m) of the Code. To the extent permitted under applicable law, any Options granted to Executive hereunder (including the Initial Options) may be assigned and transferred by Executive to entities created for or on behalf of Executive's immediate family for tax planning or other purposes. (d) OTHER COMPENSATION. The Company may, upon recommendation of the Committee, award to Executive such other bonuses and compensation as it deems appropriate and reasonable. 5. EMPLOYEE BENEFITS AND VACATION. (a) During the Employment Term, Executive shall be entitled to participate in all pension, retirement, savings, welfare and other employee benefit plans and arrangements, including, without limitation, any nonqualified deferred compensation plans, maintained by the Company from time to time for the benefit of the senior executives of the Company in accordance with their respective terms as in effect from time to time. To the extent permitted under applicable law, the Company shall not treat as compensation to Executive fringes and perquisites provided to Executive or the items under Section 6 below. (b) During the Employment Term, the Company agrees to loan to Executive $50,000 during each year of the Employment Term to purchase shares of Common Stock of the Company up to a maximum of $250,000. Each annual loan made pursuant to this Section 5(b) (the "Stock Purchase Loans") shall mature on the earlier of (i) its fifth anniversary and (ii) six months after Executive is no longer employed by the Company. The Stock Purchase Loans shall accrue interest on the then-outstanding principal amount of the Stock Purchase Loans from the date of any Loan is made until maturity at a rate equal to the prime rate as published in the Wall Street Journal on the date any Stock Purchase Loan is made pursuant hereto and shall be payable annually in arrears. Interest on the Stock Purchase Loan will not be paid in cash but shall be payable in kind (i.e. the amount of interest accrued on the Stock Purchase Loan during each annual period will be added to the principal amount of the Loan at the end of such annual period). The Stock Purchase Loans will be full recourse loans against Executive, and each loan will be secured by the shares of Common Stock purchased with each such Stock Purchase Loan together with other shares of Common Stock pledged by Executive so that the aggregate value (based on the closing price on the acquisition date of such shares on the Nasdaq stock market) of all such shares securing each new Stock Purchase Loan shall be at least equal to 110% of the principal amount of the Stock Purchase Loans. (c) During the Employment Term, Executive shall be entitled to vacation each year in accordance with the Company's policies in effect from time to time, but in no event less than five (5) weeks paid vacation per calendar year. Executive shall also be entitled to such periods of sick leave as is customarily provided by the Company for its senior executive employees. 6. BUSINESS EXPENSES. The Company shall also reimburse Executive for the travel, entertainment and other business expenses incurred by Executive in the performance of his duties hereunder, in accordance with the Company's policies as in effect from time to time. 7. TERMINATION. (a) The employment of Executive under this Agreement shall terminate upon the occurrence of any of the following events: (i) the death of Executive; (ii) the termination of Executive's employment by the Company due to Executive's Disability pursuant to Section 7(b) hereof; (iii) the termination of Executive's employment by Executive for Good Reason pursuant to Section 7(c) hereof; (iv) the termination of Executive's employment by the Company without Cause; (v) the termination of employment by Executive without Good Reason upon sixty (60) days prior written notice; (vi) the termination of employment by Executive for any reason during the period commencing on the date of a Change in Control and ending on the day immediately prior to the second anniversary of the Change in Control (the "Change in Control Protection Period"); (vii) the termination of Executive's employment by the Company for Cause pursuant to Section 7(e); or (viii) the retirement of Executive by the Company at or after his sixty-fifth birthday to the extent such termination is specifically permitted as a stated exception from applicable federal and state age discrimination laws based on position and retirement benefits. (b) DISABILITY. If, by reason of the same or related physical or mental reasons, Executive is unable to carry out Executive's material duties pursuant to this Agreement for more than six (6) months in any twelve (12) consecutive month period (a "Disability") as determined and certified in writing by two (2) licensed physicians, one of which is Executive's regular attending physicians, the Company may terminate Executive's employment for Disability upon thirty (30) days prior written notice, by a notice of Disability termination, at any time thereafter during such twelve (12) month period in which Executive is unable to carry out his duties as a result of the same or related physical or mental illness. Such termination shall not be effective if Executive returns to the full time performance of his material duties within such thirty (30) day notice period. (c) TERMINATION FOR GOOD REASON. A Termination for Good Reason means a termination by Executive by written notice given within sixty (60) days after the occurrence of the Good Reason event. For purposes of this Agreement, "Good Reason" shall mean the occurrence or failure to cause the occurrence, as the case may be, without Executive's express written consent, of any of the following circumstances, unless such circumstances are fully corrected prior to the date of termination specified in the Notice of Termination for Good Reason (as defined in Section 7(d) hereof): (i) any material diminution of Executive's positions, duties or responsibilities hereunder (except in each case in connection with the termination of Executive's employment for Cause or Disability or as a result of Executive's death, or temporarily as a result of Executive's illness or other absence), or the assignment to Executive of duties or responsibilities that are inconsistent with Executive's position as Chief Executive Officer; (ii) removal of Executive from, or the non reelection of Executive to, the positions with the Company specified herein; (iii) a relocation of the Company's principal United States executive offices to a location more than fifty (50) miles from Portland, Oregon, or a relocation of Executive away from such principal United States executive office; (iv) a failure by the Company (A) to continue any bonus plan, program or arrangement in which Executive is entitled to participate (the "Bonus Plans"), provided that any such Bonus Plans may be modified at the Company's discretion from time to time but shall be deemed terminated if (x) any such plan does not remain substantially in the form in effect prior to such modification and (y) if plans providing Executive with substantially similar benefits are not substituted therefor ("Substitute Plans"), or (B) to continue Executive as a participant in the Bonus Plans and Substitute Plans on at least the same basis as to potential amount of the bonus and substantially the same level of criteria for achievability thereof as Executive participated in immediately prior to any change in such plans or awards, in accordance with the Bonus Plans and the Substitute Plans; (v) any material breach by the Company of any material provision of this Agreement; (vi) executive's removal from or failure to be reelected to the Board; (vii) a failure of any successor to the Company to assume in a writing delivered to Executive upon the assignee becoming such the obligations of the Company hereunder; or (viii) a failure of the Committee to grant Executive an award of Options in accordance with Section 4 hereof, unless the applicable circumstances under (i) through (viii) are fully corrected prior to the date of termination specified in the notice of termination for Good Reason. (d) NOTICE OF TERMINATION FOR GOOD REASON. A notice of termination for Good Reason shall mean a notice that shall indicate the specific termination provision in Section 7(c) relied upon and shall set forth in reasonable detail the facts and circumstances claimed to provide a basis for termination for Good Reason. The failure by Executive to set forth in the notice of termination for Good Reason any facts or circumstances which contribute to the showing of Good Reason shall not waive any right of Executive hereunder or preclude Executive from asserting such fact or circumstance in enforcing his rights hereunder. The notice of termination for Good Reason shall provide for a date of termination not less than fifteen (15) nor more than sixty (60) days after the date such notice of termination for Good Reason is given. (e) CAUSE. Subject to the notification provisions of Section 7(f) below, Executive's employment hereunder may be terminated by the Company for Cause. For purposes of this Agreement, the term "Cause" shall be limited to (i) willful misconduct by Executive with regard to the Company or its business which has a material adverse effect on the Company; (ii) the refusal of Executive to follow the proper written direction of the Board, provided that the foregoing refusal shall not be "Cause" if Executive in good faith believes that such direction is illegal, unethical or immoral and promptly so notifies the Board; (iii) Executive being convicted of a felony (other than a felony involving a traffic offense); (iv) the breach by Executive of any fiduciary duty owed by Executive to the Company which has a material adverse effect on the Company; or (v) Executive's material fraud with regard to the Company. (f) NOTICE OF TERMINATION FOR CAUSE. A notice of termination for Cause shall mean a notice that shall indicate the specific termination provision in Section 7(e) relied upon and shall set forth in reasonable detail the facts and circumstances which provide a basis for termination for Cause. Further, a notice of termination for Cause shall be required to include a copy of a resolution duly adopted by at least two-thirds of the entire membership of the Board at a meeting of the Board which was called for the purpose of considering such termination and which Executive and his representative had the right to attend and address the Board, finding that, in the good faith opinion of the Board, Executive engaged in conduct set forth in the definition of Cause herein and specifying the particulars thereof in reasonable detail. The date of termination for a termination for Cause shall be the date indicated in the notice of termination. Any purported termination for Cause which is held by a court or arbitrator not to have been based on the grounds set forth in this Agreement or not to have followed the procedures set forth in this Agreement shall be deemed a termination by the Company without Cause. 8. CONSEQUENCES OF TERMINATION OF EMPLOYMENT. (a) DEATH. If Executive's employment is terminated during the Employment Term by reason of Executive's death, the employment period under this Agreement shall terminate without further obligations to Executive's legal representatives under this Agreement except for: (i) any compensation earned but not yet paid, including without limitation, any unpaid bonus due, any amount of Base Salary or deferred compensation accrued or earned but unpaid, any accrued vacation payable pursuant to the Company's policies and any unreimbursed business expenses payable pursuant to Section 6 which amounts shall be promptly paid in a lump sum to the trustee of the Tiffany and Andrew Wiederhorn Revocable Trust dated September 22, 1987, as amended; (ii) the Estimated Annual Bonus for the fiscal year of Executive's death, pro rated through the end of month in which Executive died, which bonus shall be paid to the trustee of the Tiffany and Andrew Wiederhorn Revocable Trust dated September 22, 1987, as amended, within 60 days after such month end; (iii) full accelerated vesting under all outstanding equity-based and long-term incentive plans (with options remaining outstanding as provided under the applicable stock option plan and a pro rata payment under any long term incentive plans based on actual coverage under such plans at the time payments normally would be made under such plans); (iv) subject to Section 10 hereof, any other amounts or benefits owing to Executive under the then applicable employee benefit plans or policies of the Company, which shall be paid in accordance with such plans or policies; (v) payment on a monthly basis of six (6) months of Executive's Base Salary on the date of death, which shall be paid to the trustee of the Tiffany and Andrew Wiederhorn Revocable Trust dated September 22, 1987, as amended; (vi) any outstanding Advance Reimbursement Loan shall mature as provided in Section 4; (vii) any outstanding Stock Purchase Loan shall become due and payable six months following the date of termination, and (viii) payment of Executive's spouse's and dependents' COBRA coverage premiums to the extent, and so long as, they remain eligible for COBRA coverage, but in no event more than one (1) year. Section 12 hereof shall also continue to apply. (b) DISABILITY. If Executive's employment is terminated by reason of Executive's Disability, Executive shall be entitled to receive the payments and benefits to which his representatives would be entitled in the event of a termination of employment by reason of his death, provided that the payment of Base Salary shall be reduced by the projected amount Executive would receive under any long-term disability policy or program maintained by the Company during the six (6) month period during which Base Salary is being paid. Section 12 hereof shall also continue to apply. (c) TERMINATION BY EXECUTIVE FOR GOOD REASON OR FOR ANY REASON DURING THE CHANGE IN CONTROL PROTECTION PERIOD OR TERMINATION BY THE COMPANY WITHOUT CAUSE OR NONEXTENSION OF THE TERM BY THE COMPANY. If (i) outside of the Change in Control Protection Period, Executive terminates his employment hereunder for Good Reason during the Employment Term, (ii) a Change in Control occurs and during the Change in Control Protection Period Executive terminates his employment for any reason, (iii) Executive's employment with the Company is terminated by the Company without Cause, or (iv) Executive's employment with the Company terminates as a result of the Company giving notice of nonextension of the Employment Term pursuant to Section 1 hereof, Executive shall be entitled to receive: (A) in a lump sum within ten (10) business days after such termination (i) one year's Base Salary in effect on the date of termination, (ii) the Estimated Annual Bonus payable to Executive for the Annual Period, pro rated through the end of month in which Executive is terminated, which bonus shall be paid within 45 days after such month end, (iii) any unreimbursed business expenses payable pursuant to Section 6, and (iv) any Base Salary, Bonus, vacation pay or other deferred compensation accrued or earned under law or in accordance with the Company's policies but not yet paid at the date of termination; (B) accelerated full vesting under all outstanding equity-based and long-term incentive plans with Options remaining outstanding as provided under the applicable stock option plan and a pro rata payment under any long term incentive plans based on actual coverage under such plans payment being made at the time payments would normally be made under such plans; (C) subject to Section 10 hereof, any other amounts or benefits due Executive under the then applicable employee benefit plans of the Company as shall be determined and paid in accordance with such plans, policies and practices; (D) one (1) year of additional service and compensation credit (at his then compensation level) for pension purposes under any defined benefit type qualified or nonqualified pension plan or arrangement of the Company, measured from the date of termination of employment and not credited to the extent that Executive is otherwise entitled to such credit during such one (1) year period, which payments shall be made through and in accordance with the terms of the nonqualified defined benefit pension arrangement if any then exists, or, if not, in an actuarially equivalent lump sum (using the actuarial factors then applying in the Company's defined benefit plan covering Executive); (E) one (1) year of the maximum Company contribution (assuming Executive deferred the maximum amount and continued to earn his then current salary) measured from the date of termination under any type of qualified or nonqualified 401(k) plan (payable at the end of each such year); (F) any outstanding Advance Reimbursement Loan shall mature as provided in Section 4; (Guaranty) any outstanding Stock Purchase Loan shall become due and payable six months following the date of termination; and (H) payment by the Company of the premiums for Executive (except in the case of death) and his spouse's and dependents' health coverage for one (1) year under the Company's health plans which cover the senior executives of the Company or materially similar benefits. Payments under (H) above may, at the discretion of the Company, be made by continuing participation of Executive in the plan as a terminee, by paying the applicable COBRA premium for Executive and his spouse and dependents, or by covering Executive and his spouse and dependents under substitute arrangements, provided that, to the extent Executive incurs tax that he would not have incurred as an active employee as a result of the aforementioned coverage or the benefits provided thereunder, Executive shall receive from the Company an additional payment in the amount necessary so that he will have no additional cost for receiving such items or any additional payment. In the circumstances described in each of (i) through (iv) above, Section 12 hereof shall also continue to apply. (d) TERMINATION FOR CAUSE OR VOLUNTARY RESIGNATION WITHOUT GOOD REASON OR RETIREMENT. If Executive's employment hereunder is terminated: (i) by the Company for Cause, (ii) by Executive without Good Reason outside of the Change in Control Protection Period, or (iii) by the Company pursuant to Section 7(a)(viii) hereof, Executive shall be entitled to receive only his Base Salary through the date of termination, the Estimated Annual Bonus prorated through the last day of the month in which Executive is terminated, and any unreimbursed business expenses payable pursuant to Section 6. In addition, any outstanding Advance Reimbursement Loan shall mature as provided in Section 4 and any outstanding Stock Purchase Loan shall become due and payable six months following the date of termination. All other benefits (including, without limitation, Options) due Executive following such termination of employment shall be determined in accordance with the plans, policies and practices of the Company. (e) ACCESS TO BOOKS AND RECORDS. Following termination of employment of the Executive, the Company shall permit such Executive reasonable access to retrieve personally (or by his designated representatives) any and all personal files and property that are stored at the Company. Additionally, subject to reimbursement of any out-of-pocket costs and expenses, the Company shall permit such Executive and his designated representatives and agents reasonable access to the Company's books and records, independent accountants and attorneys, as requested by him, as related to the personal taxation of the Executive until the expiration of the appropriate statute of limitations with respect to such tax matters, and as related to his role as a director or officer, subject to any confidentiality agreements in effect between the Executive and the Company. 9 [THIS SECTION IS INTENTIONALLY LEFT BLANK.] 10 NO MITIGATION; NO SET-OFF. In the event of any termination of employment under Section 8, Executive shall be under no obligation to seek other employment and, except as explicitly set forth herein, there shall be no offset against any amounts due Executive under this Agreement on account of any remuneration attributable to any subsequent employment that Executive may obtain. Any amounts due under Section 8 are in the nature of severance payments, or liquidated damages, or both, and are not in the nature of a penalty. Such amounts are in lieu of any amounts payable under any other salary continuation or cash severance arrangement of the Company and to the extent paid or provided under any other such arrangement shall be offset from the amount due hereunder. 11 CHANGE IN CONTROL. For purposes of this Agreement, the term "Change in Control" shall mean (i) any "person" as such term is used in Sections 13(d) and 14(d) of the Securities Exchange Act of 1934 ("Act") (other than the Company, any trustee or other fiduciary holding securities under any employee benefit plan of the Company, or any company owned, directly or indirectly, by the stockholders of the Company in substantially the same proportions as their ownership of common stock of the Company), becoming the "beneficial owner" (as defined in Rule 13d-3 under the Exchange Act), directly or indirectly, of securities of the Company representing twenty-five percent (25%) or more of the combined voting power of the Company's then outstanding securities; (ii) during any period of two (2) consecutive years, individuals who at the beginning of such period constitute the Board, and any new director (other than a director designated by a person who has entered into an agreement with the Company to effect a transaction described in clause (i), (iii), or (iv) of this paragraph or a director whose initial assumption of office occurs as a result of either an actual or threatened election contest (as such terms are used in Rule 14a-11 promulgated under the Act) or other actual or threatened solicitation of proxies or consents by or on behalf of a person other than a member of the Board) whose election by the Board or nomination for election by the Company's shareholders was approved by a vote of at least two-thirds of the directors then still in office who either were directors at the beginning of the two (2) year period or whose election or nomination for election was previously so approved, cease for any reason to constitute at least a majority of the Board; (iii) the merger or consolidation of the Company with any other corporation, other than a merger or consolidation which would result in the voting securities of the Company outstanding immediately prior thereto continuing to represent (either by remaining outstanding or by being converted into voting securities of the surviving entity) more than fifty percent (50%) of the combined voting power of the voting securities of the Company or such surviving entity outstanding immediately after such merger or consolidation; provided, however, that a merger or consolidation effected to implement a recapitalization of the Company (or similar transaction) in which no person (other than those covered in the exceptions in (i) above) acquires more than twenty-five percent (25%) of the combined voting power of the Company's then outstanding securities shall not constitute a Change in Control; or (iv) approval by the shareholders of the Company of a plan of complete liquidation of the Company or the closing of the sale or disposition by the Company of all or substantially all of the Company's assets other than the sale of all or substantially all of the assets of the Company to a person or persons who beneficially own, directly or indirectly, at least fifty percent (50%) or more of the combined voting power of the outstanding voting securities of the Company at the time of the sale. 12 INDEMNIFICATION. (a) The Company agrees that if Executive is made a party to or threatened to be made a party to any action, suit or proceeding, whether civil, criminal, administrative or investigative (a "Proceeding"), by reason of the fact that he is or was a director or officer of the Company, or is or was serving at the request of the Company as a director, officer, member, employee, fiduciary or agent of another corporation or of a partnership, joint venture, trust, other enterprise or non-profit organization, including, without limitation, service with respect to employee benefit plans, whether or not the basis of such Proceeding is alleged action in an official capacity as a director, officer, member, employee, fiduciary or agent while serving as a director, officer, member, employee, fiduciary or agent, he shall be indemnified and held harmless by the Company to the fullest extent authorized by Maryland law, as the same exists or may hereafter be amended, against all Expenses incurred or suffered by Executive in connection therewith, and such indemnification shall continue as to Executive even if Executive has ceased to be an officer, director, member, fiduciary or agent, or is no longer employed by the company, and shall inure to the benefit of his heirs, executors and administrators. (b) As used in this Agreement, the term "Expenses" shall include, without limitation, damages, losses, judgments, liabilities, fines, penalties, excise taxes, settlements and costs, attorneys' fees, accountants' fees, and disbursements and costs of attachment or similar bonds, investigations, and any expenses of establishing a right to indemnification under this Agreement. (c) Expenses incurred by Executive in connection with any Proceeding shall be paid by the Company in advance upon request of Executive and the giving by Executive of any undertakings required by applicable law. (d) Executive shall give the Company notice of any claim made against him for which indemnity will or could be sought under this Agreement. In addition, Executive shall give the Company such information and cooperation as it may reasonably require and as shall be within Executive's power and at such times and places as are reasonably convenient for Executive. (e) With respect to any Proceeding as to which Executive notifies the Company of the commencement thereof: (i) The Company will be entitled to participate therein at its own expense; and (ii) Except as otherwise provided below, to the extent that it may wish, the Company jointly with any other indemnifying party similarly notified will be entitled to assume the defense thereof, with counsel reasonably satisfactory to Executive. Executive also shall have the right to employ his own counsel in such action, suit or proceeding and the fees and expenses of such counsel shall be at the expense of the Company. (f) The Company shall not be liable to indemnify Executive under this Agreement for any amounts paid in settlement of any action or claim effected without its written consent. The Company shall not settle any action or claim in any manner which would impose any penalty or limitation on Executive without Executive's written consent. Neither the Company nor Executive will unreasonably withhold or delay their consent to any proposed settlement. (g) The right to indemnification and the payment of expenses incurred in defending a Proceeding in advance of its final disposition conferred in this Section 12 shall not be exclusive of any other right which Executive may have or hereafter may acquire under any statute, provision of the certificate of incorporation or by-laws of the Company, agreement, vote of stockholders or disinterested directors or otherwise. (h) The Company hereunder agrees to obtain officer and director liability insurance policies covering Executive and shall maintain at all times following the Commencement Date and during the Employment Term coverage under such policies in the aggregate with regard to all officers and directors, including Executive, of an amount not less than $10 million. 