-----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, OHo/5toDNzQwNRRlpq48e9i9Mlys54mtq+Jm/dbVwjuVXivpOCTTZnnz30nnHjIn n5/u8hSKcWzce2+ze/0OiQ== 0000903112-97-001391.txt : 19971117 0000903112-97-001391.hdr.sgml : 19971117 ACCESSION NUMBER: 0000903112-97-001391 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 19970930 FILED AS OF DATE: 19971114 SROS: NYSE FILER: COMPANY DATA: COMPANY CONFORMED NAME: CAPITAL TRUST CENTRAL INDEX KEY: 0000016387 STANDARD INDUSTRIAL CLASSIFICATION: REAL ESTATE INVESTMENT TRUSTS [6798] IRS NUMBER: 946181186 STATE OF INCORPORATION: CA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 001-08063 FILM NUMBER: 97722102 BUSINESS ADDRESS: STREET 1: 605 THIRD AVENUE 26TH FLOOR STREET 2: STE 200 CITY: NEW YORK STATE: NY ZIP: 10016 BUSINESS PHONE: 2126550220 MAIL ADDRESS: STREET 1: 605 THIRD AVENUE 26TH FLOOR STREET 2: #200 CITY: NEW YORK STATE: NY ZIP: 10016 FORMER COMPANY: FORMER CONFORMED NAME: CALIFORNIA REAL ESTATE INVESTMENT TRUST DATE OF NAME CHANGE: 19920703 10-Q 1 FORM 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q (Mark One) [ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended September 30, 1997 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ____________ to _____________ Commission File Number: 1-8063 CAPITAL TRUST (Exact name of registrant as specified in its charter) California 94-6181186 - -------------------------------------------------- -------------------------------------------------- (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 605 Third Avenue, 26th Floor, New York, NY 10016 - ----------------------------------------------------------------------------------------------------------------- (Address of principal executive offices) (Zip Code)
(212) 655-0220 (Registrant's telephone number, including area code) 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[ ] APPLICABLE ONLY TO CORPORATE ISSUERS: Indicate the number of shares outstanding of each of the issuer's classes of common stock as of the close of the latest practical date. Class Outstanding at September 30, 1997 - ------------------------------------------------------- ---------------------------------------------------- Class A Common Shares of Beneficial Interest, 9,138,325 $1.00 par value ("Class A Common Shares")
CAPITAL TRUST INDEX
Page Part I. Financial Information Item 1: Financial Statements...................................................................1 Consolidated Balance Sheets - September 30, 1997 and December 31, 1996......................................1 Consolidated Statements of Operations - Three and Nine Months Ended September 30, 1997 and 1996...................................................2 Consolidated Statement of Shareholders' Equity - Nine Months Ended September 30, 1997..........................................3 Consolidated Statements of Cash Flows - Nine Months Ended September 30, 1997 and 1996.................................4 Notes to Consolidated Financial Statements.............................................5 Item 2: Management's Discussion and Analysis of Financial Condition and Results of Operations........................................................25 Item 3: Quantitative and Qualitative Disclosure about Market Risk.............................31 Part II. Other Information Item 1: Legal Proceedings.....................................................................32 Item 2: Changes in Securities and Use of Proceeds.............................................32 Item 3: Defaults Upon Senior Securities.......................................................32 Item 4: Submission of Matters to a Vote of Security Holders...................................32 Item 5: Other Information.....................................................................34 Item 6: Exhibits and Reports on Form 8-K......................................................35
Capital Trust and Subsidiaries Consolidated Balance Sheets September 30, 1997 and December 31, 1996 (in thousands) (audited)
September 30, December 31, Assets 1997 1996 ------------------- ------------------- Cash and cash equivalents $ 4,063 $ 4,698 Available-for-sale securities 13,030 14,115 Investment and lending transactions, net of $155 and $0 reserve for possible credit losses at September 30, 1997 and December 31, 1996, respectively 88,358 1,010 Rental properties -- 8,585 Excess of purchase price over net tangible assets acquired, net 337 -- Deposits and other receivables 3,795 1,273 Prepaid and other assets 2,712 355 ----------- ---------- Total assets $ 112,295 $ 30,036 ========== ========== Liabilities and Shareholders' Equity Liabilities: Accounts payable and accrued expenses $ 2,738 $ 326 Notes payable 4,867 5,169 Credit facility 11,715 -- Repurchase obligations 36,881 -- Deferred revenue 725 -- Other liabilities -- 70 ----------- ---------- Total liabilities 56,926 5,565 ========== ========== Commitments and contingencies Shareholders' equity: Class A Preferred Shares, $1.00 par value, 12,639 shares authorized, 12,268 and 0 shares issued and outstanding at September 30, 1997 and December 31, 1996, respectively 12,268 -- Class A Common Shares, $1.00 par value; unlimited shares authorized, 9,138 shares issued and outstanding 9,138 9,138 Additional paid-in capital 75,719 55,117 Unrealized gain on available-for-sale securities 459 (22) Accumulated deficit (42,215) (39,762) Total shareholders' equity 55,369 24,471 ----------- ---------- Total liabilities and shareholders' equity $ 112,295 $ 30,036 ========== ==========