13 SPECIAL TAX PROVISION. (a) Anything in this Agreement to the contrary notwithstanding, in the event that any amount or benefit paid, payable, or to be paid, or distributed, distributable, or to be distributed to or with respect to Executive by the Company (whether pursuant to the terms of this Agreement or any other plan, arrangement or agreement with the Company, any person whose actions result in a change of ownership or effective control covered by Code Section 280G(b)(2) or any person affiliated with the Company or such person) as a result of a change in ownership or effective control of the Company or a direct or indirect parent thereof (or the assets of any of the foregoing) covered by Code Section 280G(b)(2) (collectively, the "Covered Payments") is or becomes subject to the excise tax imposed by or under Section 4999 of the Code (or any similar federal or state tax that may hereafter be imposed), and/or any interest, penalties or additions to tax, with respect to such excise tax (such excise tax, together with such interest penalties and additions to tax, is hereinafter collectively referred to as the "Excise Tax"), the Company shall pay to Executive an additional amount (the "Tax Reimbursement Payment") such that after payment by Executive of all taxes (including, without limitation, any interest or penalties and any Excise Tax imposed on or attributable to the Tax Reimbursement Payment itself), Executive retains an amount of the Tax Reimbursement Payment equal to the sum of (i) the amount of the Excise Tax imposed upon the Covered Payments, and (ii) without duplication, an amount equal to the product of (A) any deductions disallowed for federal, state or local income tax purposes because of the inclusion of the Tax Reimbursement Payment in Executive's adjusted gross income, and (B) the highest applicable marginal rate of federal, state or local income taxation, respectively, for the calendar year in which the Tax Reimbursement Payment is made or is to be made. The intent of this Section 13 is that (a) Executive, after paying his federal, state and local income tax and payroll taxes, will be in the same position as if he was not subject to the Excise Tax under Section 4999 of the Code (or any similar federal or state tax that may be imposed ) and did not receive the extra payments pursuant to this Section 13 and this Section 13 shall be interpreted accordingly. (b) Except as otherwise provided in Section 13(a), for purposes of determining whether any of the Covered Payments will be subject to the Excise Tax and the amount of such Excise Tax, (i) such Covered Payments will be treated as "parachute payments" (within the meaning of Section 280G(b)(2) of the Code) and such payments in excess of the Code Section 280G(b)(3) "base amount" shall be treated as subject to the Excise Tax, unless, and except to the extent that, the Company's independent certified public accountants appointed prior to the change in ownership covered by Code Section 280G(b)(2) or legal counsel (reasonably acceptable to Executive) appointed by such public accountants (or, if the public accountants decline such appointment and decline appointing such legal counsel, such independent certified public accountants as promptly mutually agreed on in good faith by the Company and Executive) (the "Accountant"), deliver a written opinion to Executive, reasonably satisfactory to Executive's legal counsel, that Executive has a reasonable basis to claim that the Covered Payments (in whole or in part) (A) do not constitute "parachute payments", (B) represent reasonable compensation for services actually rendered (within the meaning of Section 280G(b)(4) of the Code) in excess of the "base amount" allocable to such reasonable compensation, or (C) such "parachute payments" are otherwise not subject to such Excise Tax (with appropriate legal authority, detailed analysis and explanation provided therein by the Accountants); and (ii) the value of any Covered Payments which are non-cash benefits or deferred payments or benefits shall be determined by the Accountant in accordance with the principles of Section 280G of the Code. (c) For purposes of determining the amount of the Tax Reimbursement Payment, Executive shall be deemed: (i) to pay federal, state and/or local income taxes at the highest applicable marginal rate of income taxation for the calendar year in which the Tax Reimbursement Payment is made or is to be made, and (ii) to have otherwise allowable deductions for federal, state and local income tax purposes at least equal to those disallowed due to the inclusion of the Tax Reimbursement Payment in Executive's adjusted gross income. (d) (i) (A) In the event that prior to the time Executive has filed any of his tax returns for the calendar year in which the change in ownership event covered by Code Section 280G(b)(2) occurred, the Accountant determines, for any reason whatever, the correct amount of the Tax Reimbursement Payment to be less than the amount determined at the time the Tax Reimbursement Payment was made, Executive shall repay to the Company, at the time that the amount of such reduction in Tax Reimbursement Payment is determined by the Accountant, the portion of the prior Tax Reimbursement Payment attributable to such reduction (including the portion of the Tax Reimbursement Payment attributable to the Excise Tax and federal, state and local income tax imposed on the portion of the Tax Reimbursement Payment being repaid by Executive, using the assumptions and methodology utilized to calculate the Tax Reimbursement Payment (unless manifestly erroneous)), plus interest on the amount of such repayment at the rate provided in Section 1274(b)(2)(B) of the Code. (B) In the event that the determination set forth in (A) above is made by the Accountant after the filing by Executive of any of his tax returns for the calendar year in which the change in ownership event covered by Code Section 280G(b)(2) occurred but prior to one (1) year after the occurrence of such change in ownership, Executive shall file at the request of the Company an amended tax return in accordance with the Accountant's determination, but no portion of the Tax Reimbursement Payment shall be required to be refunded to the Company until actual refund or credit of such portion has been made to Executive, and interest payable to the Company shall not exceed the interest received or credited to Executive by such tax authority for the period it held such portion (less any tax Executive must pay on such interest and which he is unable to deduct as a result of payment of the refund). (C) In the event Executive receives a refund pursuant to (B) above and repays such amount to the Company, Executive shall thereafter file for refunds or credits by reason of the repayments to the Company. Executive and the Company shall mutually agree upon the course of action, if any, to be pursued (which shall be at the expense of the Company) if Executive's claim for such refund or credit is denied. (D) Executive and the Company shall mutually agree upon the course of action, if any, to be pursued (which shall be at the expense of the Company) if Executive's claim for refund or credit is denied. (ii) In the event that the Excise Tax is later determined by the Accountants or the Internal Revenue Service to exceed the amount taken into account hereunder at the time the Tax Reimbursement Payment is made (including by reason of any payment the existence or amount of which cannot be determined at the time of the Tax Reimbursement Payment), the Company shall make an additional Tax Reimbursement Payment in respect of such excess (plus any interest, penalties or additions to tax payable with respect to such excess) once the amount of such excess is finally determined. (iii) In the event of any controversy with the Internal Revenue Service (or other taxing authority) under this Section 13, subject to subpart (i)(D) above, Executive shall permit the Company to control issues related to this Section 13 (at its expense), provided that such issues do not potentially materially adversely affect Executive, but Executive shall control any other issues. In the event the issues are interrelated, Executive and the Company shall in good faith cooperate so as not to jeopardize resolution of either issue, but if the parties cannot agree Executive shall make the final determination with regard to the issues. In the event of any conference with any taxing authority as to the Excise Tax or associated income taxes, Executive shall permit the representative of the Company to accompany him and Executive and his representative shall cooperate with the Company and its representative. (iv) With regard to any initial filing for a refund or any other action required pursuant to this Section 13 (other than by mutual agreement) or, if not required, agreed to by the Company and Executive, Executive shall cooperate fully with the Company, provided that the foregoing shall not apply to actions that are provided herein to be at the sole discretion of Executive. (e) The Tax Reimbursement Payment, or any portion thereof, payable by the Company shall be paid not later than the fifth day following the determination by the Accountant, and any payment made after such fifth day shall bear interest at the rate provided in Code Section 1274(b)(2)(B). The Company shall use its best efforts to cause the Accountant to promptly deliver the initial determination required hereunder and, if not delivered, within ninety (90) days after the change in ownership event covered by Section 280G(b)(2) of the Code, the Company shall pay Executive the Tax Reimbursement Payment set forth in an opinion from counsel recognized as knowledgeable in the relevant areas selected by Executive, and reasonably acceptable to the Company, within five (5) days after delivery of such opinion. In accordance with Section 16(Guaranty), the Company may withhold from the Tax Reimbursement Payment and deposit into applicable taxing authorities such amounts as are required to be withheld by applicable law. To the extent that Executive is required to pay estimated or other taxes on amounts received by Executive beyond any withheld amounts, Executive shall promptly make such payments. The amount of such payment shall be subject to later adjustment in accordance with the determination of the Accountant as provided herein. (f) The Company shall be responsible for all charges of the Accountant and if (e) is applicable the reasonable charges for the opinion given by Executive's counsel. (g) The Company and Executive shall mutually agree on and promulgate further guidelines in accordance with this Section 13 to the extent, if any, necessary to effect the reversal of excessive or shortfall Tax Reimbursement Payments. The foregoing shall not in any way be inconsistent with Section 13(d)(i)(D) hereof. 14 LEGAL AND OTHER FEES AND EXPENSES. In the event that a claim for payment or benefits under this Agreement is disputed, the Company shall pay all reasonable attorney, accountant and other professional fees and reasonable expenses incurred by Executive in pursuing such claim, unless the claim by Executive is found to be frivolous by any court or arbitrator. 15 ARBITRATION. Any dispute or controversy arising under or in connection with this Agreement shall be settled exclusively by arbitration conducted in the City of Portland in the State of Oregon under the Commercial Arbitration Rules then prevailing of the American Arbitration Association and such submission shall request the American Arbitration Association to: (i) appoint an arbitrator experienced and knowledgeable concerning the matter then in dispute; (ii) require the testimony to be transcribed; (iii) require the award to be accompanied by findings of fact and the statement for reasons for the decision; and (iv) request the matter to be handled by and in accordance with the expedited procedures provided for in the Commercial Arbitration Rules. The determination of the arbitrators, which shall be based upon a DE NOVO interpretation of this Agreement, shall be final and binding and judgment may be entered on the arbitrators' award in any court having jurisdiction. All costs of arbitration, including the costs of the American Arbitration Association and the arbitrator, shall be borne by the Company. 16 MISCELLANEOUS. (a) GOVERNING LAW. This Agreement shall be governed by and construed in accordance with the laws of the State of Oregon without reference to principles of conflicts of laws. (b) ENTIRE AGREEMENT/AMENDMENTS. This Agreement and the instruments contemplated herein, contain the entire understanding of the parties with respect to the employment of Executive by the Company from and after the Commencement Date and supersedes any prior agreements, whether written or otherwise, between the Company and Executive. There are no restrictions, agreements, promises, warranties, covenants or undertakings between the parties with respect to the subject matter herein other than those expressly set forth herein and therein. This Agreement may not be altered, modified, or amended except by written instrument signed by the parties hereto. (c) NO WAIVER. The failure of a party to insist upon strict adherence to any term of this Agreement on any occasion shall not be considered a waiver of such party's rights or deprive such party of the right thereafter to insist upon strict adherence to that term or any other term of this Agreement. Any such waiver must be in writing and signed by Executive or an authorized officer of the Company, as the case may be. (d) ASSIGNMENT. This Agreement shall not be assignable by Executive. This Agreement shall be assignable, with the consent of Executive, by the Company only to an acquiror of all or substantially all of the assets of the Company, provided such acquiror promptly assumes all of the obligations hereunder of the Company in a writing delivered to Executive and otherwise complies with the provisions hereof with regard to such assumption. (e) SUCCESSORS; BINDING AGREEMENT; THIRD PARTY BENEFICIARIES. This Agreement shall inure to the benefit of and be binding upon parties hereto and their personal or legal representatives, executors, administrators, successors, heirs, distributees, devisees legatees and permitted assignees of the parties hereto. If Executive dies while any amount would still be payable hereunder if Executive had continued to live, all such amounts, unless otherwise provided herein, shall be paid in accordance with the terms of the Agreement to the personal or legal representatives, executors, administrators, successors, heirs, distributees, devisees, legatees and permitted assignees of the parties hereto. (f) COMMUNICATIONS. For the purpose of this Agreement, notices and all other communications provided for in this Agreement shall be in writing and shall be deemed to have been duly given (i) when faxed or delivered, and (ii) two business days after being mailed by United States registered or certified mail, return receipt requested, postage prepaid, addressed to the respective addresses set forth on the initial page of this Agreement, provided that all notices to the Company shall be directed to the attention of Lawrence A. Mendelsohn of the Company, or to such other address as any party may have furnished to the other in writing in accordance herewith. Notice of change of address shall be effective only upon receipt. (g) WITHHOLDING TAXES. The Company may withhold from any and all amounts payable under this Agreement such federal, state and local taxes as may be required to be withheld pursuant to any applicable law or regulation. (h) SURVIVORSHIP. The respective rights and obligations of the parties hereunder shall survive any termination of Executive's employment. (i) COUNTERPARTS. This Agreement may be signed in counterparts, each of which shall be an original, with the same effect as if the signatures thereto and hereto were upon the same instrument. (j) HEADINGS. The headings of the sections contained in this Agreement are for convenience only and shall not be deemed to control or affect the meaning or construction of any provision of this Agreement. IN WITNESS WHEREOF, the parties hereto have duly executed this Agreement as of the day and year first above written. WILSHIRE REAL ESTATE INVESTMENT INC., on its behalf and as general partner for WILSHIRE REAL ESTATE PARTNERSHIP L.P. By: /s/ --------------------------------------- Name: Title: /s/ Andrew A. Wiederhorn ------------------------ Andrew A. Wiederhorn EX-10.11 3 EMPLOYMENT AGREEMENT EMPLOYMENT AGREEMENT EMPLOYMENT AGREEMENT, dated as of September 4, 1999, by and between Wilshire Real Estate Investment Inc. and Wilshire Real Estate Partnership L.P. (collectively and individually, the "Company"), with its principal office at 1310 SW 17th Street, Portland, Oregon 97201 and Lawrence A. Mendelsohn, residing at 02393 SW Military Road, Portland, Oregon 97219 (the "Executive"). W I T N E S S E T H: WHEREAS, Executive is currently employed as the President of the Company and is also a director of the Company; and WHEREAS, the Company and Executive desire to enter into this agreement (the "Agreement") to set forth terms of Executive's employment by the Company. NOW, THEREFORE, in consideration of the premises and mutual covenants contained herein and for other good and valuable consideration, the parties agree as follows: 1. TERM OF EMPLOYMENT. Except for earlier termination as provided in Section 7 hereof, Executive's employment under this Agreement shall be for a three (3) year and 26 days term (the "Employment Term") commencing on September 4, 1999 (the "Commencement Date"). Subject to Section 7 hereof, the Employment Term shall be automatically extended for additional terms of successive two (2) year periods unless the Company or Executive gives written notice of the termination of Executive's employment hereunder at least ninety (90) days prior to the expiration of the then current Employment Term. 2. POSITIONS. (a) Executive shall serve as President of the Company. It is the intention of the parties that during the Employment Term, Executive shall also serve on the Board of Directors of the Company (the "Board") without additional compensation. During the term of this Agreement, the Company shall recommend the Executive for election as a director. (b) Executive shall report directly to the Chief Executive Officer of the Company and shall have such duties and authority, consistent with his position as President of the Company, as shall be determined from time to time by the Chief Executive Officer, provided that Executive shall have authority comparable to that of presidents of United States public companies that are similar in size and business to the Company. (c) During the Employment Term, Executive shall devote substantially all of his business time, energy, skill and efforts to the performance of his duties and responsibilities hereunder; provided, however, that Executive shall be allowed to (i) serve as a director, employee or consultant of companies solely owned by Executive or Executive's family; (ii) serve as a director of other companies; (iii) engage in charitable activities; and (iv) manage his personal financial and legal affairs. 3. BASE SALARY. During the Employment Term, the Company shall pay Executive a base salary at the annual rate of not less than $275,000.00. Base salary shall be payable in accordance with the usual payroll practices of the Company (including withholding). Executive's Base Salary shall be subject to annual review by the Board in October of each year and may be increased, but not decreased, from time to time upon recommendation of the Compensation Committee of the Board (the "Committee"). The base salary determined as aforesaid from time to time shall constitute "Base Salary" for purposes of this Agreement. 4. INCENTIVE COMPENSATION. (a) BONUS. For each 12 month period during the Employment Term commencing on September 30, 1999 (each, an "Annual Period"), Executive shall be entitled to receive an annual bonus (the "Bonus") equal to 25% of the Bonus Pool for such Annual Period. For each Annual Period, the Bonus Pool shall be (i) if Post-Bonus ROE is 15% or greater, 20% of Pre-Bonus Earnings, (ii) if Post-Bonus ROE is 5% or greater but less than 15%, 10% of PreBonus Earnings, or (iii) if Post-Bonus ROE is less than 5%, zero. For purposes of this agreement, the following terms shall have the following meanings: "PRE-BONUS EARNINGS" means the Company's after-tax income (as determined in accordance with generally accepted accounting principles and reflected on the Company's financial statements) for the relevant Annual Period or portion thereof determined prior to subtracting the amount of the Bonus Pool payable for that Annual Period; provided, however, that in determining Pre-Bonus Earnings for purposes of this Section 4, Pre-Bonus Earnings shall be increased or decreased for the relevant Annual Period by the amount of unrealized gains or unrealized losses, as the case may be, which are incurred after the commencement of the relevant Annual Period and which are reflected directly in equity as "other comprehensive income or loss" during such Annual Period. "POST-BONUS EARNINGS" means the Company's Pre-Bonus Earnings after subtracting the after-tax amount of the Bonus Pool payable for that Annual Period. "EQUITY" means the Company's total shareholders' equity (as determined in accordance with generally accepted accounting principles and reflected on the Company's financial statements) at the beginning of the relevant Annual Period; provided, however, that in determining Equity for purposes of this Section 4, Equity shall be increased by the amount of unrealized losses which are shown on the Company's balance sheet as of the beginning of the relevant Annual Period under the heading "other comprehensive income or loss". For example, if the Company's shareholders' equity as of September 30, 1999 was $63.831 million and there was $20.658 million of accumulated other comprehensive loss, then Equity would be $84.489 million. "POST-BONUS ROE" means the Company's Post-Bonus Earnings for the relevant Annual Period divided by its Equity at the beginning of the relevant Annual Period (expressed in percentage terms). To assist the reader in understanding the foregoing provisions, examples of such Bonus determinations are set forth on Schedule I hereto. Such annual Bonus shall be payable by November 15th of each year following the Annual Period for which the Bonus is payable and, if necessary, shall be adjusted for any subsequent amendments to the Company's financial statements. The Company will apply the annual Bonus to repay any outstanding Excess Advance (as defined below) prior to making any payment to Executive. To the extent that the Company repurchases any of its outstanding common stock or the Company's net operating losses under Section 382 of the Code (as defined below) are disallowed, the parties agree to negotiate in good faith to amend the incentive compensation provisions of this Section 4 to provide Executive with comparable goals and returns to those that existed prior to the occurrence of such events. Following the initial Employment Term, such Bonus shall be subject to shareholder approval as and to the extent required by Section 162(m) of the Internal Revenue Code of 1986, as amended (the "Code"). (b) ADVANCES. Following any quarterly period during an Annual Period, the Company shall, at the request of the Executive, pay an advance on any such Bonus; provided, however, that (i) any such advance (together with any prior advances made during the relevant Annual Period) shall not exceed 80% of the pro rata portion of the Estimated Annual Bonus (as defined below) attributable to such quarterly period and to any prior quarterly periods during such Annual Period and (ii) any such advance shall not exceed $300,000 per quarter. Any such advances shall be treated as advances of Executive's Bonus and shall not bear interest. The Estimated Annual Bonus is determined by annualizing the Company's Pre-Bonus Earnings and Post-Bonus Earnings (based on the Company's financial statements) for the quarterly period or periods during such Annual Period (or for purposes of Section 8, monthly periods) and determining the annual Bonus payable to Executive as described in Section 4(a). In the event that the aggregate amount of advances outstanding immediately following the end of any quarterly period during the relevant Annual Period exceeds 80% of the pro rata portion of the Estimated Annual Bonus ("Permitted Advances") determined immediately following such quarterly period, the amount in excess of the Permitted Advances shall be treated as an interest free loan from the Company ("Advance Reimbursement Loan") for the next succeeding quarterly period (the "Following Quarter") and if at the end of the Following Quarter the aggregate amount of outstanding advances continues to exceed the Permitted Advances (the "Excess Advance"), Executive shall repay the Excess Advance to the Company within 30 days of the end of such Following Quarter. (c) OPTIONS. The Company shall grant to Executive stock options (the "Initial Options") on 350,000 shares of the Company's common stock (the "Common Stock") under the Company's Incentive Stock Plan (the "Incentive Stock Plan"). The Initial Options shall have an exercise price equal to the Company's book value per outstanding share as of September 30, 1999, which exercise price is in excess of the market value per share based on the share price of the Common Stock as of such date. The Initial Options will be fully exercisable at the time of vesting and 25% of the Initial Options shall vest on each anniversary of this Agreement (which will result in the Initial Options being fully vested on the fourth anniversary of this Agreement). In addition, the Executive shall be entitled to participate in the Company's Incentive Stock Plan and receive nonqualified, incentive or other options ("Options") to purchase shares of the Company's Common Stock under the Incentive Stock Plan as determined by the Committee from time to time provided that the Incentive Stock Plan is approved by the shareholders of the Company to the extent required by Section 162(m) of the Code. Notwithstanding the foregoing, the Company may recommend to the Committee that Executive be granted Options under a plan other than the Incentive Stock Plan provided that such other plan contains terms and conditions which are substantially similar to the terms and conditions of the Incentive Stock Plan, and further provided, that such other plan is approved by the shareholders of the Company to the extent required by Section 162(m) of the Code. To the extent permitted under applicable law, any Options granted to Executive hereunder (including the Initial Options) may be assigned and transferred by Executive to entities created for or on behalf of Executive's immediate family for tax planning or other purposes. (d) OTHER COMPENSATION. The Company may, upon recommendation of the Committee, award to Executive such other bonuses and compensation as it deems appropriate and reasonable. 5. EMPLOYEE BENEFITS AND VACATION. (a) During the Employment Term, Executive shall be entitled to participate in all pension, retirement, savings, welfare and other employee benefit plans and arrangements, including, without limitation, any nonqualified deferred compensation plans, maintained by the Company from time to time for the benefit of the senior executives of the Company in accordance with their respective terms as in effect from time to time. To the extent permitted under applicable law, the Company shall not treat as compensation to Executive fringes and perquisites provided to Executive or the items under Section 6 below. (b) During the Employment Term, the Company agrees to loan to Executive $50,000 during each year of the Employment Term to purchase shares of Common Stock of the Company up to a maximum of $250,000. Each annual loan made pursuant to this Section 5(b) (the "Stock Purchase Loans") shall mature on the earlier of (i) its fifth anniversary and (ii) six months after Executive is no longer employed by the Company. The Stock Purchase Loans shall accrue interest on the then outstanding principal amount of the Stock Purchase Loans from the date of any Loan is made until maturity at a rate equal to the prime rate as published in the Wall Street Journal on the date any Stock Purchase Loan is made pursuant hereto and shall be payable annually in arrears. Interest on the Stock Purchase Loan will not be paid in cash but shall be payable in kind (i.e. the amount of interest accrued on the Stock Purchase Loan during each annual period will be added to the principal amount of the Loan at the end of such annual period). The Stock Purchase Loans will be full recourse loans against Executive, and each loan will be secured by the shares of Common Stock purchased with each such Stock Purchase Loan together with other shares of Common Stock pledged by Executive so that the aggregate value (based on the closing price on the acquisition date of such shares on the Nasdaq stock market) of all such shares securing each new Stock Purchase Loan shall be at least equal to 110% of the principal amount of the Stock Purchase Loans. (c) During the Employment Term, Executive shall be entitled to vacation each year in accordance with the Company's policies in effect from time to time, but in no event less than five (5) weeks paid vacation per calendar year. Executive shall also be entitled to such periods of sick leave as is customarily provided by the Company for its senior executive employees. 6. BUSINESS EXPENSES. The Company shall also reimburse Executive for the travel, entertainment and other business expenses incurred by Executive in the performance of his duties hereunder, in accordance with the Company's policies as in effect from time to time. 7. TERMINATION. (a) The employment of Executive under this Agreement shall terminate upon the occurrence of any of the following events: (i) the death of Executive; (ii) the termination of Executive's employment by the Company due to Executive's Disability pursuant to Section 7(b) hereof; (iii) the termination of Executive's employment by Executive for Good Reason pursuant to Section 7(c) hereof; (iv) the termination of Executive's employment by the Company without Cause; (v) the termination of employment by Executive without Good Reason upon sixty (60) days prior written notice; (vi) the termination of employment by Executive for any reason during the period commencing on the date of a Change in Control and ending on the day immediately prior to the second anniversary of the Change in Control (the "Change in Control Protection Period"); (vii) the termination of Executive's employment by the Company for Cause pursuant to Section 7(e); or (viii) the retirement of Executive by the Company at or after his sixty-fifth birthday to the extent such termination is specifically permitted as a stated exception from applicable federal and state age discrimination laws based on position and retirement benefits. (b) DISABILITY. If, by reason of the same or related physical or mental reasons, Executive is unable to carry out Executive's material duties pursuant to this Agreement for more than six (6) months in any twelve (12) consecutive month period (a "Disability") as determined and certified in writing by two (2) licensed physicians, one of which is Executive's regular attending physician, the Company may terminate Executive's employment for Disability upon thirty (30) days prior written notice, by a notice of Disability termination, at any time thereafter during such twelve (12) month period in which Executive is unable to carry out his duties as a result of the same or related physical or mental illness. Such termination shall not be effective if Executive returns to the full time performance of his material duties within such thirty (30) day notice period. (c) TERMINATION FOR GOOD REASON. A Termination for Good Reason means a termination by Executive by written notice given within sixty (60) days after the occurrence of the Good Reason event. For purposes of this Agreement, "Good Reason" shall mean the occurrence or failure to cause the occurrence, as the case may be, without Executive's express written consent, of any of the following circumstances, unless such circumstances are fully corrected prior to the date of termination specified in the Notice of Termination for Good Reason (as defined in Section 7(d) hereof): (i) any material diminution of Executive's positions, duties or responsibilities hereunder (except in each case in connection with the termination of Executive's employment for Cause or Disability or as a result of Executive's death, or temporarily as a result of Executive's illness or other absence), or the assignment to Executive of duties or responsibilities that are inconsistent with Executive's position as President; (ii) removal of Executive from, or the non reelection of Executive to, the positions with the Company specified herein; (iii) a relocation of the Company's principal United States executive offices to a location more than fifty (50) miles from Portland, Oregon, or a relocation of Executive away from such principal United States executive office; (iv) a failure by the Company (A) to continue any bonus plan, program or arrangement in which Executive is entitled to participate (the "Bonus Plans"), provided that any such Bonus Plans may be modified at the Company's discretion from time to time but shall be deemed terminated if (x) any such plan does not remain substantially in the form in effect prior to such modification and (y) if plans providing Executive with substantially similar benefits are not substituted therefor ("Substitute Plans"), or (B) to continue Executive as a participant in the Bonus Plans and Substitute Plans on at least the same basis as to potential amount of the bonus and substantially the same level of criteria for achievability thereof as Executive participated in immediately prior to any change in such plans or awards, in accordance with the Bonus Plans and the Substitute Plans; (v) any material breach by the Company of any material provision of this Agreement; (vi) executive's removal from or failure to be reelected to the Board; (vii) a failure of any successor to the Company to assume in a writing delivered to Executive upon the assignee becoming such the obligations of the Company hereunder; or (viii) a failure of the Committee to grant Executive an award of Options in accordance with Section 4 hereof, unless the applicable circumstances under (i) through (viii) are fully corrected prior to the date of termination specified in the notice of termination for Good Reason. (d) NOTICE OF TERMINATION FOR GOOD REASON. A notice of termination for Good Reason shall mean a notice that shall indicate the specific termination provision in Section 7(c) relied upon and shall set forth in reasonable detail the facts and circumstances claimed to provide a basis for termination for Good Reason. The failure by Executive to set forth in the notice of termination for Good Reason any facts or circumstances which contribute to the showing of Good Reason shall not waive any right of Executive hereunder or preclude Executive from asserting such fact or circumstance in enforcing his rights hereunder. The notice of termination for Good Reason shall provide for a date of termination not less than fifteen (15) nor more than sixty (60) days after the date such notice of termination for Good Reason is given. (e) CAUSE. Subject to the notification provisions of Section 7(f) below, Executive's employment hereunder may be terminated by the Company for Cause. For purposes of this Agreement, the term "Cause" shall be limited to (i) willful misconduct by Executive with regard to the Company or its business which has a material adverse effect on the Company; (ii) the refusal of Executive to follow the proper written direction of the Board, provided that the foregoing refusal shall not be "Cause" if Executive in good faith believes that such direction is illegal, unethical or immoral and promptly so notifies the Board; (iii) Executive being convicted of a felony (other than a felony involving a traffic offense); (iv) the breach by Executive of any fiduciary duty owed by Executive to the Company which has a material adverse effect on the Company; or (v) Executive's material fraud with regard to the Company. (f) NOTICE OF TERMINATION FOR CAUSE. A notice of termination for Cause shall mean a notice that shall indicate the specific termination provision in Section 7(e) relied upon and shall set forth in reasonable detail the facts and circumstances which provide a basis for termination for Cause. Further, a notice of termination for Cause shall be required to include a copy of a resolution duly adopted by at least two-thirds of the entire membership of the Board at a meeting of the Board which was called for the purpose of considering such termination and which Executive and his representative had the right to attend and address the Board, finding that, in the good faith opinion of the Board, Executive engaged in conduct set forth in the definition of Cause herein and specifying the particulars thereof in reasonable detail. The date of termination for a termination for Cause shall be the date indicated in the notice of termination. Any purported termination for Cause which is held by a court or arbitrator not to have been based on the grounds set forth in this Agreement or not to have followed the procedures set forth in this Agreement shall be deemed a termination by the Company without Cause. 8. CONSEQUENCES OF TERMINATION OF EMPLOYMENT. (a) DEATH. If Executive's employment is terminated during the Employment Term by reason of Executive's death, the employment period under this Agreement shall terminate without further obligations to Executive's legal representatives under this Agreement except for: (i) any compensation earned but not yet paid, including without limitation, any unpaid bonus due, any amount of Base Salary or deferred compensation accrued or earned but unpaid, any accrued vacation payable pursuant to the Company's policies and any unreimbursed business expenses payable pursuant to Section 6 which amounts shall be promptly paid in a lump sum to Executive's spouse; (ii) the Estimated Annual Bonus for the fiscal year of Executive's death, pro rated through the end of month in which Executive died, which bonus shall be paid to Executive's spouse within 60 days after such month end; (iii) full accelerated vesting under all outstanding equity-based and long-term incentive plans (with options remaining outstanding as provided under the applicable stock option plan and a pro rata payment under any long term incentive plans based on actual coverage under such plans at the time payments normally would be made under such plans); (iv) subject to Section 10 hereof, any other amounts or benefits owing to Executive under the then applicable employee benefit plans or policies of the Company, which shall be paid in accordance with such plans or policies; (v) payment on a monthly basis of six (6) months of Executive's Base Salary on the date of death, which shall be paid to Executive's spouse, or if she shall predecease him, then to Executive's children (or their guardian if one is appointed) in equal shares; (vi) any outstanding Advance Reimbursement Loan shall mature as provided in Section 4; (vii) any outstanding Stock Purchase Loan shall become due and payable six months after the date of termination, and (viii) payment of Executive's spouse's and dependents' COBRA coverage premiums to the extent, and so long as, they remain eligible for COBRA coverage, but in no event more than one (1) year. Section 12 hereof shall also continue to apply. (b) DISABILITY. If Executive's employment is terminated by reason of Executive's Disability, Executive shall be entitled to receive the payments and benefits to which his representatives would be entitled in the event of a termination of employment by reason of his death, provided that the payment of Base Salary shall be reduced by the projected amount Executive would receive under any long-term disability policy or program maintained by the Company during the six (6) month period during which Base Salary is being paid. Section 12 hereof shall also continue to apply. (c) TERMINATION BY EXECUTIVE FOR GOOD REASON OR FOR ANY REASON DURING THE CHANGE IN CONTROL PROTECTION PERIOD OR TERMINATION BY THE COMPANY WITHOUT CAUSE OR NONEXTENSION OF THE TERM BY THE COMPANY. If (i) outside of the Change in Control Protection Period, Executive terminates his employment hereunder for Good Reason during the Employment Term, (ii) a Change in Control occurs and during the Change in Control Protection Period Executive terminates his employment for any reason, (iii) Executive's employment with the Company is terminated by the Company without Cause, or (iv) Executive's employment with the Company terminates as a result of the Company giving notice of nonextension of the Employment Term pursuant to Section 1 hereof, Executive shall be entitled to receive: (A) in a lump sum within ten (10) business days after such termination (i) one year's Base Salary in effect on the date of termination, (ii) the Estimated Annual Bonus payable to Executive for the Annual Period, pro rated through the end of month in which Executive is terminated, which bonus shall be paid within 45 days after such month end, (iii) any unreimbursed business expenses payable pursuant to Section 6, and (iv) any Base Salary, Bonus, vacation pay or other deferred compensation accrued or earned under law or in accordance with the Company's policies but not yet paid at the date of termination; (B) accelerated full vesting under all outstanding equity-based and long-term incentive plans with Options remaining outstanding as provided under the applicable stock option plan and a pro rata payment under any long term incentive plans based on actual coverage under such plans payment being made at the time payments would normally be made under such plans; (C) subject to Section 10 hereof, any other amounts or benefits due Executive under the then applicable employee benefit plans of the Company as shall be determined and paid in accordance with such plans, policies and practices; (D) one (1) year of additional service and compensation credit (at his then compensation level) for pension purposes under any defined benefit type qualified or nonqualified pension plan or arrangement of the Company, measured from the date of termination of employment and not credited to the extent that Executive is otherwise entitled to such credit during such one (1) year period, which payments shall be made through and in accordance with the terms of the nonqualified defined benefit pension arrangement if any then exists, or, if not, in an actuarially equivalent lump sum (using the actuarial factors then applying in the Company's defined benefit plan covering Executive); (E) one (1) year of the maximum Company contribution (assuming Executive deferred the maximum amount and continued to earn his then current salary) measured from the date of termination under any type of qualified or nonqualified 401(k) plan (payable at the end of each such year); (F) any outstanding Advance Reimbursement Loan shall mature as provided in Section 4; (G) any outstanding Stock Purchase Loan shall become due and payable six months following the date of termination; and (H) payment by the Company of the premiums for Executive (except in the case of death) and his spouse's and dependents' health coverage for one (1) year under the Company's health plans which cover the senior executives of the Company or materially similar benefits. Payments under (H) above may, at the discretion of the Company, be made by continuing participation of Executive in the plan as a terminee, by paying the applicable COBRA premium for Executive and his spouse and dependents, or by covering Executive and his spouse and dependents under substitute arrangements, provided that, to the extent Executive incurs tax that he would not have incurred as an active employee as a result of the aforementioned coverage or the benefits provided thereunder, Executive shall receive from the Company an additional payment in the amount necessary so that he will have no additional cost for receiving such items or any additional payment. In the circumstances described in each of (i) through (iv) above, Section 12 hereof shall also continue to apply. (d) TERMINATION FOR CAUSE OR VOLUNTARY RESIGNATION WITHOUT GOOD REASON OR RETIREMENT. If Executive's employment hereunder is terminated: (i) by the Company for Cause, (ii) by Executive without Good Reason outside of the Change in Control Protection Period, or (iii) by the Company pursuant to Section 7(a)(viii) hereof, Executive shall be entitled to receive only his Base Salary through the date of termination, the Estimated Annual Bonus prorated through the last day of the month in which Executive is terminated, and any unreimbursed business expenses payable pursuant to Section 6. In addition, any outstanding Advance Reimbursement Loan shall mature as provided in Section 4 and any outstanding Stock Purchase Loan shall become due and payable six months following the date of termination. All other benefits (including, without limitation, Options) due Executive following such termination of employment shall be determined in accordance with the plans, policies and practices of the Company. (e) ACCESS TO BOOKS AND RECORDS. Following termination of employment of the Executive, the Company shall permit such Executive reasonable access to retrieve personally (or by his designated representatives) any and all personal files and property that are stored at the Company. Additionally, subject to reimbursement of any out-of-pocket costs and expenses, the Company shall permit such Executive and his designated representatives and agents reasonable access to the Company's books and records, independent accountants and attorneys, as requested by him, as related to the personal taxation of the Executive until the expiration of the appropriate statute of limitations with respect to such tax matters, and as related to his role as a director or officer, subject to any confidentiality agreements in effect between the Executive and the Company. 9. [THIS SECTION IS INTENTIONALLY LEFT BLANK.] 10 NO MITIGATION; NO SET-OFF. In the event of any termination of employment under Section 8, Executive shall be under no obligation to seek other employment and, except as explicitly set forth herein, there shall be no offset against any amounts due Executive under this Agreement on account of any remuneration attributable to any subsequent employment that Executive may obtain. Any amounts due under Section 8 are in the nature of severance payments, or liquidated damages, or both, and are not in the nature of a penalty. Such amounts are in lieu of any amounts payable under any other salary continuation or cash severance arrangement of the Company and to the extent paid or provided under any other such arrangement shall be offset from the amount due hereunder. 11 CHANGE IN CONTROL. For purposes of this Agreement, the term "Change in Control" shall mean (i) any "person" as such term is used in Sections 13(d) and 14(d) of the Securities Exchange Act of 1934 ("Act") (other than the Company, any trustee or other fiduciary holding securities under any employee benefit plan of the Company, or any company owned, directly or indirectly, by the stockholders of the Company in substantially the same proportions as their ownership of common stock of the Company), becoming the "beneficial owner" (as defined in Rule 13d-3 under the Exchange Act), directly or indirectly, of securities of the Company representing twenty-five percent (25%) or more of the combined voting power of the Company's then outstanding securities; (ii) during any period of two (2) consecutive years, individuals who at the beginning of such period constitute the Board, and any new director (other than a director designated by a person who has entered into an agreement with the Company to effect a transaction described in clause (i), (iii), or (iv) of this paragraph or a director whose initial assumption of office occurs as a result of either an actual or threatened election contest (as such terms are used in Rule 14a-11 promulgated under the Act) or other actual or threatened solicitation of proxies or consents by or on behalf of a person other than a member of the Board) whose election by the Board or nomination for election by the Company's shareholders was approved by a vote of at least two-thirds of the directors then still in office who either were directors at the beginning of the two (2) year period or whose election or nomination for election was previously so approved, cease for any reason to constitute at least a majority of the Board; (iii) the merger or consolidation of the Company with any other corporation, other than a merger or consolidation which would result in the voting securities of the Company outstanding immediately prior thereto continuing to represent (either by remaining outstanding or by being converted into voting securities of the surviving entity) more than fifty percent (50%) of the combined voting power of the voting securities of the Company or such surviving entity outstanding immediately after such merger or consolidation; provided, however, that a merger or consolidation effected to implement a recapitalization of the Company (or similar transaction) in which no person (other than those covered in the exceptions in (i) above) acquires more than twenty-five percent (25%) of the combined voting power of the Company's then outstanding securities shall not constitute a Change in Control; or (iv) approval by the shareholders of the Company of a plan of complete liquidation of the Company or the closing of the sale or disposition by the Company of all or substantially all of the Company's assets other than the sale of all or substantially all of the assets of the Company to a person or persons who beneficially own, directly or indirectly, at least fifty percent (50%) or more of the combined voting power of the outstanding voting securities of the Company at the time of the sale. 12 INDEMNIFICATION. (a) The Company agrees that if Executive is made a party to or threatened to be made a party to any action, suit or proceeding, whether civil, criminal, administrative or investigative (a "Proceeding"), by reason of the fact that he is or was a director or officer of the Company, or is or was serving at the request of the Company as a director, officer, member, employee, fiduciary or agent of another corporation or of a partnership, joint venture, trust, other enterprise or non-profit organization, including, without limitation, service with respect to employee benefit plans, whether or not the basis of such Proceeding is alleged action in an official capacity as a director, officer, member, employee, fiduciary or agent while serving as a director, officer, member, employee, fiduciary or agent, he shall be indemnified and held harmless by the Company to the fullest extent authorized by Maryland law, as the same exists or may hereafter be amended, against all Expenses incurred or suffered by Executive in connection therewith, and such indemnification shall continue as to Executive even if Executive has ceased to be an officer, director, member, fiduciary or agent, or is no longer employed by the company, and shall inure to the benefit of his heirs, executors and administrators. (b) As used in this Agreement, the term "Expenses" shall include, without limitation, damages, losses, judgments, liabilities, fines, penalties, excise taxes, settlements and costs, attorneys' fees, accountants' fees, and disbursements and costs of attachment or similar bonds, investigations, and any expenses of establishing a right to indemnification under this Agreement. (c) Expenses incurred by Executive in connection with any Proceeding shall be paid by the Company in advance upon request of Executive and the giving by Executive of any undertakings required by applicable law. (d) Executive shall give the Company notice of any claim made against him for which indemnity will or could be sought under this Agreement. In addition, Executive shall give the Company such information and cooperation as it may reasonably require and as shall be within Executive's power and at such times and places as are reasonably convenient for Executive. (e) With respect to any Proceeding as to which Executive notifies the Company of the commencement thereof: (i) The Company will be entitled to participate therein at its own expense; and (ii) Except as otherwise provided below, to the extent that it may wish, the Company jointly with any other indemnifying party similarly notified will be entitled to assume the defense thereof, with counsel reasonably satisfactory to Executive. Executive also shall have the right to employ his own counsel in such action, suit or proceeding and the fees and expenses of such counsel shall be at the expense of the Company. (f) The Company shall not be liable to indemnify Executive under this Agreement for any amounts paid in settlement of any action or claim effected without its written consent. The Company shall not settle any action or claim in any manner which would impose any penalty or limitation on Executive without Executive's written consent. Neither the Company nor Executive will unreasonably withhold or delay their consent to any proposed settlement. (g) The right to indemnification and the payment of expenses incurred in defending a Proceeding in advance of its final disposition conferred in this Section 12 shall not be exclusive of any other right which Executive may have or hereafter may acquire under any statute, provision of the certificate of incorporation or by-laws of the Company, agreement, vote of stockholders or disinterested directors or otherwise. (h) The Company hereunder agrees to obtain officer and director liability insurance policies covering Executive and shall maintain at all times following the Commencement Date and during the Employment Term coverage under such policies in the aggregate with regard to all officers and directors, including Executive, of an amount not less than $10 million. 13 SPECIAL TAX PROVISION. (a) Anything in this Agreement to the contrary notwithstanding, in the event that any amount or benefit paid, payable, or to be paid, or distributed, distributable, or to be distributed to or with respect to Executive by the Company (whether pursuant to the terms of this Agreement or any other plan, arrangement or agreement with the Company, any person whose actions result in a change of ownership or effective control covered by Code Section 280G(b)(2) or any person affiliated with the Company or such person) as a result of a change in ownership or effective control of the Company or a direct or indirect parent thereof (or the assets of any of the foregoing) covered by Code Section 280G(b)(2) (collectively, the "Covered Payments") is or becomes subject to the excise tax imposed by or under Section 4999 of the Code (or any similar federal or state tax that may hereafter be imposed), and/or any interest, penalties or additions to tax, with respect to such excise tax (such excise tax, together with such interest penalties and additions to tax, is hereinafter collectively referred to as the "Excise Tax"), the Company shall pay to Executive an additional amount (the "Tax Reimbursement Payment") such that after payment by Executive of all taxes (including, without limitation, any interest or penalties and any Excise Tax imposed on or attributable to the Tax Reimbursement Payment itself), Executive retains an amount of the Tax Reimbursement Payment equal to the sum of (i) the amount of the Excise Tax imposed upon the Covered Payments, and (ii) without duplication, an amount equal to the product of (A) any deductions disallowed for federal, state or local income tax purposes because of the inclusion of the Tax Reimbursement Payment in Executive's adjusted gross income, and (B) the highest applicable marginal rate of federal, state or local income taxation, respectively, for the calendar year in which the Tax Reimbursement Payment is made or is to be made. The intent of this Section 13 is that (a) Executive, after paying his federal, state and local income tax and payroll taxes, will be in the same position as if he was not subject to the Excise Tax under Section 4999 of the Code (or any similar federal or state tax that may be imposed) and did not receive the extra payments pursuant to this Section 13 and this Section 13 shall be interpreted accordingly. (b) Except as otherwise provided in Section 13(a), for purposes of determining whether any of the Covered Payments will be subject to the Excise Tax and the amount of such Excise Tax, (i) such Covered Payments will be treated as "parachute payments" (within the meaning of Section 280G(b)(2) of the Code) and such payments in excess of the Code Section 280G(b)(3) "base amount" shall be treated as subject to the Excise Tax, unless, and except to the extent that, the Company's independent certified public accountants appointed prior to the change in ownership covered by Code Section 280G(b)(2) or legal counsel (reasonably acceptable to Executive) appointed by such public accountants (or, if the public accountants decline such appointment and decline appointing such legal counsel, such independent certified public accountants as promptly mutually agreed on in good faith by the Company and Executive) (the "Accountant"), deliver a written opinion to Executive, reasonably satisfactory to Executive's legal counsel, that Executive has a reasonable basis to claim that the Covered Payments (in whole or in part) (A) do not constitute "parachute payments", (B) represent reasonable compensation for services actually rendered (within the meaning of Section 280G(b)(4) of the Code) in excess of the "base amount" allocable to such reasonable compensation, or (C) such "parachute payments" are otherwise not subject to such Excise Tax (with appropriate legal authority, detailed analysis and explanation provided therein by the Accountants); and (ii) the value of any Covered Payments which are non-cash benefits or deferred payments or benefits shall be determined by the Accountant in accordance with the principles of Section 280G of the Code. (c) For purposes of determining the amount of the Tax Reimbursement Payment, Executive shall be deemed: (i) to pay federal, state and/or local income taxes at the highest applicable marginal rate of income taxation for the calendar year in which the Tax Reimbursement Payment is made or is to be made, and (ii) to have otherwise allowable deductions for federal, state and local income tax purposes at least equal to those disallowed due to the inclusion of the Tax Reimbursement Payment in Executive's adjusted gross income. (d) (i) (A) In the event that prior to the time Executive has filed any of his tax returns for the calendar year in which the change in ownership event covered by Code Section 280G(b)(2) occurred, the Accountant determines, for any reason whatever, the correct amount of the Tax Reimbursement Payment to be less than the amount determined at the time the Tax Reimbursement Payment was made, Executive shall repay to the Company, at the time that the amount of such reduction in Tax Reimbursement Payment is determined by the Accountant, the portion of the prior Tax Reimbursement Payment attributable to such reduction (including the portion of the Tax Reimbursement Payment attributable to the Excise Tax and federal, state and local income tax imposed on the portion of the Tax Reimbursement Payment being repaid by Executive, using the assumptions and methodology utilized to calculate the Tax Reimbursement Payment (unless manifestly erroneous)), plus interest on the amount of such repayment at the rate provided in Section 1274(b)(2)(B) of the Code. (B) In the event that the determination set forth in (A) above is made by the Accountant after the filing by Executive of any of his tax returns for the calendar year in which the change in ownership event covered by Code Section 280G(b)(2) occurred but prior to one (1) year after the occurrence of such change in ownership, Executive shall file at the request of the Company an amended tax return in accordance with the Accountant's determination, but no portion of the Tax Reimbursement Payment shall be required to be refunded to the Company until actual refund or credit of such portion has been made to Executive, and interest payable to the Company shall not exceed the interest received or credited to Executive by such tax authority for the period it held such portion (less any tax Executive must pay on such interest and which he is unable to deduct as a result of payment of the refund). (C) In the event Executive receives a refund pursuant to (B) above and repays such amount to the Company, Executive shall thereafter file for refunds or credits by reason of the repayments to the Company. Executive and the Company shall mutually agree upon the course of action, if any, to be pursued (which shall be at the expense of the Company) if Executive's claim for such refund or credit is denied. (D) Executive and the Company shall mutually agree upon the course of action, if any, to be pursued (which shall be at the expense of the Company) if Executive's claim for refund or credit is denied. (ii) In the event that the Excise Tax is later determined by the Accountants or the Internal Revenue Service to exceed the amount taken into account hereunder at the time the Tax Reimbursement Payment is made (including by reason of any payment the existence or amount of which cannot be determined at the time of the Tax Reimbursement Payment), the Company shall make an additional Tax Reimbursement Payment in respect of such excess (plus any interest, penalties or additions to tax payable with respect to such excess) once the amount of such excess is finally determined. (iii) In the event of any controversy with the Internal Revenue Service (or other taxing authority) under this Section 13, subject to subpart (i)(D) above, Executive shall permit the Company to control issues related to this Section 13 (at its expense), provided that such issues do not potentially materially adversely affect Executive, but Executive shall control any other issues. In the event the issues are interrelated, Executive and the Company shall in good faith cooperate so as not to jeopardize resolution of either issue, but if the parties cannot agree Executive shall make the final determination with regard to the issues. In the event of any conference with any taxing authority as to the Excise Tax or associated income taxes, Executive shall permit the representative of the Company to accompany him and Executive and his representative shall cooperate with the Company and its representative. (iv) With regard to any initial filing for a refund or any other action required pursuant to this Section 13 (other than by mutual agreement) or, if not required, agreed to by the Company and Executive, Executive shall cooperate fully with the Company, provided that the foregoing shall not apply to actions that are provided herein to be at the sole discretion of Executive. (e) The Tax Reimbursement Payment, or any portion thereof, payable by the Company shall be paid not later than the fifth day following the determination by the Accountant, and any payment made after such fifth day shall bear interest at the rate provided in Code Section 1274(b)(2)(B). The Company shall use its best efforts to cause the Accountant to promptly deliver the initial determination required hereunder and, if not delivered, within ninety (90) days after the change in ownership event covered by Section 280G(b)(2) of the Code, the Company shall pay Executive the Tax Reimbursement Payment set forth in an opinion from counsel recognized as knowledgeable in the relevant areas selected by Executive, and reasonably acceptable to the Company, within five (5) days after delivery of such opinion. In accordance with Section 16(g), the Company may withhold from the Tax Reimbursement Payment and deposit into applicable taxing authorities such amounts as are required to be withheld by applicable law. To the extent that Executive is required to pay estimated or other taxes on amounts received by Executive beyond any withheld amounts, Executive shall promptly make such payments. The amount of such payment shall be subject to later adjustment in accordance with the determination of the Accountant as provided herein. (f) The Company shall be responsible for all charges of the Accountant and if (e) is applicable the reasonable charges for the opinion given by Executive's counsel. (g) The Company and Executive shall mutually agree on and promulgate further guidelines in accordance with this Section 13 to the extent, if any, necessary to effect the reversal of excessive or shortfall Tax Reimbursement Payments. The foregoing shall not in any way be inconsistent with Section 13(d)(i)(D) hereof. 