See accompanying notes to consolidated financial statements. -1- Capital Trust and Subsidiaries Consolidated Statements of Operations (in thousands, except per share data and share amounts)
Three Months Ended Nine Months Ended September 30, September 30, ------------------------------------- ------------------------------------ 1997 1996 1997 1996 ---------------- --------------- --------------- --------------- (unaudited) (audited) (unaudited) Income from investment and lending transactions: Interest and related income $ 1,787 $ 69 $ 1,863 $ 444 Interest and related expenses 790 -- 790 -- ---------------- Net income from investment and lending transactions 997 69 1,073 444 ---------------- --------------- --------------- --------------- Other revenues: Advisory and asset management fees 529 -- 529 -- Rental income 8 482 313 1,585 Other interest income 405 220 1,008 393 ---------------- --------------- --------------- --------------- Total other revenues 942 702 1,850 1,978 ---------------- --------------- --------------- --------------- Other expenses: General and administrative 3,329 313 4,470 1,149 Other interest expense 21 136 144 410 Rental property expenses -- 149 123 475 Depreciation and amortization 27 20 52 45 ---------------- --------------- --------------- --------------- Total other expenses 3,377 618 4,789 2,079 ---------------- --------------- --------------- --------------- Net income (loss) before gain (loss) on sale of rental properties, provision for possible credit losses and income taxes (1,438) 153 (1,866) 343 Gain (loss) on sale of investments and properties -- 517 (432) 1,113 Provision for possible credit losses (155) (1,184) (155) (1,743) ---------------- --------------- --------------- --------------- Loss before income taxes (1,593) (514) (2,453) (287) Provision for income taxes -- -- -- -- ---------------- --------------- --------------- --------------- Net loss (1,593) (514) (2,453) (287) Less: Preferred Share dividend requirement (679) -- (679) -- ---------------- --------------- --------------- --------------- Net loss allocable to Class A Common Shares $ (2,272) $ (514) $ (3,132) $ (287) ================ =============== =============== =============== Per share information: Net loss per Class A Common Share Primary and fully diluted $ (0.25) $ (0.06) $ (0.34) $ (0.03) ================ =============== =============== =============== Weighted average Class A Common Shares outstanding Primary and fully diluted 9,138,325 9,138,325 9,138,325 9,138,325 ================ =============== =============== ===============
See accompanying notes to consolidated financial statements. -2- Capital Trust and Subsidiaries Consolidated Statement of Shareholders' Equity For the Nine Months Ended September 30, 1997 (in thousands) (audited)
Preferred Shares Common Shares Additional --------------------- --------------------- Paid-In Unrealized Number Amount Number Amount Capital Gain --------- --------- --------- --------- ----------- ------------ Balance at December 31, 1996 -- $ -- 9,138 $ 9,138 $ 55,117 $ (22) Change in unrealized gain on available-for-sale securities -- -- -- -- -- 481 Issuance of preferred shares 12,268 12,268 -- -- 20,602 -- Net loss -- -- -- -- -- -- --------- --------- --------- --------- ----------- ------------ Balance at September 30, 1997 12,268 $12,268 9,138 $ 9,138 $ 75,719 $ 459 ========= ========= ========= ========= =========== ============ Accumulated Deficit Total -------------- ----------- Balance at December 31, 1996 $(39,762) $ 24,471 Change in unrealized gain on available-for-sale securities -- 481 Issuance of preferred shares -- 32,870 Net loss (2,453) (2,453) -------------- ----------- Balance at September 30, 1997 $(42,215) $ 55,369 ============== ===========
See accompanying notes to consolidated financial statements. -3- Capital Trust and Subsidiaries Consolidated Statements of Cash Flows (in thousands)
Nine Months Ended September 30, ------------------------------------------ 1997 1996 ------------------ ------------------- (audited) (unaudited) Cash flows from operating activities: Net loss $ (2,453) $ (287) Adjustments to reconcile net loss to net cash (used in) provided by operating activities: Depreciation and amortization 52 45 Unrealized gain on available-for-sale securities 481 -- (Gain) loss on sale of investments and properties 432 (1,113) Provision for possible credit losses 155 1,743 Changes in assets and liabilities net of effects from subsidiaries purchased: Deposits and receivables (804) (5) Prepaid and other assets (2,846) (61) Deferred revenue 725 -- Accounts payable and accrued expenses 2,877 48 Other liabilities (64) -- Net cash (used in) provided by operating activities (1,445) 370 ------------------ ------------------- Cash flows from investing activities: Purchases of available-for-sale securities -- (15,849) Origination and purchase on investment and lending transactions (87,626) -- Principal collections of investment and lending transactions 123 29 Purchases of equipment and leasehold improvements (421) -- Improvements to rental properties -- (123) Proceeds from sale of investments and rental properties 8,153 13,841 Principal collections on available-for-sale securities 3,483 257 Acquisition of Victor Capital Group, L.P., net of cash acquired (4,066) -- ------------------- Net cash used in investing activities (80,354) (1,845) ------------------ ------------------- Cash flows from financing activities: Proceeds from repurchase obligations 54,166 -- Termination of repurchase obligations (17,285) -- Proceeds from credit facility 11,715 -- Proceeds from notes payable 4,001 -- Repayment of notes payable (4,303) (55) Net proceeds from issuance of preferred shares 32,870 -- Net cash provided by (used in) financing activities 81,164 (55) ------------------ ------------------- Net decrease in cash and cash equivalents (635) (1,530) Cash and cash equivalents at January 1, 1997 4,698 4,778 ------------------ ------------------- Cash and cash equivalents at September 30, 1997 $ 4,063 $ 3,248 ================== =================== Supplemental disclosure of cash flow information Interest paid during the period $ 858 $ 411 ================== ===================
See accompanying notes to consolidated financial statements. -4- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements September 30, 1997 1. Organization Capital Trust (the "Company") is a specialty finance company designed to take advantage of high-yielding lending and investment opportunities in commercial real estate and related assets. The Company makes or intends to make investments in various types of income producing commercial real estate including senior and junior commercial mortgage loans, preferred equity investments, direct equity investments and subordinate interests in commercial mortgage-backed securities ("CMBS"). The Company also provides real estate investment banking, advisory and asset management services through its subsidiary, Victor Capital Group, L.P. ("Victor Capital"). The Company, which was formerly known as California Real Estate Investment Trust, was organized under the laws of the State of California pursuant to a declaration of trust dated September 15, 1966. On December 31, 1996, 76% of the Company's outstanding common shares of beneficial interest, $1.00 par value ("Old Common Shares") were held by the Company's former parent ("Former Parent"). On January 3, 1997, the Former Parent sold its entire 76% ownership interest (consisting of 6,959,593 Old Common Shares) in the Company to CalREIT Investors Limited Partnership ("CRIL"), an affiliate of Equity Group Investments, Inc. ("EGI") and Samuel Zell, the Company's current chairman of the board of trustees, for an aggregate price of approximately $20.2 million. Prior to the purchase, which was approved by the then-incumbent board of trustees, EGI and Victor Capital, a then privately held company owned by two of the current trustees of the Company, presented to the Company's then-incumbent board of trustees a proposed new business plan in which the Company would cease to be a real estate investment trust ("REIT") and instead become a specialty finance company as discussed above. EGI and Victor Capital also proposed that they provide the Company with a new management team to implement the business plan and invest, through an affiliate, a minimum of $30 million in a new class of preferred shares to be issued by the Company. In connection with the foregoing, the Company subsequently agreed that, concurrently with the consummation of the proposed preferred equity investment, it would acquire for $5 million Victor Capital's real estate investment banking, advisory and asset management businesses, including the services of its experienced management team. See Note 2. On July 15, 1997, the proposed preferred share investment was consummated and 12,267,658 class A 9.5% cumulative convertible preferred shares of beneficial interest, $1.00 par value, in the Company ("Class A Preferred Shares") were sold to Veqtor Finance Company, LLC ("Veqtor"), an affiliate of Samuel Zell and the principals of Victor Capital for an aggregate purchase price of $33 million (the "Investment"). Concurrently with the foregoing transaction, Veqtor purchased from CRIL the 6,959,593 Old Common Shares held by it for an aggregate purchase price of approximately $21.3 million (which shares were reclassified on that date as class A common shares of beneficial interest, $1.00 par value, in the Company ("Class A Common Shares") pursuant to the terms of an amended and restated declaration of trust, dated July 15, 1997, adopted on that date (the "Amended and Restated Declaration of Trust")). See Note 9. As a result of these transactions, a change of control of the Company occurred with Veqtor beneficially owning 19,227,251, or approximately 90% of the outstanding voting shares of the Company. -5- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements (continued) Pursuant to the Amended and Restated Declaration of Trust, the Company's name was changed to "Capital Trust". As a result of the aforementioned events, the Company, as intended, commenced full implementation of the new business plan and thereby terminated its status as a REIT. 2. Acquisition of Victor Capital On July 15, 1997, the Company consummated, for $5.0 million, the acquisition of the real estate investment banking, advisory and asset management businesses of Victor Capital and certain affiliated entities including the following wholly-owned subsidiaries: VCG Montreal Management, Inc., Victor Asset Management Partners, L.L.C., VP Metropolis Services, L.L.C., and 970 Management, LLC. Victor Capital provides services to real estate investors, owners, developers and financial institutions in connection with mortgage