14 LEGAL AND OTHER FEES AND EXPENSES. In the event that a claim for payment or benefits under this Agreement is disputed, the Company shall pay all reasonable attorney, accountant and other professional fees and reasonable expenses incurred by Executive in pursuing such claim, unless the claim by Executive is found to be frivolous by any court or arbitrator. 15 ARBITRATION. Any dispute or controversy arising under or in connection with this Agreement shall be settled exclusively by arbitration conducted in the City of Portland in the State of Oregon under the Commercial Arbitration Rules then prevailing of the American Arbitration Association and such submission shall request the American Arbitration Association to: (i) appoint an arbitrator experienced and knowledgeable concerning the matter then in dispute; (ii) require the testimony to be transcribed; (iii) require the award to be accompanied by findings of fact and the statement for reasons for the decision; and (iv) request the matter to be handled by and in accordance with the expedited procedures provided for in the Commercial Arbitration Rules. The determination of the arbitrators, which shall be based upon a DE NOVO interpretation of this Agreement, shall be final and binding and judgment may be entered on the arbitrators' award in any court having jurisdiction. All costs of arbitration, including the cost of the American Arbitration Association and the arbitrator, shall be borne by the Company. 16 MISCELLANEOUS. (a) GOVERNING LAW. This Agreement shall be governed by and construed in accordance with the laws of the State of Oregon without reference to principles of conflicts of laws. (b) ENTIRE AGREEMENT/AMENDMENTS. This Agreement and the instruments contemplated herein, contain the entire understanding of the parties with respect to the employment of Executive by the Company from and after the Commencement Date and supersedes any prior agreements, whether written or otherwise, between the Company and Executive. There are no restrictions, agreements, promises, warranties, covenants or undertakings between the parties with respect to the subject matter herein other than those expressly set forth herein and therein. This Agreement may not be altered, modified, or amended except by written instrument signed by the parties hereto. (c) NO WAIVER. The failure of a party to insist upon strict adherence to any term of this Agreement on any occasion shall not be considered a waiver of such party's rights or deprive such party of the right thereafter to insist upon strict adherence to that term or any other term of this Agreement. Any such waiver must be in writing and signed by Executive or an authorized officer of the Company, as the case may be. (d) ASSIGNMENT. This Agreement shall not be assignable by Executive. This Agreement shall be assignable, with the consent of Executive, by the Company only to an acquiror of all or substantially all of the assets of the Company, provided such acquiror promptly assumes all of the obligations hereunder of the Company in a writing delivered to Executive and otherwise complies with the provisions hereof with regard to such assumption. (e) SUCCESSORS; BINDING AGREEMENT; THIRD PARTY BENEFICIARIES. This Agreement shall inure to the benefit of and be binding upon parties hereto and their personal or legal representatives, executors, administrators, successors, heirs, distributees, devisees legatees and permitted assignees of the parties hereto. If Executive dies while any amount would still be payable hereunder if Executive had continued to live, all such amounts, unless otherwise provided herein, shall be paid in accordance with the terms of the Agreement to the personal or legal representatives, executors, administrators, successors, heirs, distributees, devisees, legatees and permitted assignees of the parties hereto. (f) COMMUNICATIONS. For the purpose of this Agreement, notices and all other communications provided for in this Agreement shall be in writing and shall be deemed to have been duly given (i) when faxed or delivered, and (ii) two business days after being mailed by United States registered or certified mail, return receipt requested, postage prepaid, addressed to the respective addresses set forth on the initial page of this Agreement, provided that all notices to the Company shall be directed to the attention of Andrew A. Wiederhorn of the Company, or to such other address as any party may have furnished to the other in writing in accordance herewith. Notice of change of address shall be effective only upon receipt. (g) WITHHOLDING TAXES. The Company may withhold from any and all amounts payable under this Agreement such federal, state and local taxes as may be required to be withheld pursuant to any applicable law or regulation. (h) SURVIVORSHIP. The respective rights and obligations of the parties hereunder shall survive any termination of Executive's employment. (i) COUNTERPARTS. This Agreement may be signed in counterparts, each of which shall be an original, with the same effect as if the signatures thereto and hereto were upon the same instrument. (j) HEADINGS. The headings of the sections contained in this Agreement are for convenience only and shall not be deemed to control or affect the meaning or construction of any provision of this Agreement. IN WITNESS WHEREOF, the parties hereto have duly executed this Agreement as of the day and year first above written. WILSHIRE REAL ESTATE INVESTMENT INC., on its behalf and as general partner for WILSHIRE REAL ESTATE PARTNERSHIP L.P. By: /s/ ---------------------------------------- Name: Title: /s/ Lawrence A. Mendelsohn --------------------------- Lawrence A. Mendelsohn EX-10.12 4 EMPLOYMENT AGREEMENT Exhibit 10.12 [EXECUTION COPY] EMPLOYMENT AGREEMENT EMPLOYMENT AGREEMENT, dated as of October 9, 1999, by and between Wilshire Real Estate Investment Inc. and Wilshire Real Estate Partnership L.P. (together or individually, the "Company"), with its principal office at 1310 SW 17th Street, Portland, Oregon 97201 and Chris Tassos, residing at 994 Country Commons Lane, Lake Oswego, Oregon 97034 (the "Executive"). W I T N E S S E T H: WHEREAS, Executive is currently employed as an executive of the Company; and WHEREAS, the Company and Executive desire to enter into this agreement (the "Agreement") to set forth terms of Executive's employment by the Company. NOW, THEREFORE, in consideration of the premises and mutual covenants contained herein and for other good and valuable consideration, the parties agree as follows: 1. TERM OF EMPLOYMENT. Except for earlier termination as provided in Section 7 hereof, Executive's employment under this Agreement shall be for a three (3) year term (the "Employment Term") commencing on October 9, 1999 (the "Commencement Date"). Subject to Section 7 hereof, the Employment Term shall be automatically extended for additional terms of successive two (2) year periods unless the Company or Executive gives written notice of the termination of Executive's employment hereunder at least ninety (90) days prior to the expiration of the then current Employment Term. 2. POSITION. (a) Executive shall serve as an Executive Vice President and Chief Financial Officer of the Company. (b) Executive shall report directly to the Chief Executive Officer of the Company and shall have such duties and authority, consistent with his position as shall be determined from time to time by the Chief Executive Officer. (c) During the Employment Term, Executive shall devote substantially all of his business time, energy, skill and efforts to the performance of his duties and responsibilities hereunder; provided, however, that Executive shall be allowed to (i) engage in charitable activities and (ii) manage his personal financial and legal affairs. 3. SIGNING BONUS AND BASE SALARY. (a) Subject to the execution of a release and settlement agreement between Wilshire Financial Services Group Inc. ("WFSG") and Executive acceptable to WFSG, the Company will immediately pay to Executive a signing bonus of $250,000, net of any withholding taxes. (b) During the Employment Term, the Company shall pay Executive a base salary at the annual rate of not less than $250,000.00. Base salary shall be payable in accordance with the usual payroll practices of the Company (including withholding). Executive's Base Salary shall be subject to annual review by the Board in October of each year and may be increased, but not decreased, from time to time upon recommendation of the Compensation Committee of the Board (the "Committee"). The base salary determined as aforesaid from time to time shall constitute "Base Salary" for purposes of this Agreement. 4. INCENTIVE COMPENSATION. (a) BONUS. For each 12 month period commencing on September 30, 1999 (each, an "Annual Period"), Executive shall be entitled to receive an annual bonus (the "Bonus") as follows: (i) if Post-Bonus ROE for such Annual Period is 5% or greater but less than 10%, $162,500, (ii) if Post-Bonus ROE for such Annual Period is 10% or greater but less than 15%, $212,500, and (iii) if Post-Bonus ROE for such Annual Period is 15% or greater, $312,500 together with any discretionary bonus payable pursuant to Section 4(e) below. For purposes of this agreement, the following terms shall have the following meanings: "POST-BONUS EARNINGS" means the Company's after-tax income (as determined in accordance with generally accepted accounting principles and reflected on the Company's financial statements) for the relevant Annual Period or portion thereof determined after subtracting the after-tax amount of the Executive Bonus Payments payable for that Annual Period; provided, however, that in determining Post-Bonus Earnings for purposes of this Section 4, Post-Bonus Earnings shall be increased or decreased for the relevant Annual Period by the amount of unrealized gains or unrealized losses, as the case may be, which are incurred after the commencement of the relevant Annual Period and which are reflected directly in equity as "other comprehensive income or loss" during such Annual Period. "EQUITY" means the Company's total shareholders' equity (as determined in accordance with generally accepted accounting principles and reflected on the Company's financial statements) at the beginning of the relevant Annual Period; provided, however, that in determining Equity for purposes of this Section 4, Equity shall be increased by the amount of unrealized losses which are shown on the Company's balance sheet as of the beginning of the relevant Annual Period under the heading "other comprehensive income or loss". For example, if the Company's shareholders' equity as of September 30, 1999 was $63.831 million and there was $20.658 million of accumulated other comprehensive loss, then Equity would be $84.489 million. "POST-BONUS ROE" means the Company's Post-Bonus Earnings for the relevant Annual Period divided by its Equity at the beginning of the relevant Annual Period (expressed in percentage terms). "EXECUTIVE BONUS PAYMENTS" means, for each Annual Period, the aggregate amount of annual bonuses (excluding signing bonuses) payable to the following senior executives of the Company (or their successors): Andrew A. Wiederhorn, Lawrence A. Mendelsohn, Chris Tassos, Robert G. Rosen and Richard Brennan. To assist the reader in understanding the foregoing provisions, examples of such Bonus determinations are set forth on Schedule I hereto. Such annual Bonus shall be payable by November 15th of each year following the Annual Period for which the Bonus is payable and, if necessary, shall be adjusted for any subsequent amendments to the Company's financial statements. The Company will apply the annual Bonus to repay any outstanding Cash Flow Loan and any outstanding Excess Advance (each as defined below) prior to making any payment to Executive. To the extent that the Company repurchases any of its outstanding common stock or the Company's net operating losses under Section 382 of the Code (as defined below) are disallowed, the parties agree to negotiate in good faith to amend the incentive compensation provisions of this Section 4 to provide Executive with comparable goals and returns to those that existed prior to the occurrence of such events. Following the initial Employment Term, such Bonus shall be subject to shareholder approval as and to the extent required by Section 162(m) of the Internal Revenue Code of 1986, as amended (the "Code"). Notwithstanding the foregoing, $93,750 of the signing bonus of $250,000 will be deemed to be a payment by the Company to Executive of that portion of the annual Bonus attributable to the fourth calendar quarter of 1999; provided, however that (i) to the extent that Executive would be entitled to receive less than $93,750 for that portion of the annual Bonus attributable to the fourth calendar quarter of 1999, the annual Bonus payable in November 2000 shall be determined as provided above less that portion of the annual Bonus attributable to the fourth calendar quarter of 1999 (and not $93,750) and (ii) to the extent that Executive would be entitled to receive more than $93,750 for that portion of the annual Bonus attributable to the fourth calendar quarter of 1999, the annual Bonus payable in November 2000 shall be determined as provided above less $93,750. In addition, to the extent that Executive would receive less than $93,750 for that portion of the annual Bonus attributable to the fourth calendar quarter of 1999 or for the relevant Annual Period, such $93,750 will be treated as a non-refundable, minimum payment for such period and for the relevant Annual Period. To the extent that Executive would receive more than $93,750 for that portion of the annual Bonus attributable to the fourth calendar quarter of 1999, the Company will pay, and allow Executive to draw against, any amount in excess of such $93,750 as provided above. (b) ADVANCES. Following any quarterly period during an Annual Period, the Company shall, at the request of the Executive, pay an advance on any such Bonus; provided, however, that (i) any such advance (together with any prior advances made during the relevant Annual Period) shall not exceed 80% of the pro rata portion of the Estimated Annual Bonus (as defined below) attributable to such quarterly period and to any prior quarterly periods during such Annual Period, (ii) any advances available to Executive (whether or not requested) during any quarterly period shall be applied to repay any outstanding Cash Flow Loan, and (iii) any such advance shall not exceed $60,000 per quarter. Any such advances shall be treated as advances of Executive's Bonus and shall not bear interest. The Estimated Annual Bonus is determined by annualizing the Company's Post-Bonus Earnings (based on the Company's financial statements) for the quarterly period or periods during such Annual Period (or for purposes of Section 8, monthly periods) and determining the annual Bonus payable to Executive as described in Section 4(a). In the event that the aggregate amount of advances outstanding immediately following the end of any quarterly period during the relevant Annual Period exceeds 80% of the pro rata portion of the Estimated Annual Bonus ("Permitted Advances") determined immediately following such quarterly period, the amount in excess of the Permitted Advances shall be treated as an interest free loan from the Company ("Advance Reimbursement Loan") for the next succeeding quarterly period (the "Following Quarter") and if at the end of the Following Quarter the aggregate amount of outstanding advances continues to exceed the Permitted Advances (the "Excess Advance"), Executive shall repay the Excess Advance to the Company within 30 days of the end of such Following Quarter. (c) CASH FLOW LOAN. To provide Executive with a minimum amount of cash flow at the end of each Annual Period and to the extent Executive did not receive an annual Bonus of at least $500,000 for such period, Executive may borrow (a "Cash Flow Loan") from the Company on the date his annual Bonus is paid (the "Bonus Payment Date") up to the after-tax equivalent (assuming a tax rate of 40%) of the difference between (i) $312,500 and (ii) actual annual Bonus payable for the Annual Period just ending; provided, however that (x) the proceeds of any new Cash Flow Loan shall be used first to repay any outstanding Cash Flow Loan and then to any outstanding Excess Advance and (y) the outstanding amount of any Cash Flow Loan shall not exceed $180,000 at any time. The Cash Flow Loan shall be considered a draw on Executive's next Bonus. Except if Executive is terminated, the Cash Flow Loan shall mature on the next Bonus Payment Date and shall not bear interest. If Executive is terminated, the Cash Flow Loan shall mature as provided in Section 8 and shall accrue interest on the then outstanding principal amount of the Cash Flow Loan from the date of termination until maturity at a rate equal to the prime rate as published in the Wall Street Journal on the date of termination, payable annually in arrears. (d) OPTIONS. The Company shall grant to Executive stock options (the "Initial Options") on 120,000 shares of the Company's common stock (the "Common Stock") under the Company's Incentive Stock Plan (the "Incentive Stock Plan"). The Initial Options shall have an exercise price equal to the Company's book value per outstanding share as of September 30, 1999, which exercise price is in excess of the market value per share based on the share price of the Common Stock as of such date. The Initial Options will be fully exercisable at the time of vesting and 25% of the Initial Options shall vest on each anniversary of this Agreement (which will result in the Initial Options being fully vested on the fourth anniversary of this Agreement). In addition, the Executive shall be entitled to participate in the Company's Incentive Stock Plan and receive nonqualified, incentive or other options ("Options") to purchase shares of the Company's Common Stock under the Incentive Stock Plan as determined by the Committee from time to time provided that the Incentive Stock Plan is approved by the shareholders of the Company to the extent required by Section 162(m) of the Code. Notwithstanding the foregoing, the Company may recommend to the Committee that Executive be granted Options under a plan other than the Incentive Stock Plan provided that such other plan contains terms and conditions which are substantially similar to the terms and conditions of the Incentive Stock Plan, and further provided, that such other plan is approved by the shareholders of the Company to the extent required by Section 162(m) of the Code. To the extent permitted under applicable law, any Options granted to Executive hereunder (including the Initial Options) may be assigned and transferred by Executive to entities created for or on behalf of Executive's immediate family for tax planning or other purposes. (e) OTHER COMPENSATION. The Company may, upon recommendation of the Committee, award to Executive such other bonuses and compensation as it deems appropriate and reasonable. 5. EMPLOYEE BENEFITS AND VACATION. (a) During the Employment Term, Executive shall be entitled to participate in all pension, retirement, savings, welfare and other employee benefit plans and arrangements, including, without limitation, any nonqualified deferred compensation plans, maintained by the Company from time to time for the benefit of the senior executives of the Company in accordance with their respective terms as in effect from time to time. Executive acknowledges that the aforementioned items may be included as compensation for income tax purposes to the extent required by applicable law. To the extent permitted under applicable law, the Company shall not treat as compensation to Executive fringes and perquisites provided to Executive or the items under Section 6 below. (b) During the Employment Term, the Company agrees to loan to Executive $50,000 during each year of the Employment Term to purchase shares of Common Stock of the Company up to a maximum of $250,000. Each annual loan made pursuant to this Section 5(b) (the "Stock Purchase Loans") shall mature on the earlier of (i) its fifth anniversary and (ii) six months after Executive is no longer employed by the Company. The Stock Purchase Loans shall accrue interest on the then outstanding principal amount of the Stock Purchase Loans from the date of any Loan is made until maturity at a rate equal to the prime rate as published in the Wall Street Journal on the date any Stock Purchase Loan is made pursuant hereto and shall be payable annually in arrears. Interest on the Stock Purchase Loan will not be paid in cash but shall be payable in kind (i.e. the amount of interest accrued on the Stock Purchase Loan during each annual period will be added to the principal amount of the Loan at the end of such annual period). The Stock Purchase Loans will be full recourse loans against Executive and each loan will be secured by the shares of Common Stock purchased with each such Stock Purchase Loan together with other shares of Common Stock pledged by Executive so that the aggregate value (based on the closing price on the acquisition date of such shares on the Nasdaq stock market) of all such shares securing each new Stock Purchase Loan shall be at least equal to 110% of the principal amount of the Stock Purchase Loans. (c) During the Employment Term, Executive shall be entitled to vacation each year in accordance with the Company's policies in effect from time to time, but in no event less than five (5) weeks paid vacation per calendar year. Executive shall also be entitled to such periods of sick leave as is customarily provided by the Company for its senior executive employees. 6. BUSINESS EXPENSES. The Company shall also reimburse Executive for the travel, entertainment and other business expenses incurred by Executive in the performance of his duties hereunder, in accordance with the Company's policies as in effect from time to time. 7. TERMINATION. (a) The employment of Executive under this Agreement shall terminate upon the occurrence of any of the following events: (i) the death of Executive; (ii) the termination of Executive's employment by the Company due to Executive's Disability pursuant to Section 7(b) hereof; (iii) the termination of Executive's employment by Executive for Good Reason pursuant to Section 7(c) hereof; (iv) the termination of Executive's employment by the Company without Cause; (v) the termination of employment by Executive without Good Reason upon sixty (60) days prior written notice; (vi) the termination of employment by Executive for any reason during the period commencing on the date of a Change in Control and ending on the day immediately prior to the second anniversary of the Change in Control (the "Change in Control Protection Period"); (vii) the termination of Executive's employment by the Company for Cause pursuant to Section 7(e); or (viii) the retirement of Executive by the Company at or after his sixty-fifth birthday to the extent such termination is specifically permitted as a stated exception from applicable federal and state age discrimination laws based on position and retirement benefits. (b) DISABILITY. If, by reason of the same or related physical or mental reasons, Executive is unable to carry out Executive's material duties pursuant to this Agreement for more than six (6) months in any twelve (12) consecutive month period (a "Disability") as determined and certified in writing by two (2) licensed physicians, one of which is Executive's regular attending physician, the Company may terminate Executive's employment for Disability upon thirty (30) days prior written notice, by a notice of Disability termination, at any time thereafter during such twelve (12) month period in which Executive is unable to carry out his duties as a result of the same or related physical or mental illness. Such termination shall not be effective if Executive returns to the full time performance of his material duties within such thirty (30) day notice period. (c) TERMINATION FOR GOOD REASON. A Termination for Good Reason means a termination by Executive by written notice given within sixty (60) days after the occurrence of the Good Reason event. For purposes of this Agreement, "Good Reason" shall mean the occurrence or failure to cause the occurrence, as the case may be, without Executive's express written consent, of any of the following circumstances, unless such circumstances are fully corrected prior to the date of termination specified in the Notice of Termination for Good Reason (as defined in Section 7(d) hereof): (i) any material diminution of Executive's positions, duties or responsibilities hereunder (except in each case in connection with the termination of Executive's employment for Cause or Disability or as a result of Executive's death, or temporarily as a result of Executive's illness or other absence), or the assignment to Executive of duties or responsibilities that are inconsistent with Executive's position; (ii) removal of Executive from, or the non reelection of Executive to, the positions with the Company specified herein; (iii) a relocation of the Company's principal United States executive offices to a location more than fifty (50) miles from Portland, Oregon, or a relocation of Executive away from such principal United States executive office; (iv) a failure by the Company (A) to continue any bonus plan, program or arrangement in which Executive is entitled to participate (the "Bonus Plans"), provided that any such Bonus Plans may be modified at the Company's discretion from time to time but shall be deemed terminated if (x) any such plan does not remain substantially in the form in effect prior to such modification and (y) if plans providing Executive with substantially similar benefits are not substituted therefor ("Substitute Plans"), or (B) to continue Executive as a participant in the Bonus Plans and Substitute Plans on at least the same basis as to potential amount of the bonus and substantially the same level of criteria for achievability thereof as Executive participated in immediately prior to any change in such plans or awards, in accordance with the Bonus Plans and the Substitute Plans; (v) any material breach by the Company of any material provision of this Agreement; (vi) a failure of any successor to the Company to assume in a writing delivered to Executive upon the assignee becoming such the obligations of the Company hereunder; or (vii) a failure of the Committee to grant Executive an award of Options in accordance with Section 4 hereof, unless the applicable circumstances under (i) through (vii) are fully corrected prior to the date of termination specified in the notice of termination for Good Reason. (d) NOTICE OF TERMINATION FOR GOOD REASON. A notice of termination for Good Reason shall mean a notice that shall indicate the specific termination provision in Section 7(c) relied upon and shall set forth in reasonable detail the facts and circumstances claimed to provide a basis for termination for Good Reason. The failure by Executive to set forth in the notice of termination for Good Reason any facts or circumstances which contribute to the showing of Good Reason shall not waive any right of Executive hereunder or preclude Executive from asserting such fact or circumstance in enforcing his rights hereunder. The notice of termination for Good Reason shall provide for a date of termination not less than fifteen (15) nor more than sixty (60) days after the date such notice of termination for Good Reason is given. (e) CAUSE. Subject to the notification provisions of Section 7(f) below, Executive's employment hereunder may be terminated by the Company for Cause. For purposes of this Agreement, the term "Cause" shall be limited to (i) willful misconduct by Executive with regard to the Company or its business which has a material adverse effect on the Company; (ii) the refusal of Executive to follow the direction of the Chief Executive Officer, provided that the foregoing refusal shall not be "Cause" if Executive in good faith believes that such direction is illegal, unethical or immoral and promptly so notifies the Chief Executive Officer; (iii) Executive being convicted of a felony (other than a felony involving a traffic offense); (iv) the breach by Executive of any fiduciary duty owed by Executive to the Company which has a material adverse effect on the Company; or (v) Executive's material fraud with regard to the Company. (f) NOTICE OF TERMINATION FOR CAUSE. A notice of termination for Cause shall mean a notice that shall indicate the specific termination provision in Section 7(e) relied upon and shall set forth in reasonable detail the facts and circumstances which provide a basis for termination for Cause. The date of termination for a termination for Cause shall be the date indicated in the notice of termination. Any purported termination for Cause which is held by a court or arbitrator not to have been based on the grounds set forth in this Agreement or not to have followed the procedures set forth in this Agreement shall be deemed a termination by the Company without Cause. 8. CONSEQUENCES OF TERMINATION OF EMPLOYMENT. (a) DEATH. If Executive's employment is terminated during the Employment Term by reason of Executive's death, the employment period under this Agreement shall terminate without further obligations to Executive's legal representatives under this Agreement except for: (i) any compensation earned but not yet paid, including without limitation, any unpaid bonus due, any amount of Base Salary or deferred compensation accrued or earned but unpaid, any accrued vacation payable pursuant to the Company's policies and any unreimbursed business expenses payable pursuant to Section 6 which amounts shall be promptly paid in a lump sum to Executive's spouse; (ii) the Estimated Annual Bonus for the fiscal year of Executive's death, pro rated through the end of month in which Executive died, which bonus shall be paid to Executive's spouse within 60 days after such month end; (iii) full accelerated vesting under all outstanding equity-based and long-term incentive plans (with options remaining outstanding as provided under the applicable stock option plan and a pro rata payment under any long term incentive plans based on actual coverage under such plans at the time payments normally would be made under such plans); (iv) subject to Section 10 hereof, any other amounts or benefits owing to Executive under the then applicable employee benefit plans or policies of the Company, which shall be paid in accordance with such plans or policies; (v) payment on a monthly basis of six (6) months of Executive's Base Salary on the date of death, which shall be paid to Executive's estate; (vi) any outstanding Cash Flow Loan shall be repaid over five years in five fully amortizing annual installments, with the first installment becoming due and payable on the first anniversary of the date of termination; (vii) any outstanding Advance Reimbursement Loan shall mature as provided in Section 4; (viii) any outstanding Stock Purchase Loan shall become due and payable six months after the date of termination, and (ix) payment of Executive's spouse's and dependents' COBRA coverage premiums to the extent, and so long as, they remain eligible for COBRA coverage, but in no event more than one (1) year. Section 12 hereof shall also continue to apply. (b) DISABILITY. If Executive's employment is terminated by reason of Executive's Disability, Executive shall be entitled to receive the payments and benefits to which his representatives would be entitled in the event of a termination of employment by reason of his death, provided that the payment of Base Salary shall be reduced by the projected amount Executive would receive under any long-term disability policy or program maintained by the Company during the six (6) month period during which Base Salary is being paid. Section 12 hereof shall also continue to apply. (c) TERMINATION BY EXECUTIVE FOR GOOD REASON OR FOR ANY REASON DURING THE CHANGE IN CONTROL PROTECTION PERIOD OR TERMINATION BY THE COMPANY WITHOUT CAUSE OR NONEXTENSION OF THE TERM BY THE COMPANY. If (i) outside of the Change in Control Protection Period, Executive terminates his employment hereunder for Good Reason during the Employment Term, (ii) a Change in Control occurs and during the Change in Control Protection Period Executive terminates his employment for any reason, (iii) Executive's employment with the Company is terminated by the Company without Cause, or (iv) Executive's employment with the Company terminates as a result of the Company giving notice of nonextension of the Employment Term pursuant to Section 1 hereof, Executive shall be entitled to receive: (A) in a lump sum within ten (10) business days after such termination (unless otherwise specified) (i) the Estimated Annual Bonus payable to Executive for the Annual Period, pro rated through the end of month in which Executive is terminated, which bonus shall be paid within 45 days after such month end, (ii) any unreimbursed business expenses payable pursuant to Section 6, and (iii) any Base Salary, Bonus, vacation pay or other deferred compensation accrued or earned under law or in accordance with the Company's policies but not yet paid at the date of termination; (B) accelerated full vesting under all outstanding equity-based and long-term incentive plans with Options remaining outstanding as provided under the applicable stock option plan and a pro rata payment under any long term incentive plans based on actual coverage under such plans payment being made at the time payments would normally be made under such plans; (C) subject to Section 10 hereof, any other amounts or benefits due Executive under the then applicable employee benefit plans of the Company as shall be determined and paid in accordance with such plans, policies and practices; (D) one (1) year of additional service and compensation credit (at his then compensation level) for pension purposes under any defined benefit type qualified or nonqualified pension plan or arrangement of the Company, measured from the date of termination of employment and not credited to the extent that Executive is otherwise entitled to such credit during such one (1) year period, which payments shall be made through and in accordance with the terms of the nonqualified defined benefit pension arrangement if any then exists, or, if not, in an actuarially equivalent lump sum (using the actuarial factors then applying in the Company's defined benefit plan covering Executive); (E) one (1) year of the maximum Company contribution (assuming Executive deferred the maximum amount and continued to earn his then current salary) measured from the date of termination under any type of qualified or nonqualified 401(k) plan (payable at the end of each such year); (F) any outstanding Cash Flow Loan shall be repaid over five years in five fully amortizing annual installments, with the first installment becoming due and payable on the first anniversary of the date of termination; (G) any outstanding Advance Reimbursement Loan shall mature as provided in Section 4; (H) any outstanding Stock Purchase Loan shall become due and payable six months after the date of termination; and (I) payment by the Company of the premiums for Executive (except in the case of death) and his spouse's and dependents' health coverage for one (1) year under the Company's health plans which cover the senior executives of the Company or materially similar benefits. Payments under (I) above may, at the discretion of the Company, be made by continuing participation of Executive in the plan as a terminee, by paying the applicable COBRA premium for Executive and his spouse and dependents, or by covering Executive and his spouse and dependents under substitute arrangements, provided that, to the extent Executive incurs tax that he would not have incurred as an active employee as a result of the aforementioned coverage or the benefits provided thereunder, Executive shall receive from the Company an additional payment in the amount necessary so that he will have no additional cost for receiving such items or any additional payment. In the circumstances described in each of (i) through (iv) above, Section 12 hereof shall also continue to apply. (d) TERMINATION FOR CAUSE OR VOLUNTARY RESIGNATION WITHOUT GOOD REASON OR RETIREMENT. If Executive's employment hereunder is terminated: (i) by the Company for Cause, (ii) by Executive without Good Reason outside of the Change in Control Protection Period, or (iii) by the Company pursuant to Section 7(a)(viii) hereof, Executive shall be entitled to receive his Base Salary through the date of termination, the Estimated Annual Bonus prorated through the last day of the month in which Executive is terminated, and any unreimbursed business expenses payable pursuant to Section 6. In addition, any outstanding Cash Flow Loan shall be repaid over five years in five fully amortizing annual installments, with the first installment becoming due and payable on the first anniversary of the date of termination; any outstanding Advance Reimbursement Loan shall mature as provided in Section 4; and any outstanding Stock Purchase Loan shall become due and payable six months after the date of termination. All other benefits (including, without limitation, Options) due Executive following such termination of employment shall be determined in accordance with the plans, policies and practices of the Company. 9 [THIS SECTION IS INTENTIONALLY LEFT BLANK.] 10 NO MITIGATION; NO SET-OFF. In the event of any termination of employment under Section 8, Executive shall be under no obligation to seek other employment and, except as explicitly set forth herein, there shall be no offset against any amounts due Executive under this Agreement on account of any remuneration attributable to any subsequent employment that Executive may obtain. Any amounts due under Section 8 are in the nature of severance payments, or liquidated damages, or both, and are not in the nature of a penalty. Such amounts are in lieu of any amounts payable under any other salary continuation or cash severance arrangement of the Company and to the extent paid or provided under any other such arrangement shall be offset from the amount due hereunder. 11 CHANGE IN CONTROL. For purposes of this Agreement, the term "Change in Control" shall mean (i) any "person" as such term is used in Sections 13(d) and 14(d) of the Securities Exchange Act of 1934 ("Act") (other than the Company, any trustee or other fiduciary holding securities under any employee benefit plan of the Company, or any company owned, directly or indirectly, by the stockholders of the Company in substantially the same proportions as their ownership of common stock of the Company), becoming the "beneficial owner" (as defined in Rule 13d-3 under the Exchange Act), directly or indirectly, of securities of the Company representing twenty-five percent (25%) or more of the combined voting power of the Company's then outstanding securities; (ii) during any period of two (2) consecutive years, individuals who at the beginning of such period constitute the Board, and any new director (other than a director designated by a person who has entered into an agreement with the Company to effect a transaction described in clause (i), (iii), or (iv) of this paragraph or a director whose initial assumption of office occurs as a result of either an actual or threatened election contest (as such terms are used in Rule 14a-11 promulgated under the Act) or other actual or threatened solicitation of proxies or consents by or on behalf of a person other than a member of the Board) whose election by the Board or nomination for election by the Company's shareholders was approved by a vote of at least two-thirds of the directors then still in office who either were directors at the beginning of the two (2) year period or whose election or nomination for election was previously so approved, cease for any reason to constitute at least a majority of the Board; (iii) the merger or consolidation of the Company with any other corporation, other than a merger or consolidation which would result in the voting securities of the Company outstanding immediately prior thereto continuing to represent (either by remaining outstanding or by being converted into voting securities of the surviving entity) more than fifty percent (50%) of the combined voting power of the voting securities of the Company or such surviving entity outstanding immediately after such merger or consolidation; provided, however, that a merger or consolidation effected to implement a recapitalization of the Company (or similar transaction) in which no person (other than those covered in the exceptions in (i) above) acquires more than twenty-five percent (25%) of the combined voting power of the Company's then outstanding securities shall not constitute a Change in Control; or (iv) approval by the shareholders of the Company of a plan of complete liquidation of the Company or the closing of the sale or disposition by the Company of all or substantially all of the Company's assets other than the sale of all or substantially all of the assets of the Company to a person or persons who beneficially own, directly or indirectly, at least fifty percent (50%) or more of the combined voting power of the outstanding voting securities of the Company at the time of the sale. 12 INDEMNIFICATION. (a) The Company agrees that if Executive is made a party to or threatened to be made a party to any action, suit or proceeding, whether civil, criminal, administrative or investigative (a "Proceeding"), by reason of the fact that he is or was an officer of the Company, or is or was serving at the request of the Company as an officer, member, employee, fiduciary or agent of another corporation or of a partnership, joint venture, trust, other enterprise or non-profit organization, including, without limitation, service with respect to employee benefit plans, whether or not the basis of such Proceeding is alleged action in an official capacity as an officer, member, employee, fiduciary or agent while serving as an officer, member, employee, fiduciary or agent, he shall be indemnified and held harmless by the Company to the fullest extent authorized by Maryland law, as the same exists or may hereafter be amended, against all Expenses incurred or suffered by Executive in connection therewith, and such indemnification shall continue as to Executive even if Executive has ceased to be an officer, member, fiduciary or agent, or is no longer employed by the Company, and shall inure to the benefit of his heirs, executors and administrators. (b) As used in this Agreement, the term "Expenses" shall include, without limitation, damages, losses, judgments, liabilities, fines, penalties, excise taxes, settlements and costs, attorneys' fees, accountants' fees, and disbursements and costs of attachment or similar bonds, investigations, and any expenses of establishing a right to indemnification under this Agreement. (c) Expenses incurred by Executive in connection with any Proceeding shall be paid by the Company in advance upon request of Executive and the giving by Executive of any undertakings required by applicable law. (d) Executive shall give the Company notice of any claim made against him for which indemnity will or could be sought under this Agreement. In addition, Executive shall give the Company such information and cooperation as it may reasonably require and as shall be within Executive's power and at such times and places as are reasonably convenient for Executive. (e) With respect to any Proceeding as to which Executive notifies the Company of the commencement thereof: (i) The Company will be entitled to participate therein at its own expense; and (ii) Except as otherwise provided below, to the extent that it may wish, the Company jointly with any other indemnifying party similarly notified will be entitled to assume the defense thereof, with counsel reasonably satisfactory to Executive. Executive also shall have the right to employ his own counsel in such action, suit or proceeding and the fees and expenses of such counsel shall be at the expense of the Company. (f) The Company shall not be liable to indemnify Executive under this Agreement for any amounts paid in settlement of any action or claim effected without its written consent. The Company shall not settle any action or claim in any manner which would impose any penalty or limitation on Executive without Executive's written consent. Neither the Company nor Executive will unreasonably withhold or delay their consent to any proposed settlement. (g) The right to indemnification and the payment of expenses incurred in defending a Proceeding in advance of its final disposition conferred in this Section 12 shall not be exclusive of any other right which Executive may have or hereafter may acquire under any statute, provision of the certificate of incorporation or by-laws of the Company, agreement, vote of stockholders or disinterested directors or otherwise. (h) The Company hereunder agrees to obtain officer liability insurance policies covering Executive and shall maintain at all times following the Commencement Date and during the Employment Term coverage under such policies in the aggregate with regard to all officers and directors, including Executive, of an amount not less than $10 million. 13 LEGAL AND OTHER FEES AND EXPENSES. In the event that a claim for payment or benefits under this Agreement is disputed, the Company shall pay all reasonable attorney, accountant and other professional fees and reasonable expenses incurred by Executive in pursuing such claim, unless the claim by Executive is found to be frivolous by any court or arbitrator. 14 ARBITRATION. Any dispute or controversy arising under or in connection with this Agreement shall be settled exclusively by arbitration conducted in the City of Portland in the State of Oregon under the Commercial Arbitration Rules then prevailing of the American Arbitration Association and such submission shall request the American Arbitration Association to: (i) appoint an arbitrator experienced and knowledgeable concerning the matter then in dispute; (ii) require the testimony to be transcribed; (iii) require the award to be accompanied by findings of fact and the statement for reasons for the decision; and (iv) request the matter to be handled by and in accordance with the expedited procedures provided for in the Commercial Arbitration Rules. The determination of the arbitrators, which shall be based upon a DE NOVO interpretation of this Agreement, shall be final and binding and judgment may be entered on the arbitrators' award in any court having jurisdiction. All costs of arbitration, including the costs of the American Arbitration Association and the arbitrator, shall be borne by the Company. 15 MISCELLANEOUS. (a) GOVERNING LAW. This Agreement shall be governed by and construed in accordance with the laws of the State of Oregon without reference to principles of conflicts of laws. (b) ENTIRE AGREEMENT/AMENDMENTS. This Agreement and the instruments contemplated herein, contain the entire understanding of the parties with respect to the employment of Executive by the Company from and after the Commencement Date and supersedes any prior agreements, whether written or otherwise, between the Company and Executive. There are no restrictions, agreements, promises, warranties, covenants or undertakings between the parties with respect to the subject matter herein other than those expressly set forth herein and therein. This Agreement may not be altered, modified, or amended except by written instrument signed by the parties hereto. (c) NO WAIVER. The failure of a party to insist upon strict adherence to any term of this Agreement on any occasion shall not be considered a waiver of such party's rights or deprive such party of the right thereafter to insist upon strict adherence to that term or any other term of this Agreement. Any such waiver must be in writing and signed by Executive or an authorized officer of the Company, as the case may be. (d) ASSIGNMENT. This Agreement shall not be assignable by Executive. This Agreement shall be assignable, with the consent of Executive, by the Company only to an acquiror of all or substantially all of the assets of the Company, provided such acquiror promptly assumes all of the obligations hereunder of the Company in a writing delivered to Executive and otherwise complies with the provisions hereof with regard to such assumption. (e) SUCCESSORS; BINDING AGREEMENT; THIRD PARTY BENEFICIARIES. This Agreement shall inure to the benefit of and be binding upon parties hereto and their personal or legal representatives, executors, administrators, successors, heirs, distributees, devisees legatees and permitted assignees of the parties hereto. If Executive dies while any amount would still be payable hereunder if Executive had continued to live, all such amounts, unless otherwise provided herein, shall be paid in accordance with the terms of the Agreement to the personal or legal representatives, executors, administrators, successors, heirs, distributees, devisees, legatees and permitted assignees of the parties hereto. (f) COMMUNICATIONS. For the purpose of this Agreement, notices and all other communications provided for in this Agreement shall be in writing and shall be deemed to have been duly given (i) when faxed or delivered, and (ii) two business days after being mailed by United States registered or certified mail, return receipt requested, postage prepaid, addressed to the respective addresses set forth on the initial page of this Agreement, provided that all notices to the Company shall be directed to the attention of Andrew A. Wiederhorn of the Company, or to such other address as any party may have furnished to the other in writing in accordance herewith. Notice of change of address shall be effective only upon receipt. (g) WITHHOLDING TAXES. The Company may withhold from any and all amounts payable under this Agreement such federal, state and local taxes as may be required to be withheld pursuant to any applicable law or regulation. (h) SURVIVORSHIP. The respective rights and obligations of the parties hereunder shall survive any termination of Executive's employment. (i) COUNTERPARTS. This Agreement may be signed in counterparts, each of which shall be an original, with the same effect as if the signatures thereto and hereto were upon the same instrument. (j) HEADINGS. The headings of the sections contained in this Agreement are for convenience only and shall not be deemed to control or affect the meaning or construction of any provision of this Agreement. IN WITNESS WHEREOF, the parties hereto have duly executed this Agreement as of the day and year first above written. WILSHIRE REAL ESTATE INVESTMENT INC., on its behalf and as general partner for WILSHIRE REAL ESTATE PARTNERSHIP L.P. By: /s/ _________________________________ Name: Title: /s/ Chris Tassos ---------------- Chris Tassos EX-10.13 5 EMPLOYMENT AGREEMENT Exhibit 10.13 [EXECUTION COPY] EMPLOYMENT AGREEMENT EMPLOYMENT AGREEMENT, dated as of October 9, 1999, by and between Wilshire Real Estate Investment Inc. and Wilshire Real Estate Partnership L.P. (collectively and individually, the "Company"), with its principal office at 1310 SW 17th Street, Portland, Oregon 97201 and Robert G. Rosen, residing at 1623 Glenmorrie Drive, Lake Oswego, Oregon 97034 (the "Executive"). W I T N E S S E T H: WHEREAS, Executive is currently employed as an executive of the Company; and WHEREAS, the Company and Executive desire to enter into this agreement (the "Agreement") to set forth terms of Executive's employment by the Company. NOW, THEREFORE, in consideration of the premises and mutual covenants contained herein and for other good and valuable consideration, the parties agree as follows: 1. TERM OF EMPLOYMENT. Except for earlier termination as provided in Section 7 hereof, Executive's employment under this Agreement shall be for a three (3) year term (the "Employment Term") commencing on October 9, 1999 (the "Commencement Date"). Subject to Section 7 hereof, the Employment Term shall be automatically extended for additional terms of successive two (2) year periods unless the Company or Executive gives written notice of the termination of Executive's employment hereunder at least ninety (90) days prior to the expiration of the then current Employment Term. 2. POSITION. (a) Executive shall serve as an Executive Vice President of the Company. (b) Executive shall report directly to the Chief Executive Officer of the Company and shall have such duties and authority, consistent with his position as shall be determined from time to time by the Chief Executive Officer. (c) During the Employment Term, Executive shall devote substantially all of his business time, energy, skill and efforts to the performance of his duties and responsibilities hereunder; provided, however, that Executive shall be allowed to (i) engage in charitable activities and (ii) manage his personal financial and legal affairs. 3. SIGNING BONUS AND BASE SALARY. (a) Subject to the execution of a release and settlement agreement between Wilshire Financial Services Group Inc. ("WFSG") and Executive acceptable to WFSG, the Company will immediately pay to Executive a signing bonus of $300,000, net of any withholding taxes. In addition, in the event that the Company, through any material efforts of Executive, sells, or receives bona fide bids for, the mortgage-backed securities set forth on Exhibit 1 hereto (the "Mortgage-Backed Securities") by December 31, 1999 for a price which results, or would have resulted, in a net pre-tax profit of $1.5 million, the Company will pay to Executive an additional signing bonus of $200,000, net of any withholding taxes, immediately upon completion of such sales or receipt of such bids (the "Additional Signing Bonus"). In the event such sales result in (or such bids would have resulted in) a net pre-tax profit of less than $1.5 million, such additional signing bonus shall be pro-rated accordingly. The net pre-tax profit referred to above will be calculated using the following methodology: The net pre-tax profit shall be the sales price (net of expenses) received by the Company for the Mortgage-Backed Securities (or if the Company decides not to sell, the sales price it would have received for the Mortgage-Backed Securities based on the bona fide bids received by the Company) less the lower of (a) $16 million less (i) any cash received by the Company in respect of such Mortgage-Backed Securities from the time the Company purchased the Mortgage-Backed Securities through the date of sale (or if the Mortgage-Backed Securities are not sold, the date of the receipt of bona fide bids), plus (ii) an amount equal to an annual accrual rate of 12% on the purchase price of the Mortgage-Backed Securities from the time the Company purchased the Mortgage-Backed Securities through the date of sale (or if the Mortgage-Backed Securities are not sold, the date of the receipt of bona fide bids) and (b) the actual price paid by the Company for the Mortgage-Backed Securities less (x) any cash received by the Company in respect of such Mortgage-Backed Securities from the time the Company purchased the Mortgage-Backed Securities through the date of sale (or if the Mortgage-Backed Securities are not sold, the date of the receipt of bona fide bids), plus (y) an amount equal to an annual accrual rate of 12% on the purchase price of the Mortgage-Backed Securities from the time the Company purchased the Mortgage-Backed Securities through the date of sale (or if the Mortgage-Backed Securities are not sold, the date of the receipt of bona fide bids). To the extent that the Company does not purchase the Mortgage-Backed Securities, the Company and Executive agree to negotiate in good faith another set of reasonably achievable goals for Executive to earn the $200,000 additional signing bonus by December 31, 1999. (b) During the Employment Term, the Company shall pay Executive a base salary at the annual rate of not less than $250,000.00. Base salary shall be payable in accordance with the usual payroll practices of the Company (including withholding). Executive's Base Salary shall be subject to annual review by the Board in October of each year and may be increased, but not decreased, from time to time upon recommendation of the Compensation Committee of the Board (the "Committee"). The base salary determined as aforesaid from time to time shall constitute "Base Salary" for purposes of this Agreement. 4. INCENTIVE COMPENSATION. (a) BONUS. For each 12 month period commencing on September 30, 1999 (each, an "Annual Period"), Executive shall be entitled to receive an annual bonus (the "Bonus") equal to 15% of the Bonus Pool for such Annual Period. For each Annual Period, the Bonus Pool shall be (i) if Post-Bonus ROE is 15% or greater, 20% of Pre-Bonus Earnings, (ii) if Post-Bonus ROE is 5% or greater but less than 15%, 10% of Pre-Bonus Earnings, or (iii) if Post-Bonus ROE is less than 5%, zero. For purposes of this agreement, the following terms shall have the following meanings: "PRE-BONUS EARNINGS" means the Company's after-tax income (as determined in accordance with generally accepted accounting principles and reflected on the Company's financial statements) for the relevant Annual Period or portion thereof determined prior to subtracting the amount of the Bonus Pool payable for that Annual Period; provided, however, that in determining Pre-Bonus Earnings for purposes of this Section 4, Pre-Bonus Earnings shall be increased or decreased for the relevant Annual Period by the amount of unrealized gains or unrealized losses, as the case may be, which are incurred after the commencement of the relevant Annual Period and which are reflected directly in equity as "other comprehensive income or loss" during such Annual Period. "POST-BONUS EARNINGS" means the Company's Pre-Bonus Earnings after subtracting the after-tax amount of the Bonus Pool payable for that Annual Period. "EQUITY" means the Company's total shareholders' equity (as determined in accordance with generally accepted accounting principles and reflected on the Company's financial statements) at the beginning of the relevant Annual Period; provided, however, that in determining Equity for purposes of this Section 4, Equity shall be increased by the amount of unrealized losses which are shown on the Company's balance sheet as of the beginning of the relevant Annual Period under the heading "other comprehensive income or loss". For example, if the Company's shareholders' equity as of September 30, 1999 was $63.831 million and there was $20.658 million of accumulated other comprehensive loss, then Equity would be $84.489 million. "POST-BONUS ROE" means the Company's Post-Bonus Earnings for the relevant Annual Period divided by its Equity at the beginning of the relevant Annual Period (expressed in percentage terms). To assist the reader in understanding the foregoing provisions, examples of such Bonus determinations are set forth on Schedule I hereto. Such annual Bonus shall be payable by November 15th of each year following the Annual Period for which the Bonus is payable and, if necessary, shall be adjusted for any subsequent amendments to the Company's financial statements. The Company will apply the annual Bonus to repay any outstanding Cash Flow Loan and any outstanding Excess Advance (each as defined below) prior to making any payment to Executive. To the extent that the Company repurchases any of its outstanding common stock or the Company's net operating losses under Section 382 of the Code (as defined below) are disallowed, the parties agree to negotiate in good faith to amend the incentive compensation provisions of this Section 4 to provide Executive with comparable goals and returns to those that existed prior to the occurrence of such events. Following the initial Employment Term, such Bonus shall be subject to shareholder approval as and to the extent required by Section 162(m) of the Internal Revenue Code of 1986, as amended (the "Code"). Notwithstanding the foregoing, 3/8ths (or $112,500) of the signing bonus of $300,000 (excluding the additional signing bonus referred to above) will be deemed to be a payment by the Company to Executive of that portion of the annual Bonus attributable to the fourth calendar quarter of 1999; provided, however that (i) to the extent that Executive would be entitled to receive less than $112,500 for that portion of the annual Bonus attributable to the fourth calendar quarter of 1999, the annual Bonus payable in November 2000 shall be determined as provided above less that portion of the annual Bonus attributable to the fourth calendar quarter of 1999 (and not $112,500) and (ii) to the extent that Executive would be entitled to receive more than $112,500 for that portion of the annual Bonus attributable to the fourth calendar quarter of 1999, the annual Bonus payable in November 2000 shall be determined as provided above less $112,500. In addition, to the extent that Executive would receive less than $112,500 for that portion of the annual Bonus attributable to the fourth calendar quarter of 1999 or for the relevant Annual Period, such $112,500 will be treated as a non-refundable, minimum payment for such period and for the relevant Annual Period. To the extent that Executive would receive more than $112,500 for that portion of the annual Bonus attributable to the fourth calendar quarter of 1999, the Company will pay, and allow Executive to draw against, any amount in excess of such $112,500 as provided above. (b) ADVANCES. Following any quarterly period during an Annual Period, the Company shall, at the request of the Executive, pay an advance on any such Bonus; provided, however, that (i) any such advance (together with any prior advances made during the relevant Annual Period) shall not exceed 80% of the pro rata portion of the Estimated Annual Bonus (as defined below) attributable to such quarterly period and to any prior quarterly periods during such Annual Period, (ii) any advances available to Executive (whether or not requested) during any quarterly period shall be applied to repay any outstanding Cash Flow Loan, and (iii) any such advance shall not exceed $100,000 per quarter. Any such advances shall be treated as advances of Executive's bonus and shall not bear interest. The Estimated Annual Bonus is determined by annualizing the Company's Pre-Bonus Earnings and Post-Bonus Earnings (based on the Company's financial statements) for the quarterly period or periods during such Annual Period (or for purposes of Section 8, monthly periods) and determining the annual Bonus payable to Executive as described in Section 4(a). In the event that the aggregate amount of advances outstanding immediately following the end of any quarterly period during the relevant Annual Period exceeds 80% of the pro rata portion of the Estimated Annual Bonus ("Permitted Advances") determined immediately following such quarterly period, the amount in excess of the Permitted Advances shall be treated as an interest free loan from the Company ("Advance Reimbursement Loan") for the next succeeding quarterly period (the "Following Quarter") and if at the end of the Following Quarter the aggregate amount of outstanding advances continues to exceed the Permitted Advances (the "Excess Advance"), Executive shall repay the Excess Advance to the Company within 30 days of the end of such Following Quarter. (c) CASH FLOW LOAN. To provide Executive with a minimum amount of cash flow at the end of each Annual Period and to the extent Executive did not receive an annual Bonus of at least $500,000 for such period, Executive may borrow (a "Cash Flow Loan") from the Company on the date his annual Bonus is paid (the "Bonus Payment Date") up to the after-tax equivalent (assuming a tax rate of 40%) of the difference between (i) $500,000 and (ii) actual annual Bonus payable for the Annual Period just ending; provided, however that (x) the proceeds of any new Cash Flow Loan shall be used first to repay any outstanding Cash Flow Loan and then to any outstanding Excess Advance and (y) the outstanding amount of any Cash Flow Loan shall not exceed $300,000 at any time. The Cash Flow Loan shall be considered a draw on Executive's next Bonus. Except if Executive is terminated, the Cash Flow Loan shall mature on the next Bonus Payment Date and shall not bear interest. If Executive is terminated, the Cash Flow Loan shall mature as provided in Section 8 and shall accrue interest on the then outstanding principal amount of the Cash Flow Loan from the date of termination until maturity at a rate equal to the prime rate as published in the Wall Street Journal on the date of termination, payable annually in arrears. (d) OPTIONS. The Company shall grant to Executive stock options (the "Initial Options") on 210,000 shares of the Company's common stock (the "Common Stock") under the Company's Incentive Stock Plan (the "Incentive Stock Plan"). The Initial Options shall have an exercise price equal to the Company's book value per outstanding share as of September 30, 1999, which exercise price is in excess of the market value per share based on the share price of the Common Stock as of such date. The Initial Options will be fully exercisable at the time of vesting and 25% of the Initial Options shall vest on each anniversary of this Agreement (which will result in the Initial Options being fully vested on the fourth anniversary of this Agreement). In addition, the Executive shall be entitled to participate in the Company's Incentive Stock Plan and receive nonqualified, incentive or other options ("Options") to purchase shares of the Company's Common Stock under the Incentive Stock Plan as determined by the Committee from time to time provided that the Incentive Stock Plan is approved by the shareholders of the Company to the extent required by Section 162(m) of the Code. Notwithstanding the foregoing, the Company may recommend to the Committee that Executive be granted Options under a plan other than the Incentive Stock Plan provided that such other plan contains terms and conditions which are substantially similar to the terms and conditions of the Incentive Stock Plan, and further provided, that such other plan is approved by the shareholders of the Company to the extent required by Section 162(m) of the Code. To the extent permitted under applicable law, any Options granted to Executive hereunder (including the Initial Options) may be assigned and transferred by Executive to entities created for or on behalf of Executive's immediate family for tax planning or other purposes. (e) OTHER COMPENSATION. The Company may, upon recommendation of the Committee, award to Executive such other bonuses and compensation as it deems appropriate and reasonable. 5. EMPLOYEE BENEFITS AND VACATION. (a) During the Employment Term, Executive shall be entitled to participate in all pension, retirement, savings, welfare and other employee benefit plans and arrangements, including, without limitation, any nonqualified deferred compensation plans, maintained by the Company from time to time for the benefit of the senior executives of the Company in accordance with their respective terms as in effect from time to time. Executive acknowledges that the aforementioned items may be included as compensation for income tax purposes to the extent required by applicable law. To the extent permitted under applicable law, the Company shall not treat as compensation to Executive fringes and perquisites provided to Executive or the items under Section 6 below. (b) During the Employment Term, the Company agrees to loan to Executive $50,000 during each year of the Employment Term to purchase shares of Common Stock of the Company up to a maximum of $250,000. Each annual loan made pursuant to this Section 5(b) (the "Stock Purchase Loans") shall mature on the earlier of (i) its fifth anniversary and (ii) six months after Executive is no longer employed by the Company. The Stock Purchase Loans shall accrue interest on the then outstanding principal amount of the Stock Purchase Loans from the date of any Loan is made until maturity at a rate equal to the prime rate as published in the Wall Street Journal on the date any Stock Purchase Loan is made pursuant hereto and shall be payable annually in arrears. Interest on the Stock Purchase Loan will not be paid in cash but shall be payable in kind (i.e. the amount of interest accrued on the Stock Purchase Loan during each annual period will be added to the principal amount of the Loan at the end of such annual period). The Stock Purchase Loans will be full recourse loans against Executive and each loan will be secured by the shares of Common Stock purchased with each such Stock Purchase Loan together with other shares of Common Stock pledged by Executive so that the aggregate value (based on the closing price on the acquisition date of such shares on the Nasdaq stock market) of all such shares securing each new Stock Purchase Loan shall be at least equal to 110% of the principal amount of the Stock Purchase Loans. (c) During the Employment Term, Executive shall be entitled to vacation each year in accordance with the Company's policies in effect from time to time, but in no event less than five (5) weeks paid vacation per calendar year. Executive shall also be entitled to such periods of sick leave as is customarily provided by the Company for its senior executive employees. 6. BUSINESS EXPENSES. The Company shall also reimburse Executive for the travel, entertainment and other business expenses incurred by Executive in the performance of his duties hereunder, in accordance with the Company's policies as in effect from time to time. 7. TERMINATION. (a) The employment of Executive under this Agreement shall terminate upon the occurrence of any of the following events: (i) the death of Executive; (ii) the termination of Executive's employment by the Company due to Executive's Disability pursuant to Section 7(b) hereof; (iii) the termination of Executive's employment by Executive for Good Reason pursuant to Section 7(c) hereof; (iv) the termination of Executive's employment by the Company without Cause; (v) the termination of employment by Executive without Good Reason upon sixty (60) days prior written notice; (vi) the termination of employment by Executive for any reason during the period commencing on the date of a Change in Control and ending on the day immediately prior to the second anniversary of the Change in Control (the "Change in Control Protection Period"); (vii) the termination of Executive's employment by the Company for Cause pursuant to Section 7(e); or (viii) the retirement of Executive by the Company at or after his sixty-fifth birthday to the extent such termination is specifically permitted as a stated exception from applicable federal and state age discrimination laws based on position and retirement benefits. (b) DISABILITY. If, by reason of the same or related physical or mental reasons, Executive is unable to carry out Executive's material duties pursuant to this Agreement for more than six (6) months in any twelve (12) consecutive month period (a "Disability") as determined and certified in writing by two (2) licensed physicians, one of which is Executive's regular attending physician, the Company may terminate Executive's employment for Disability upon thirty (30) days prior written notice, by a notice of Disability termination, at any time thereafter during such twelve (12) month period in which Executive is unable to carry out his duties as a result of the same or related physical or mental illness. Such termination shall not be effective if Executive returns to the full time performance of his material duties within such thirty (30) day notice period. (c) TERMINATION FOR GOOD REASON. A Termination for Good Reason means a termination by Executive by written notice given within sixty (60) days after the occurrence of the Good Reason event. For purposes of this Agreement, "Good Reason" shall mean the occurrence or failure to cause the occurrence, as the case may be, without Executive's express written consent, of any of the following circumstances, unless such circumstances are fully corrected prior to the date of termination specified in the Notice of Termination for Good Reason (as defined in Section 7(d) hereof): (i) any material diminution of Executive's positions, duties or responsibilities hereunder (except in each case in connection with the termination of Executive's employment for Cause or Disability or as a result of Executive's death, or temporarily as a result of Executive's illness or other absence), or the assignment to Executive of duties or responsibilities that are inconsistent with Executive's position; (ii) removal of Executive from, or the non reelection of Executive to, the positions with the Company specified herein; (iii) a relocation of the Company's principal United States executive offices to a location more than fifty (50) miles from Portland, Oregon, or a relocation of Executive away from such principal United States executive office (except to the New York City area); (iv) a failure by the Company (A) to continue any bonus plan, program or arrangement in which Executive is entitled to participate (the "Bonus Plans"), provided that any such Bonus Plans may be modified at the Company's discretion from time to time but shall be deemed terminated if (x) any such plan does not remain substantially in the form in effect prior to such modification and (y) if plans providing Executive with substantially similar benefits are not substituted therefor ("Substitute Plans"), or (B) to continue Executive as a participant in the Bonus Plans and Substitute Plans on at least the same basis as to potential amount of the bonus and substantially the same level of criteria for achievability thereof as Executive participated in immediately prior to any change in such plans or awards, in accordance with the Bonus Plans and the Substitute Plans; (v) any material breach by the Company of any material provision of this Agreement; (vi) a failure of any successor to the Company to assume in a writing delivered to Executive upon the assignee becoming such the obligations of the Company hereunder; or (vii) a failure of the Committee to grant Executive an award of Options in accordance with Section 4 hereof, unless the applicable circumstances under (i) through (vii) are fully corrected prior to the date of termination specified in the notice of termination for Good Reason. (d) NOTICE OF TERMINATION FOR GOOD REASON. A notice of termination for Good Reason shall mean a notice that shall indicate the specific termination provision in Section 7(c) relied upon and shall set forth in reasonable detail the facts and circumstances claimed to provide a basis for termination for Good Reason. The failure by Executive to set forth in the notice of termination for Good Reason any facts or circumstances which contribute to the showing of Good Reason shall not waive any right of Executive hereunder or preclude Executive from asserting such fact or circumstance in enforcing his rights hereunder. The notice of termination for Good Reason shall provide for a date of termination not less than fifteen (15) nor more than sixty (60) days after the date such notice of termination for Good Reason is given. (e) CAUSE. Subject to the notification provisions of Section 7(f) below, Executive's employment hereunder may be terminated by the Company for Cause. For purposes of this Agreement, the term "Cause" shall be limited to (i) willful misconduct by Executive with regard to the Company or its business which has a material adverse effect on the Company; (ii) the refusal of Executive to follow the direction of the Chief Executive Officer, provided that the foregoing refusal shall not be "Cause" if Executive in good faith believes that such direction is illegal, unethical or immoral and promptly so notifies the Chief Executive Officer; (iii) Executive being convicted of a felony (other than a felony involving a traffic offense); (iv) the breach by Executive of any fiduciary duty owed by Executive to the Company which has a material adverse effect on the Company; or (v) Executive's material fraud with regard to the Company. (f) NOTICE OF TERMINATION FOR CAUSE. A notice of termination for Cause shall mean a notice that shall indicate the specific termination provision in Section 7(e) relied upon and shall set forth in reasonable detail the facts and circumstances which provide a basis for termination for Cause. The date of termination for a termination for Cause shall be the date indicated in the notice of termination. Any purported termination for Cause which is held by a court or arbitrator not to have been based on the grounds set forth in this Agreement or not to have followed the procedures set forth in this Agreement shall be deemed a termination by the Company without Cause. 8. CONSEQUENCES OF TERMINATION OF EMPLOYMENT. (a) DEATH. If Executive's employment is terminated during the Employment Term by reason of Executive's death, the employment period under this Agreement shall terminate without further obligations to Executive's legal representatives under this Agreement except for: (i) any compensation earned but not yet paid, including without limitation, any unpaid bonus due, any amount of Base Salary or deferred compensation accrued or earned but unpaid, any accrued vacation payable pursuant to the Company's policies and any unreimbursed business expenses payable pursuant to Section 6 which amounts shall be promptly paid in a lump sum to Executive's spouse; (ii) the Estimated Annual Bonus for the fiscal year of Executive's death, pro rated through the end of month in which Executive died, which bonus shall be paid to Executive's spouse within 60 days after such month end; (iii) full accelerated vesting under all outstanding equity-based and long-term incentive plans (with options remaining outstanding as provided under the applicable stock option plan and a pro rata payment under any long term incentive plans based on actual coverage under such plans at the time payments normally would be made under such plans); (iv) subject to Section 10 hereof, any other amounts or benefits owing to Executive under the then applicable employee benefit plans or policies of the Company, which shall be paid in accordance with such plans or policies; (v) payment on a monthly basis of six (6) months of Executive's Base Salary on the date of death, which shall be paid to Executive's spouse, or if she shall predecease him, then to Executive's children (or their guardian if one is appointed) in equal shares; (vi) any outstanding Cash Flow Loan shall be repaid over five years in five fully amortizing annual installments, with the first installment becoming due and payable on the first anniversary of the date of termination; (vii) any outstanding Advance Reimbursement Loan shall mature as provided in Section 4; (viii) any outstanding Stock Purchase Loan shall become due and payable six months after the date of termination, (ix) payment of Executive's spouse's and dependents' COBRA coverage premiums to the extent, and so long as, they remain eligible for COBRA coverage, but in no event more than one (1) years, and (x) the payment of the Additional Signing Bonus if the conditions for payment of the Additional Signing Bonus are met. Section 12 hereof shall also continue to apply. (b) DISABILITY. If Executive's employment is terminated by reason of Executive's Disability, Executive shall be entitled to receive the payments and benefits to which his representatives would be entitled in the event of a termination of employment by reason of his death, provided that the payment of Base Salary shall be reduced by the projected amount Executive would receive under any long-term disability policy or program maintained by the Company during the six (6) month period during which Base Salary is being paid. Section 12 hereof shall also continue to apply. (c) TERMINATION BY EXECUTIVE FOR GOOD REASON OR FOR ANY REASON DURING THE CHANGE IN CONTROL PROTECTION PERIOD OR TERMINATION BY THE COMPANY WITHOUT CAUSE OR NONEXTENSION OF THE TERM BY THE COMPANY. If (i) outside of the Change in Control Protection Period, Executive terminates his employment hereunder for Good Reason during the Employment Term, (ii) a Change in Control occurs and during the Change in Control Protection Period Executive terminates his employment for any reason, (iii) Executive's employment with the Company is terminated by the Company without Cause, or (iv) Executive's employment with the Company terminates as a result of the Company giving notice of nonextension of the Employment Term pursuant to Section 1 hereof, Executive shall be entitled to receive: (A) in a lump sum within ten (10) business days after such termination (i) the Estimated Annual Bonus payable to Executive for the Annual Period, pro rated through the end of month in which Executive is terminated, which bonus shall be paid within 45 days after such month end, (ii) any unreimbursed business expenses payable pursuant to Section 6, (iii) any Base Salary, Bonus, vacation pay or other deferred compensation accrued or earned under law or in accordance with the Company's policies but not yet paid at the date of termination, and (iv) the payment of the Additional Signing Bonus if the conditions for payment of the Additional Signing Bonus are met; (B) accelerated full vesting under all outstanding equity-based and long-term incentive plans with Options remaining outstanding as provided under the applicable stock option plan and a pro rata payment under any long term incentive plans based on actual coverage under such plans payment being made at the time payments would normally be made under such plans; (C) subject to Section 10 hereof, any other amounts or benefits due Executive under the then applicable employee benefit plans of the Company as shall be determined and paid in accordance with such plans, policies and practices; (D) one (1) year of additional service and compensation credit (at his then compensation level) for pension purposes under any defined benefit type qualified or nonqualified pension plan or arrangement of the Company, measured from the date of termination of employment and not credited to the extent that Executive is otherwise entitled to such credit during such one (1) year period, which payments shall be made through and in accordance with the terms of the nonqualified defined benefit pension arrangement if any then exists, or, if not, in an actuarially equivalent lump sum (using the actuarial factors then applying in the Company's defined benefit plan covering Executive); (E) one (1) year of the maximum Company contribution (assuming Executive deferred the maximum amount and continued to earn his then current salary) measured from the date of termination under any type of qualified or nonqualified 401(k) plan (payable at the end of each such year); (F) any outstanding Cash Flow Loan shall be repaid over five years in five fully amortizing annual installments, with the first installment becoming due and payable on the first anniversary of the date of termination; (G) any outstanding Advance Reimbursement Loan shall mature as provided in Section 4; (H) any outstanding Stock Purchase Loan shall become due and payable six months after the date of termination; and (I) payment by the Company of the premiums for Executive (except in the case of death) and his spouse's and dependents' health coverage for one (1) year under the Company's health plans which cover the senior executives of the Company or materially similar benefits. Payments under (I) above may, at the discretion of the Company, be made by continuing participation of Executive in the plan as a terminee, by paying the applicable COBRA premium for Executive and his spouse and dependents, or by covering Executive and his spouse and dependents under substitute arrangements, provided that, to the extent Executive incurs tax that he would not have incurred as an active employee as a result of the aforementioned coverage or the benefits provided thereunder, Executive shall receive from the Company an additional payment in the amount necessary so that he will have no additional cost for receiving such items or any additional payment. In the circumstances described in each of (i) through (iv) above, Section 12 hereof shall also continue to apply. (d) TERMINATION FOR CAUSE OR VOLUNTARY RESIGNATION WITHOUT GOOD REASON OR RETIREMENT. If Executive's employment hereunder is terminated: (i) by the Company for Cause, (ii) by Executive without Good Reason outside of the Change in Control Protection Period, or (iii) by the Company pursuant to Section 7(a)(viii) hereof, Executive shall be entitled to receive only his Base Salary through the date of termination, the Estimated Annual Bonus prorated through the last day of the month in which Executive is terminated, and any unreimbursed business expenses payable pursuant to Section 6. In addition, any outstanding Cash Flow Loan shall be repaid over five years in five fully amortizing annual installments, with the first installment becoming due and payable on the first anniversary of the date of termination; any outstanding Advance Reimbursement Loan shall mature as provided in Section 4; and any outstanding Stock Purchase Loan shall become due and payable six months after the date of termination. All other benefits (including, without limitation, Options) due Executive following such termination of employment shall be determined in accordance with the plans, policies and practices of the Company. 9 [THIS SECTION IS INTENTIONALLY LEFT BLANK.] 10 NO MITIGATION; NO SET-OFF. In the event of any termination of employment under Section 8, Executive shall be under no obligation to seek other employment and, except as explicitly set forth herein, there shall be no offset against any amounts due Executive under this Agreement on account of any remuneration attributable to any subsequent employment that Executive may obtain. Any amounts due under Section 8 are in the nature of severance payments, or liquidated damages, or both, and are not in the nature of a penalty. Such amounts are in lieu of any amounts payable under any other salary continuation or cash severance arrangement of the Company and to the extent paid or provided under any other such arrangement shall be offset from the amount due hereunder. 11 CHANGE IN CONTROL. For purposes of this Agreement, the term "Change in Control" shall mean (i) any "person" as such term is used in Sections 13(d) and 14(d) of the Securities Exchange Act of 1934 ("Act") (other than the Company, any trustee or other fiduciary holding securities under any employee benefit plan of the Company, or any company owned, directly or indirectly, by the stockholders of the Company in substantially the same proportions as their ownership of common stock of the Company), becoming the "beneficial owner" (as defined in Rule 13d-3 under the Exchange Act), directly or indirectly, of securities of the Company representing twenty-five percent (25%) or more of the combined voting power of the Company's then outstanding securities; (ii) during any period of two (2) consecutive years, individuals who at the beginning of such period constitute the Board, and any new director (other than a director designated by a person who has entered into an agreement with the Company to effect a transaction described in clause (i), (iii), or (iv) of this paragraph or a director whose initial assumption of office occurs as a result of either an actual or threatened election contest (as such terms are used in Rule 14a-11 promulgated under the Act) or other actual or threatened solicitation of proxies or consents by or on behalf of a person other than a member of the Board) whose election by the Board or nomination for election by the Company's shareholders was approved by a vote of at least two-thirds of the directors then still in office who either were directors at the beginning of the two (2) year period or whose election or nomination for election was previously so approved, cease for any reason to constitute at least a majority of the Board; (iii) the merger or consolidation of the Company with any other corporation, other than a merger or consolidation which would result in the voting securities of the Company outstanding immediately prior thereto continuing to represent (either by remaining outstanding or by being converted into voting securities of the surviving entity) more than fifty percent (50%) of the combined voting power of the voting securities of the Company or such surviving entity outstanding immediately after such merger or consolidation; provided, however, that a merger or consolidation effected to implement a recapitalization of the Company (or similar transaction) in which no person (other than those covered in the exceptions in (i) above) acquires more than twenty-five percent (25%) of the combined voting power of the Company's then outstanding securities shall not constitute a Change in Control; or (iv) approval by the shareholders of the Company of a plan of complete liquidation of the Company or the closing of the sale or disposition by the Company of all or substantially all of the Company's assets other than the sale of all or substantially all of the assets of the Company to a person or persons who beneficially own, directly or indirectly, at least fifty percent (50%) or more of the combined voting power of the outstanding voting securities of the Company at the time of the sale. 12 INDEMNIFICATION. (a) The Company agrees that if Executive is made a party to or threatened to be made a party to any action, suit or proceeding, whether civil, criminal, administrative or investigative (a "Proceeding"), by reason of the fact that he is or was an officer of the Company, or is or was serving at the request of the Company as an officer, member, employee, fiduciary or agent of another corporation or of a partnership, joint venture, trust, other enterprise or non-profit organization, including, without limitation, service with respect to employee benefit plans, whether or not the basis of such Proceeding is alleged action in an official capacity as an officer, member, employee, fiduciary or agent while serving as an officer, member, employee, fiduciary or agent, he shall be indemnified and held harmless by the Company to the fullest extent authorized by Maryland law, as the same exists or may hereafter be amended, against all Expenses incurred or suffered by Executive in connection therewith, and such indemnification shall continue as to Executive even if Executive has ceased to be an officer, member, fiduciary or agent, or is no longer employed by the Company, and shall inure to the benefit of his heirs, executors and administrators. (b) As used in this Agreement, the term "Expenses" shall include, without limitation, damages, losses, judgments, liabilities, fines, penalties, excise taxes, settlements and costs, attorneys' fees, accountants' fees, and disbursements and costs of attachment or similar bonds, investigations, and any expenses of establishing a right to indemnification under this Agreement. (c) Expenses incurred by Executive in connection with any Proceeding shall be paid by the Company in advance upon request of Executive and the giving by Executive of any undertakings required by applicable law. (d) Executive shall give the Company notice of any claim made against him for which indemnity will or could be sought under this Agreement. In addition, Executive shall give the Company such information and cooperation as it may reasonably require and as shall be within Executive's power and at such times and places as are reasonably convenient for Executive. (e) With respect to any Proceeding as to which Executive notifies the Company of the commencement thereof: (i) The Company will be entitled to participate therein at its own expense; and (ii) Except as otherwise provided below, to the extent that it may wish, the Company jointly with any other indemnifying party similarly notified will be entitled to assume the defense thereof, with counsel reasonably satisfactory to Executive. Executive also shall have the right to employ his own counsel in such action, suit or proceeding and the fees and expenses of such counsel shall be at the expense of the Company. (f) The Company shall not be liable to indemnify Executive under this Agreement for any amounts paid in settlement of any action or claim effected without its written consent. The Company shall not settle any action or claim in any manner which would impose any penalty or limitation on Executive without Executive's written consent. Neither the Company nor Executive will unreasonably withhold or delay their consent to any proposed settlement. (g) The right to indemnification and the payment of expenses incurred in defending a Proceeding in advance of its final disposition conferred in this Section 12 shall not be exclusive of any other right which Executive may have or hereafter may acquire under any statute, provision of the certificate of incorporation or by-laws of the Company, agreement, vote of stockholders or disinterested directors or otherwise. (h) The Company hereunder agrees to obtain officer liability insurance policies covering Executive and shall maintain at all times following the Commencement Date and during the Employment Term coverage under such policies in the aggregate with regard to all officers and directors, including Executive, of an amount not less than $10 million. 13 LEGAL AND OTHER FEES AND EXPENSES. In the event that a claim for payment or benefits under this Agreement is disputed, the Company shall pay all reasonable attorney, accountant and other professional fees and reasonable expenses incurred by Executive in pursuing such claim, unless the claim by Executive is found to be frivolous by any court or arbitrator. 14 ARBITRATION. Any dispute or controversy arising under or in connection with this Agreement shall be settled exclusively by arbitration conducted in the City of Portland in the State of Oregon under the Commercial Arbitration Rules then prevailing of the American Arbitration Association and such submission shall request the American Arbitration Association to: (i) appoint an arbitrator experienced and knowledgeable concerning the matter then in dispute; (ii) require the testimony to be transcribed; (iii) require the award to be accompanied by findings of fact and the statement for reasons for the decision; and (iv) request the matter to be handled by and in accordance with the expedited procedures provided for in the Commercial Arbitration Rules. The determination of the arbitrators, which shall be based upon a DE NOVO interpretation of this Agreement, shall be final and binding and judgment may be entered on the arbitrators' award in any court having jurisdiction. All costs of arbitration, including the cost of the American Arbitration Association and the arbitrator, shall be borne by the Company. 15 MISCELLANEOUS. (a) GOVERNING LAW. This Agreement shall be governed by and construed in accordance with the laws of the State of Oregon without reference to principles of conflicts of laws. (b) ENTIRE AGREEMENT/AMENDMENTS. This Agreement and the instruments contemplated herein, contain the entire understanding of the parties with respect to the employment of Executive by the Company from and after the Commencement Date and supersedes any prior agreements, whether written or otherwise, between the Company and Executive. There are no restrictions, agreements, promises, warranties, covenants or undertakings between the parties with respect to the subject matter herein other than those expressly set forth herein and therein. This Agreement may not be altered, modified, or amended except by written instrument signed by the parties hereto. (c) NO WAIVER. The failure of a party to insist upon strict adherence to any term of this Agreement on any occasion shall not be considered a waiver of such party's rights or deprive such party of the right thereafter to insist upon strict adherence to that term or any other term of this Agreement. Any such waiver must be in writing and signed by Executive or an authorized officer of the Company, as the case may be. (d) ASSIGNMENT. This Agreement shall not be assignable by Executive. This Agreement shall be assignable, with the consent of Executive, by the Company only to an acquiror of all or substantially all of the assets of the Company, provided such acquiror promptly assumes all of the obligations hereunder of the Company in a writing delivered to Executive and otherwise complies with the provisions hereof with regard to such assumption. (e) SUCCESSORS; BINDING AGREEMENT; THIRD PARTY BENEFICIARIES. This Agreement shall inure to the benefit of and be binding upon parties hereto and their personal or legal representatives, executors, administrators, successors, heirs, distributees, devisees legatees and permitted assignees of the parties hereto. If Executive dies while any amount would still be payable hereunder if Executive had continued to live, all such amounts, unless otherwise provided herein, shall be paid in accordance with the terms of the Agreement to the personal or legal representatives, executors, administrators, successors, heirs, distributees, devisees, legatees and permitted assignees of the parties hereto. (f) COMMUNICATIONS. For the purpose of this Agreement, notices and all other communications provided for in this Agreement shall be in writing and shall be deemed to have been duly given (i) when faxed or delivered, and (ii) two business days after being mailed by United States registered or certified mail, return receipt requested, postage prepaid, addressed to the respective addresses set forth on the initial page of this Agreement, provided that all notices to the Company shall be directed to the attention of Lawrence A. Mendelsohn of the Company, or to such other address as any party may have furnished to the other in writing in accordance herewith. Notice of change of address shall be effective only upon receipt. (g) WITHHOLDING TAXES. The Company may withhold from any and all amounts payable under this Agreement such federal, state and local taxes as may be required to be withheld pursuant to any applicable law or regulation. (h) SURVIVORSHIP. The respective rights and obligations of the parties hereunder shall survive any termination of Executive's employment. (i) COUNTERPARTS. This Agreement may be signed in counterparts, each of which shall be an original, with the same effect as if the signatures thereto and hereto were upon the same instrument. (j) HEADINGS. The headings of the sections contained in this Agreement are for convenience only and shall not be deemed to control or affect the meaning or construction of any provision of this Agreement. IN WITNESS WHEREOF, the parties hereto have duly executed this Agreement as of the day and year first above written. WILSHIRE REAL ESTATE INVESTMENT INC., on its behalf and as general partner for WILSHIRE REAL ESTATE PARTNERSHIP L.P. By: /s/ __________________________________ Name: Title: /s/ Robert G. Rosen --------------- Robert G. Rosen EX-10.14 6 EMPLOYMENT AGREEMENT Exhibit 10.14 EMPLOYMENT AGREEMENT EMPLOYMENT AGREEMENT, dated as of October 9, 1999, by and between Wilshire Real Estate Investment Inc. and Wilshire Real Estate Partnership L.P. (together or individually, the "Company"), with their principal office at 1310 SW 17th Street, Portland, Oregon 97201 and Richard Brennan, residing at 178 Stanwich Road, Greenwich, Connecticut 06830 (the "Executive"). W I T N E S S E T H: WHEREAS, Executive is currently employed as an executive of the Company; and WHEREAS, the Company and Executive desire to enter into this agreement (the "Agreement") to set forth terms of Executive's employment by the Company. NOW, THEREFORE, in consideration of the premises and mutual covenants contained herein and for other good and valuable consideration, the parties agree as follows: 1. TERM OF EMPLOYMENT. Except for earlier termination as provided in Section 7 hereof, Executive's employment under this Agreement shall be for a three (3) year term (the "Employment Term") commencing on October 9, 1999 (the "Commencement Date"). Subject to Section 7 hereof, the Employment Term shall be automatically extended for additional terms of successive two (2) year periods unless the Company or Executive gives written notice of the termination of Executive's employment hereunder at least ninety (90) days prior to the expiration of the then current Employment Term. 2. POSITION. (a) Executive shall serve as an Executive Vice President and Chief Investment Officer of the Company. (b) Executive shall report directly to the Chief Executive Officer of the Company and shall have such duties and authority, consistent with his position as shall be determined from time to time by the Chief Executive Officer. (c) During the Employment Term, Executive shall devote substantially all of his business time, energy, skill and efforts to the performance of his duties and responsibilities hereunder; provided, however, that Executive shall be allowed to (i) engage in charitable activities and (ii) manage his personal financial and legal affairs. 3. SIGNING BONUS AND BASE SALARY. (a) Subject to the execution of a release and settlement agreement between Wilshire Financial Services Group Inc. ("WFSG") and Executive acceptable to WFSG, the Company will immediately pay to Executive a signing bonus of $331,250, net of any withholding taxes. (b) During the Employment Term, the Company shall pay Executive a base salary at the annual rate of not less than $250,000.00. Base salary shall be payable in accordance with the usual payroll practices of the Company (including withholding). Executive's Base Salary shall be subject to annual review by the Board in October of each year and may be increased, but not decreased, from time to time upon recommendation of the Compensation Committee of the Board (the "Committee"). The base salary determined as aforesaid from time to time shall constitute "Base Salary" for purposes of this Agreement. 4. INCENTIVE COMPENSATION. (a) BONUS. For each 12 month period commencing on September 30, 1999 (each, an "Annual Period"), Executive shall be entitled to receive an annual bonus (the "Bonus") equal to 15% of the Bonus Pool for such Annual Period. For each Annual Period, the Bonus Pool shall be (i) if Post-Bonus ROE is 15% or greater, 20% of Pre-Bonus Earnings, (ii) if Post-Bonus ROE is 5% or greater but less than 15%, 10% of Pre-Bonus Earnings, or (iii) if Post-Bonus ROE is less than 5%, zero. For purposes of this agreement, the following terms shall have the following meanings: "PRE-BONUS EARNINGS" means the Company's after-tax income (as determined in accordance with generally accepted accounting principles and reflected on the Company's financial statements) for the relevant Annual Period or portion thereof determined prior to subtracting the amount of the Bonus Pool payable for that Annual Period; provided, however, that in determining Pre-Bonus Earnings for purposes of this Section 4, Pre-Bonus Earnings shall be increased or decreased for the relevant Annual Period by the amount of unrealized gains or unrealized losses, as the case may be, which are incurred after the commencement of the relevant Annual Period and which are reflected directly in equity as "other comprehensive income or loss" during such Annual Period. "POST-BONUS EARNINGS" means the Company's Pre-Bonus Earnings after subtracting the after-tax amount of the Bonus Pool payable for that Annual Period. "EQUITY" means the Company's total shareholders' equity (as determined in accordance with generally accepted accounting principles and reflected on the Company's financial statements) at the beginning of the relevant Annual Period; provided, however, that in determining Equity for purposes of this Section 4, Equity shall be increased by the amount of unrealized losses which are shown on the Company's balance sheet as of the beginning of the relevant Annual Period under the heading "other comprehensive income or loss". For example, if the Company's shareholders' equity as of September 30, 1999 was $63.831 million and there was $20.658 million of accumulated other comprehensive loss, then Equity would be $84.489 million. "POST-BONUS ROE" means the Company's Post-Bonus Earnings for the relevant Annual Period divided by its Equity at the beginning of the relevant Annual Period (expressed in percentage terms). To assist the reader in understanding the foregoing provisions, examples of such Bonus determinations are set forth on Schedule I hereto. Such annual Bonus shall be payable by November 15th of each year following the Annual Period for which the Bonus is payable and, if necessary, shall be adjusted for any subsequent amendments to the Company's financial statements. The Company will apply the annual Bonus to repay any outstanding Cash Flow Loan and any outstanding Excess Advance (each as defined below) prior to making any payment to Executive. To the extent that the Company repurchases any of its outstanding common stock or the Company's net operating losses under Section 382 of the Code (as defined below) are disallowed, the parties agree to negotiate in good faith to amend the incentive compensation provisions of this Section 4 to provide Executive with comparable goals and returns to those that existed prior to the occurrence of such events. Following the initial Employment Term, such Bonus shall be subject to shareholder approval as and to the extent required by Section 162(m) of the Internal Revenue Code of 1986, as amended (the "Code"). Notwithstanding the foregoing, $117,093.75 of the signing bonus of $331,250 will be deemed to be a payment by the Company to Executive of that portion of the annual Bonus attributable to the fourth calendar quarter of 1999; provided, however that (i) to the extent that Executive would be entitled to receive less than $117,093.75 for that portion of the annual Bonus attributable to the fourth calendar quarter of 1999, the annual Bonus payable in November 2000 shall be determined as provided above less that portion of the annual Bonus attributable to the fourth calendar quarter of 1999 (and not $117,093.75) and (ii) to the extent that Executive would be entitled to receive more than $117,093.75 for that portion of the annual Bonus attributable to the fourth calendar quarter of 1999, the annual Bonus payable in November 2000 shall be determined as provided above less $117,093.75. In addition, to the extent that Executive would receive less than $117,093.75 for that portion of the annual Bonus attributable to the fourth calendar quarter of 1999 or for the relevant Annual Period, such $117,093.75 will be treated as a non-refundable, minimum payment for such period and for the relevant Annual Period. To the extent that Executive would receive more than $117,093.75 for that portion of the annual Bonus attributable to the fourth calendar quarter of 1999, the Company will pay, and allow Executive to draw against, any amount in excess of such $117,093.75 as provided above. (b) ADVANCES. Following any quarterly period during an Annual Period, the Company shall, at the request of the Executive, pay an advance on any such Bonus; provided, however, that (i) any such advance (together with any prior advances made during the relevant Annual Period) shall not exceed 80% of the pro rata portion of the Estimated Annual Bonus (as defined below) attributable to such quarterly period and to any prior quarterly periods during such Annual Period, (ii) any advances available to Executive (whether or not requested) during any quarterly period shall be applied to repay any outstanding Cash Flow Loan, and (iii) any such advance shall not exceed $100,000 per quarter. Any such advances shall be treated as advances of Executive's Bonus and shall not bear interest. The Estimated Annual Bonus is determined by annualizing the Company's Pre-Bonus Earnings and Post-Bonus Earnings (based on the Company's financial statements) for the quarterly period or periods during such Annual Period (or for purposes of Section 8, monthly periods) and determining the annual Bonus payable to Executive as described in Section 4(a). In the event that the aggregate amount of advances outstanding immediately following the end of any quarterly period during the relevant Annual Period exceeds 80% of the pro rata portion of the Estimated Annual Bonus ("Permitted Advances") determined immediately following such quarterly period, the amount in excess of the Permitted Advances shall be treated as an interest free loan from the Company ("Advance Reimbursement Loan") for the next succeeding quarterly period (the "Following Quarter") and if at the end of the Following Quarter the aggregate amount of outstanding advances continues to exceed the Permitted Advances (the "Excess Advance"), Executive shall repay the Excess Advance to the Company within 30 days of the end of such Following Quarter. (c) CASH FLOW LOAN. To provide Executive with a minimum amount of cash flow at the end of each Annual Period and to the extent Executive did not receive an annual Bonus of at least $500,000 for such period, Executive may borrow (a "Cash Flow Loan") from the Company on the date his annual Bonus is paid (the "Bonus Payment Date") up to the after-tax equivalent (assuming a tax rate of 40%) of the difference between (i) $500,000 and (ii) actual annual Bonus payable for the Annual Period just ending; provided, however that (x) the proceeds of any new Cash Flow Loan shall be used first to repay any outstanding Cash Flow Loan and then to any outstanding Excess Advance and (y) the outstanding amount of any Cash Flow Loan shall not exceed $300,000 at any time. The Cash Flow Loan shall be considered a draw on Executive's next Bonus. Except if Executive is terminated, the Cash Flow Loan shall mature on the next Bonus Payment Date and shall not bear interest. If Executive is terminated, the Cash Flow Loan shall mature as provided in Section 8 and shall accrue interest on the then outstanding principal amount of the Cash Flow Loan from the date of termination until maturity at a rate equal to the prime rate as published in the Wall Street Journal on the date of termination, payable annually in arrears. (d) OPTIONS. The Company shall grant to Executive stock options (the "Initial Options") on 210,000 shares of the Company's common stock (the "Common Stock") under the Company's Incentive Stock Plan (the "Incentive Stock Plan"). The Initial Options shall have an exercise price equal to the Company's book value per outstanding share as of September 30, 1999, which exercise price is in excess of the market value per share based on the share price of the Common Stock as of such date. The Initial Options will be fully exercisable at the time of vesting and 25% of the Initial Options shall vest on each anniversary of this Agreement (which will result in the Initial Options being fully vested on the fourth anniversary of this Agreement). In addition, the Executive shall be entitled to participate in the Company's Incentive Stock Plan and receive nonqualified, incentive or other options ("Options") to purchase shares of the Company's Common Stock under the Incentive Stock Plan as determined by the Committee from time to time provided that the Incentive Stock Plan is approved by the shareholders of the Company to the extent required by Section 162(m) of the Code. Notwithstanding the foregoing, the Company may recommend to the Committee that Executive be granted Options under a plan other than the Incentive Stock Plan provided that such other plan contains terms and conditions which are substantially similar to the terms and conditions of the Incentive Stock Plan, and further provided, that such other plan is approved by the shareholders of the Company to the extent required by Section 162(m) of the Code. To the extent permitted under applicable law, any Options granted to Executive hereunder (including the Initial Options) may be assigned and transferred by Executive to entities created for or on behalf of Executive's immediate family for tax planning or other purposes. (e) OTHER COMPENSATION. The Company may, upon recommendation of the Committee, award to Executive such other bonuses and compensation as it deems appropriate and reasonable. 5. EMPLOYEE BENEFITS AND VACATION. (a) During the Employment Term, Executive shall be entitled to participate in all pension, retirement, savings, welfare and other employee benefit plans and arrangements, including, without limitation, any nonqualified deferred compensation plans, maintained by the Company from time to time for the benefit of the senior executives of the Company in accordance with their respective terms as in effect from time to time. Executive acknowledges that the aforementioned items may be included as compensation for income tax purposes to the extent required by applicable law. To the extent permitted under applicable law, the Company shall not treat as compensation to Executive fringes and perquisites provided to Executive or the items under Section 6 below. (b) During the Employment Term, the Company agrees to loan to Executive $50,000 during each year of the Employment Term to purchase shares of Common Stock of the Company up to a maximum of $250,000. Each annual loan made pursuant to this Section 5(b) (the "Stock Purchase Loans") shall mature on the earlier of (i) its fifth anniversary and (ii) six months after Executive is no longer employed by the Company. The Stock Purchase Loans shall accrue interest on the then outstanding principal amount of the Stock Purchase Loans from the date of any Loan is made until maturity at a rate equal to the prime rate as published in the Wall Street Journal on the date any Stock Purchase Loan is made pursuant hereto and shall be payable annually in arrears. Interest on the Stock Purchase Loan will not be paid in cash but shall be payable in kind (i.e. the amount of interest accrued on the Stock Purchase Loan during each annual period will be added to the principal amount of the Loan at the end of such annual period). The Stock Purchase Loans will be full recourse loans against Executive and each loan will be secured by the shares of Common Stock purchased with each such Stock Purchase Loan together with other shares of Common Stock pledged by Executive so that the aggregate value (based on the closing price on the acquisition date of such shares on the Nasdaq stock market) of all such shares securing each new Stock Purchase Loan shall be at least equal to 110% of the principal amount of the Stock Purchase Loans. (c) During the Employment Term, Executive shall be entitled to vacation each year in accordance with the Company's policies in effect from time to time, but in no event less than five (5) weeks paid vacation per calendar year. Executive shall also be entitled to such periods of sick leave as is customarily provided by the Company for its senior executive employees. 6. BUSINESS EXPENSES. The Company shall also reimburse Executive for the travel, entertainment and other business expenses incurred by Executive in the performance of his duties hereunder, in accordance with the Company's policies as in effect from time to time. 7. TERMINATION. (a) The employment of Executive under this Agreement shall terminate upon the occurrence of any of the following events: (i) the death of Executive; (ii) the termination of Executive's employment by the Company due to Executive's Disability pursuant to Section 7(b) hereof; (iii) the termination of Executive's employment by Executive for Good Reason pursuant to Section 7(c) hereof; (iv) the termination of Executive's employment by the Company without Cause; (v) the termination of employment by Executive without Good Reason upon sixty (60) days prior written notice; (vi) the termination of employment by Executive for any reason during the period commencing on the date of a Change in Control and ending on the day immediately prior to the second anniversary of the Change in Control (the "Change in Control Protection Period"); (vii) the termination of Executive's employment by the Company for Cause pursuant to Section 7(e); or (viii) the retirement of Executive by the Company at or after his sixty-fifth birthday to the extent such termination is specifically permitted as a stated exception from applicable federal and state age discrimination laws based on position and retirement benefits. (b) DISABILITY. If, by reason of the same or related physical or mental reasons, Executive is unable to carry out Executive's material duties pursuant to this Agreement for more than six (6) months in any twelve (12) consecutive month period (a "Disability") as determined and certified in writing by two (2) licensed physicians, one of which is Executive's regular attending physician, the Company may terminate Executive's employment for Disability upon thirty (30) days prior written notice, by a notice of Disability termination, at any time thereafter during such twelve (12) month period in which Executive is unable to carry out his duties as a result of the same or related physical or mental illness. Such termination shall not be effective if Executive returns to the full time performance of his material duties within such thirty (30) day notice period. (c) TERMINATION FOR GOOD REASON. A Termination for Good Reason means a termination by Executive by written notice given within sixty (60) days after the occurrence of the Good Reason event. For purposes of this Agreement, "Good Reason" shall mean the occurrence or failure to cause the occurrence, as the case may be, without Executive's express written consent, of any of the following circumstances, unless such circumstances are fully corrected prior to the date of termination specified in the Notice of Termination for Good Reason (as defined in Section 7(d) hereof): (i) any material diminution of Executive's positions, duties or responsibilities hereunder (except in each case in connection with the termination of Executive's employment for Cause or Disability or as a result of Executive's death, or temporarily as a result of Executive's illness or other absence), or the assignment to Executive of duties or responsibilities that are inconsistent with Executive's position; (ii) removal of Executive from, or the non reelection of Executive to, the positions with the Company specified herein; (iii) a relocation of Executive away from Executive's office in Greenwich, CT (except to elsewhere in the New York City area); (iv) a failure by the Company (A) to continue any bonus plan, program or arrangement in which Executive is entitled to participate (the "Bonus Plans"), provided that any such Bonus Plans may be modified at the Company's discretion from time to time but shall be deemed terminated if (x) any such plan does not remain substantially in the form in effect prior to such modification and (y) if plans providing Executive with substantially similar benefits are not substituted therefor ("Substitute Plans"), or (B) to continue Executive as a participant in the Bonus Plans and Substitute Plans on at least the same basis as to potential amount of the bonus and substantially the same level of criteria for achievability thereof as Executive participated in immediately prior to any change in such plans or awards, in accordance with the Bonus Plans and the Substitute Plans; (v) any material breach by the Company of any material provision of this Agreement; (vi) a failure of any successor to the Company to assume in a writing delivered to Executive upon the assignee becoming such the obligations of the Company hereunder; or (vii) a failure of the Committee to grant Executive an award of Options in accordance with Section 4 hereof, unless the applicable circumstances under (i) through (vii) are fully corrected prior to the date of termination specified in the notice of termination for Good Reason. (d) NOTICE OF TERMINATION FOR GOOD REASON. A notice of termination for Good Reason shall mean a notice that shall indicate the specific termination provision in Section 7(c) relied upon and shall set forth in reasonable detail the facts and circumstances claimed to provide a basis for termination for Good Reason. The failure by Executive to set forth in the notice of termination for Good Reason any facts or circumstances which contribute to the showing of Good Reason shall not waive any right of Executive hereunder or preclude Executive from asserting such fact or circumstance in enforcing his rights hereunder. The notice of termination for Good Reason shall provide for a date of termination not less than fifteen (15) nor more than sixty (60) days after the date such notice of termination for Good Reason is given. (e) CAUSE. Subject to the notification provisions of Section 7(f) below, Executive's employment hereunder may be terminated by the Company for Cause. For purposes of this Agreement, the term "Cause" shall be limited to (i) willful misconduct by Executive with regard to the Company or its business which has a material adverse effect on the Company; (ii) the refusal of Executive to follow the direction of the Chief Executive Officer, provided that the foregoing refusal shall not be "Cause" if Executive in good faith believes that such direction is illegal, unethical or immoral and promptly so notifies the Chief Executive Officer; (iii) Executive being convicted of a felony (other than a felony involving a traffic offense); (iv) the breach by Executive of any fiduciary duty owed by Executive to the Company which has a material adverse effect on the Company; or (v) Executive's material fraud with regard to the Company. (f) NOTICE OF TERMINATION FOR CAUSE. A notice of termination for Cause shall mean a notice that shall indicate the specific termination provision in Section 7(e) relied upon and shall set forth in reasonable detail the facts and circumstances which provide a basis for termination for Cause. The date of termination for a termination for Cause shall be the date indicated in the notice of termination. Any purported termination for Cause which is held by a court or arbitrator not to have been based on the grounds set forth in this Agreement or not to have followed the procedures set forth in this Agreement shall be deemed a termination by the Company without Cause. 8. CONSEQUENCES OF TERMINATION OF EMPLOYMENT. (a) DEATH. If Executive's employment is terminated during the Employment Term by reason of Executive's death, the employment period under this Agreement shall terminate without further obligations to Executive's legal representatives under this Agreement except for: (i) any compensation earned but not yet paid, including without limitation, any unpaid bonus due, any amount of Base Salary or deferred compensation accrued or earned but unpaid, any accrued vacation payable pursuant to the Company's policies and any unreimbursed business expenses payable pursuant to Section 6 which amounts shall be promptly paid in a lump sum to Executive's spouse; (ii) the Estimated Annual Bonus for the fiscal year of Executive's death, pro rated through the end of month in which Executive died, which bonus shall be paid to Executive's spouse within 60 days after such month end; (iii) full accelerated vesting under all outstanding equity-based and long-term incentive plans (with options remaining outstanding as provided under the applicable stock option plan and a pro rata payment under any long term incentive plans based on actual coverage under such plans at the time payments normally would be made under such plans); (iv) subject to Section 10 hereof, any other amounts or benefits owing to Executive under the then applicable employee benefit plans or policies of the Company, which shall be paid in accordance with such plans or policies; (v) payment on a monthly basis of six (6) months of Executive's Base Salary on the date of death, which shall be paid to Executive's estate; (vi) any outstanding Cash Flow Loan shall be repaid over five years in five fully amortizing annual installments, with the first installment becoming due and payable on the first anniversary of the date of termination; (vii) any outstanding Advance Reimbursement Loan shall mature as provided in Section 4; (viii) any outstanding Stock Purchase Loan shall become due and payable six months following the date of termination, and (ix) payment of Executive's spouse's and dependents' COBRA coverage premiums to the extent, and so long as, they remain eligible for COBRA coverage, but in no event more than one (1) year. Section 12 hereof shall also continue to apply. (b) DISABILITY. If Executive's employment is terminated by reason of Executive's Disability, Executive shall be entitled to receive the payments and benefits to which his representatives would be entitled in the event of a termination of employment by reason of his death, provided that the payment of Base Salary shall be reduced by the projected amount Executive would receive under any long-term disability policy or program maintained by the Company during the six (6) month period during which Base Salary is being paid. Section 12 hereof shall also continue to apply. (c) TERMINATION BY EXECUTIVE FOR GOOD REASON OR FOR ANY REASON DURING THE CHANGE IN CONTROL PROTECTION PERIOD OR TERMINATION BY THE COMPANY WITHOUT CAUSE OR NONEXTENSION OF THE TERM BY THE COMPANY. If (i) outside of the Change in Control Protection Period, Executive terminates his employment hereunder for Good Reason during the Employment Term, (ii) a Change in Control occurs and during the Change in Control Protection Period Executive terminates his employment for any reason, (iii) Executive's employment with the Company is terminated by the Company without Cause, or (iv) Executive's employment with the Company terminates as a result of the Company giving notice of nonextension of the Employment Term pursuant to Section 1 hereof, Executive shall be entitled to receive: (A) in a lump sum within ten (10) business days after such termination (i) the Estimated Annual Bonus payable to Executive for the Annual Period, pro rated through the end of month in which Executive is terminated, which bonus shall be paid within 45 days after such month end, (ii) any unreimbursed business expenses payable pursuant to Section 6, and (iii) any Base Salary, Bonus, vacation pay or other deferred compensation accrued or earned under law or in accordance with the Company's policies but not yet paid at the date of termination; (B) accelerated full vesting under all outstanding equity-based and long-term incentive plans with Options remaining outstanding as provided under the applicable stock option plan and a pro rata payment under any long term incentive plans based on actual coverage under such plans payment being made at the time payments would normally be made under such plans; (C) subject to Section 10 hereof, any other amounts or benefits due Executive under the then applicable employee benefit plans of the Company as shall be determined and paid in accordance with such plans, policies and practices; (D) one (1) year of additional service and compensation credit (at his then compensation level) for pension purposes under any defined benefit type qualified or nonqualified pension plan or arrangement of the Company, measured from the date of termination of employment and not credited to the extent that Executive is otherwise entitled to such credit during such one (1) year period, which payments shall be made through and in accordance with the terms of the nonqualified defined benefit pension arrangement if any then exists, or, if not, in an actuarially equivalent lump sum (using the actuarial factors then applying in the Company's defined benefit plan covering Executive); (E) one (1) year of the maximum Company contribution (assuming Executive deferred the maximum amount and continued to earn his then current salary) measured from the date of termination under any type of qualified or nonqualified 401(k) plan (payable at the end of each such year); (F) any outstanding Cash Flow Loan shall be repaid over five years in five fully amortizing annual installments, with the first installment becoming due and payable on the first anniversary of the date of termination; (G) any outstanding Advance Reimbursement Loan shall mature as provided in Section 4; (H) any outstanding Stock Purchase Loan shall become due and payable six months after the date of termination; and (I) payment by the Company of the premiums for Executive (except in the case of death) and his spouse's and dependents' health coverage for one (1) year under the Company's health plans which cover the senior executives of the Company or materially similar benefits. Payments under (I) above may, at the discretion of the Company, be made by continuing participation of Executive in the plan as a terminee, by paying the applicable COBRA premium for Executive and his spouse and dependents, or by covering Executive and his spouse and dependents under substitute arrangements, provided that, to the extent Executive incurs tax that he would not have incurred as an active employee as a result of the aforementioned coverage or the benefits provided thereunder, Executive shall receive from the Company an additional payment in the amount necessary so that he will have no additional cost for receiving such items or any additional payment. In the circumstances described in each of (i) through (iv) above, Section 12 hereof shall also continue to apply. (d) TERMINATION FOR CAUSE OR VOLUNTARY RESIGNATION WITHOUT GOOD REASON OR RETIREMENT. If Executive's employment hereunder is terminated: (i) by the Company for Cause, (ii) by Executive without Good Reason outside of the Change in Control Protection Period, or (iii) by the Company pursuant to Section 7(a)(viii) hereof, Executive shall be entitled to receive his Base Salary through the date of termination, the Estimated Annual Bonus prorated through the last day of the month in which Executive is terminated, and any unreimbursed business expenses payable pursuant to Section 6. In addition, any outstanding Cash Flow Loan shall be repaid over five years in five fully amortizing annual installments, with the first installment becoming due and payable on the first anniversary of the date of termination; any outstanding Advance Reimbursement Loan shall mature as provided in Section 4; and any outstanding Stock Purchase Loan shall become due and payable six months after the date of termination. All other benefits (including, without limitation, Options) due Executive following such termination of employment shall be determined in accordance with the plans, policies and practices of the Company. 9 [THIS SECTION IS INTENTIONALLY LEFT BLANK.] 10 NO MITIGATION; NO SET-OFF. In the event of any termination of employment under Section 8, Executive shall be under no obligation to seek other employment and, except as explicitly set forth herein, there shall be no offset against any amounts due Executive under this Agreement on account of any remuneration attributable to any subsequent employment that Executive may obtain. Any amounts due under Section 8 are in the nature of severance payments, or liquidated damages, or both, and are not in the nature of a penalty. Such amounts are in lieu of any amounts payable under any other salary continuation or cash severance arrangement of the Company and to the extent paid or provided under any other such arrangement shall be offset from the amount due hereunder. 11 CHANGE IN CONTROL. For purposes of this Agreement, the term "Change in Control" shall mean (i) any "person" as such term is used in Sections 13(d) and 14(d) of the Securities Exchange Act of 1934 ("Act") (other than the Company, any trustee or other fiduciary holding securities under any employee benefit plan of the Company, or any company owned, directly or indirectly, by the stockholders of the Company in substantially the same proportions as their ownership of common stock of the Company), becoming the "beneficial owner" (as defined in Rule 13d-3 under the Exchange Act), directly or indirectly, of securities of the Company representing twenty-five percent (25%) or more of the combined voting power of the Company's then outstanding securities; (ii) during any period of two (2) consecutive years, individuals who at the beginning of such period constitute the Board, and any new director (other than a director designated by a person who has entered into an agreement with the Company to effect a transaction described in clause (i), (iii), or (iv) of this paragraph or a director whose initial assumption of office occurs as a result of either an actual or threatened election contest (as such terms are used in Rule 14a-11 promulgated under the Act) or other actual or threatened solicitation of proxies or consents by or on behalf of a person other than a member of the Board) whose election by the Board or nomination for election by the Company's shareholders was approved by a vote of at least two-thirds of the directors then still in office who either were directors at the beginning of the two (2) year period or whose election or nomination for election was previously so approved, cease for any reason to constitute at least a majority of the Board; (iii) the merger or consolidation of the Company with any other corporation, other than a merger or consolidation which would result in the voting securities of the Company outstanding immediately prior thereto continuing to represent (either by remaining outstanding or by being converted into voting securities of the surviving entity) more than fifty percent (50%) of the combined voting power of the voting securities of the Company or such surviving entity outstanding immediately after such merger or consolidation; provided, however, that a merger or consolidation effected to implement a recapitalization of the Company (or similar transaction) in which no person (other than those covered in the exceptions in (i) above) acquires more than twenty-five percent (25%) of the combined voting power of the Company's then outstanding securities shall not constitute a Change in Control; or (iv) approval by the shareholders of the Company of a plan of complete liquidation of the Company or the closing of the sale or disposition by the Company of all or substantially all of the Company's assets other than the sale of all or substantially all of the assets of the Company to a person or persons who beneficially own, directly or indirectly, at least fifty percent (50%) or more of the combined voting power of the outstanding voting securities of the Company at the time of the sale. 12 INDEMNIFICATION. (a) The Company agrees that if Executive is made a party to or threatened to be made a party to any action, suit or proceeding, whether civil, criminal, administrative or investigative (a "Proceeding"), by reason of the fact that he is or was an officer of the Company, or is or was serving at the request of the Company as an officer, member, employee, fiduciary or agent of another corporation or of a partnership, joint venture, trust, other enterprise or non-profit organization, including, without limitation, service with respect to employee benefit plans, whether or not the basis of such Proceeding is alleged action in an official capacity as an officer, member, employee, fiduciary or agent while serving as an officer, member, employee, fiduciary or agent, he shall be indemnified and held harmless by the Company to the fullest extent authorized by Maryland law, as the same exists or may hereafter be amended, against all Expenses incurred or suffered by Executive in connection therewith, and such indemnification shall continue as to Executive even if Executive has ceased to be an officer, member, fiduciary or agent, or is no longer employed by the Company, and shall inure to the benefit of his heirs, executors and administrators. (b) As used in this Agreement, the term "Expenses" shall include, without limitation, damages, losses, judgments, liabilities, fines, penalties, excise taxes, settlements and costs, attorneys' fees, accountants' fees, and disbursements and costs of attachment or similar bonds, investigations, and any expenses of establishing a right to indemnification under this Agreement. (c) Expenses incurred by Executive in connection with any Proceeding shall be paid by the Company in advance upon request of Executive and the giving by Executive of any undertakings required by applicable law. (d) Executive shall give the Company notice of any claim made against him for which indemnity will or could be sought under this Agreement. In addition, Executive shall give the Company such information and cooperation as it may reasonably require and as shall be within Executive's power and at such times and places as are reasonably convenient for Executive. (e) With respect to any Proceeding as to which Executive notifies the Company of the commencement thereof: (i) The Company will be entitled to participate therein at its own expense; and (ii) Except as otherwise provided below, to the extent that it may wish, the Company jointly with any other indemnifying party similarly notified will be entitled to assume the defense thereof, with counsel reasonably satisfactory to Executive. Executive also shall have the right to employ his own counsel in such action, suit or proceeding and the fees and expenses of such counsel shall be at the expense of the Company. (f) The Company shall not be liable to indemnify Executive under this Agreement for any amounts paid in settlement of any action or claim effected without its written consent. The Company shall not settle any action or claim in any manner which would impose any penalty or limitation on Executive without Executive's written consent. Neither the Company nor Executive will unreasonably withhold or delay their consent to any proposed settlement. (g) The right to indemnification and the payment of expenses incurred in defending a Proceeding in advance of its final disposition conferred in this Section 12 shall not be exclusive of any other right which Executive may have or hereafter may acquire under any statute, provision of the certificate of incorporation or by-laws of the Company, agreement, vote of stockholders or disinterested directors or otherwise. (h) The Company hereunder agrees to obtain officer liability insurance policies covering Executive and shall maintain at all times following the Commencement Date and during the Employment Term coverage under such policies in the aggregate with regard to all officers and directors, including Executive, of an amount not less than $10 million. 13 LEGAL AND OTHER FEES AND EXPENSES. In the event that a claim for payment or benefits under this Agreement is disputed, the Company shall pay all reasonable attorney, accountant and other professional fees and reasonable expenses incurred by Executive in pursuing such claim, unless the claim by Executive is found to be frivolous by any court or arbitrator. 14 ARBITRATION. Any dispute or controversy arising under or in connection with this Agreement shall be settled exclusively by arbitration conducted in the City of Portland in the State of Oregon under the Commercial Arbitration Rules then prevailing of the American Arbitration Association and such submission shall request the American Arbitration Association to: (i) appoint an arbitrator experienced and knowledgeable concerning the matter then in dispute; (ii) require the testimony to be transcribed; (iii) require the award to be accompanied by findings of fact and the statement for reasons for the decision; and (iv) request the matter to be handled by and in accordance with the expedited procedures provided for in the Commercial Arbitration Rules. The determination of the arbitrators, which shall be based upon a DE NOVO interpretation of this Agreement, shall be final and binding and judgment may be entered on the arbitrators' award in any court having jurisdiction. All costs of arbitration, including the costs of American Arbitration Association and the arbitrator, shall be borne by the Company. 15 MISCELLANEOUS. (a) GOVERNING LAW. This Agreement shall be governed by and construed in accordance with the laws of the State of Oregon without reference to principles of conflicts of laws. (b) ENTIRE AGREEMENT/AMENDMENTS. This Agreement and the instruments contemplated herein, contain the entire understanding of the parties with respect to the employment of Executive by the Company from and after the Commencement Date and supersedes any prior agreements, whether written or otherwise, between the Company and Executive. There are no restrictions, agreements, promises, warranties, covenants or undertakings between the parties with respect to the subject matter herein other than those expressly set forth herein and therein. This Agreement may not be altered, modified, or amended except by written instrument signed by the parties hereto. (c) NO WAIVER. The failure of a party to insist upon strict adherence to any term of this Agreement on any occasion shall not be considered a waiver of such party's rights or deprive such party of the right thereafter to insist upon strict adherence to that term or any other term of this Agreement. Any such waiver must be in writing and signed by Executive or an authorized officer of the Company, as the case may be. (d) ASSIGNMENT. This Agreement shall not be assignable by Executive. This Agreement shall be assignable, with the consent of Executive, by the Company only to an acquiror of all or substantially all of the assets of the Company, provided such acquiror promptly assumes all of the obligations hereunder of the Company in a writing delivered to Executive and otherwise complies with the provisions hereof with regard to such assumption. (e) SUCCESSORS; BINDING AGREEMENT; THIRD PARTY BENEFICIARIES. This Agreement shall inure to the benefit of and be binding upon parties hereto and their personal or legal representatives, executors, administrators, successors, heirs, distributees, devisees legatees and permitted assignees of the parties hereto. If Executive dies while any amount would still be payable hereunder if Executive had continued to live, all such amounts, unless otherwise provided herein, shall be paid in accordance with the terms of the Agreement to the personal or legal representatives, executors, administrators, successors, heirs, distributees, devisees, legatees and permitted assignees of the parties hereto. (f) COMMUNICATIONS. For the purpose of this Agreement, notices and all other communications provided for in this Agreement shall be in writing and shall be deemed to have been duly given (i) when faxed or delivered, and (ii) two business days after being mailed by United States registered or certified mail, return receipt requested, postage prepaid, addressed to the respective addresses set forth on the initial page of this Agreement, provided that all notices to the Company shall be directed to the attention of Andrew A. Wiederhorn of the Company, or to such other address as any party may have furnished to the other in writing in accordance herewith. Notice of change of address shall be effective only upon receipt. (g) WITHHOLDING TAXES. The Company may withhold from any and all amounts payable under this Agreement such federal, state and local taxes as may be required to be withheld pursuant to any applicable law or regulation. (h) SURVIVORSHIP. The respective rights and obligations of the parties hereunder shall survive any termination of Executive's employment. (i) COUNTERPARTS. This Agreement may be signed in counterparts, each of which shall be an original, with the same effect as if the signatures thereto and hereto were upon the same instrument. (j) HEADINGS. The headings of the sections contained in this Agreement are for convenience only and shall not be deemed to control or affect the meaning or construction of any provision of this Agreement. IN WITNESS WHEREOF, the parties hereto have duly executed this Agreement as of the day and year first above written. WILSHIRE REAL ESTATE INVESTMENT INC., on its own behalf and as general partner for WILSHIRE REAL ESTATE PARTNERSHIP L.P. By: /s/ ---------------------------------- Name: Title: /s/ RICHARD BRENNAN ------------------------------------- Richard Brennan EX-11 7 COMPUTATION OF LOSS PER COMMON SHARE EXHIBIT 11 COMPUTATION OF LOSS PER COMMON SHARE
Year Ended December 31, ---------------------------- 1999 1998 ------------ ------------ Diluted net loss per share: Net loss to common shareholders ..................................... $(26,647,000) $(56,388,000) ============ ============ Average number of shares outstanding ................................ 11,442,921 11,421,933 Net effect of dilutive stock options - based on treasury stock method -- -- ------------ ------------ Total average shares ................................................ 11,442,921 11,421,933 ============ ============ Fully dilutive net loss per share ................................... ($ 2.33) ($ 4.94) ============ ============
EX-21.1 8 SUBSIDIARIES OF THE REGISTRANT WREP 1998-1 LLC WREP Islands Limited WREP Islands No. 1 Limited WREP Islands No. 2 Limited WFSG (Channel Island) Limited EX-27 9 FINANCIAL DATA SCHEDULE
9 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE COMPANY'S BALANCE SHEET AS OF DECEMBER 31, 1999 AND STATEMENT OF EARNINGS FOR THE YEAR ENDED DECEMBER 31, 1999 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000 12-MOS DEC-31-1999 JAN-01-1999 DEC-31-1999 5,862 0 0 0 0 104,572 104,572 31,634 2,980 220,812 0 96,815 73,125 0 0 0 166,981 (116,109) 220,812 6,740 15,342 604 22,686 0 12,897 9,789 (1,150) 1,326 6,431 (26,647) (26,647) 0 0 (26,647) (2.33) (2.33) 0 0 0 0 0 0 0 0 2,980 0 0 0
-----END PRIVACY-ENHANCED MESSAGE-----