financings, securitizations, joint ventures, debt and equity investments, mergers and acquisitions, portfolio evaluations, restructurings and disposition programs. Victor Capital's wholly-owned subsidiaries provide asset management and advisory services relating to various mortgage pools and real estate properties. In addition, VCG Montreal Management, Inc. holds a nominal interest in a Canadian real estate venture. The purchase price of $5.0 million is evidenced by non-interest bearing acquisition notes, payable in ten semi-annual equal installments of $500,000. The acquisition notes have been discounted to $3.9 million based on an imputed interest rate of 9.5%. The acquisition has been accounted for under the purchase method of accounting. The excess of the purchase price of the acquisition in excess of net tangible assets acquired approximated $342,000. Had the acquisition occurred on January 1, 1997, pro forma revenues, net loss (after giving effect to the Preferred Share dividend requirement) and net loss per common share (primary and fully diluted) would have been: $6,534,000, $2,451,000 and $0.27, respectively. 3. Summary of Significant Accounting Policies Principles of Consolidation At December 31, 1996, the Company owned commercial rental property in Sacramento, California through a 59% limited partner interest in Totem Square L.P., a Washington limited partnership ("Totem"), and an indirect 1% general partner interest in Totem through its wholly-owned subsidiary Cal-REIT Totem Square, Inc. Totem Square Associates, an unrelated party, held the remaining 40% interest. The consolidated financial statements of the Company include the accounts of the Company and Victor Capital and related wholly-owned subsidiaries (included in the consolidated statement of operations since their acquisition on July 15, 1997) and the results from the disposition of its rental property held by -6- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements (continued) Totem, which was sold on March 4, 1997 prior to commencement of the Company's new business plan. See Note 1. All significant intercompany balances and transactions have been eliminated in consolidation. Revenue Recognition Interest income for the Company's mortgage loans and investments is recognized over the life of the investment using the interest method and recognized on the accrual basis. Fees received in connection with loan commitments are deferred until the loan is advanced and are then recognized over the term of the loan as an adjustment to yield. Fees on commitments that expire unused are recognized at expiration. Income recognition is generally suspended for loans at the earlier of the date at which payments become 90 days past due or when, in the opinion of management, a full recovery of income and principal becomes doubtful. Income recognition is resumed when the loan becomes contractually current and performance is demonstrated to be resumed. Fees from professional advisory services are generally recognized at the point at which all Company services have been performed and no significant contingencies exist with respect to entitlement to payment. Fees from asset management services are recognized as services are rendered. Reserve for Possible Credit Losses The provision for possible credit losses is the charge to income to increase the reserve for possible credit losses to the level that management estimates to be adequate considering delinquencies, loss experience and collateral quality. Other factors considered relate to geographic trends and product diversification, the size of the portfolio and current economic conditions. When it is probable that the Company will be unable to collect all amounts contractually due, the account is considered impaired. Where an impairment is indicated, a valuation write-down or write-off is measured based upon the excess of the recorded investment amount over the net fair value of the collateral, as reduced for selling costs. Any deficiency between the carrying amount of an asset and the net sales price of repossessed collateral is charged to the reserve for credit losses. Cash and Cash Equivalents The Company classifies highly liquid investments with original maturities of three months or less from the date of purchase as cash equivalents. At September 30, 1997, cash equivalents consisted primarily of an investment in a money market fund that invests in Treasury bills. -7- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements (continued) Available-for-Sale Securities Available-for-sale securities are reported on the consolidated balance sheet at fair market value with any corresponding change in value reported as an unrealized gain or loss (if assessed to be temporary), as a component of shareholders' equity, after giving effect to taxes. Commercial Mortgage-Backed Securities The Company has the intent and ability to hold its subordinated investment in CMBS until maturity. See Note 6. Consequently, this investment is classified as held to maturity and is carried at amortized cost at September 30, 1997. Income from CMBS is recognized based on the effective interest method using the anticipated yield over the expected life of the investments. Changes in yield resulting from prepayments are recognized over the remaining life of the investment. The Company recognizes impairment on its CMBS whenever it determines that the impact of expected future credit losses, as currently projected, exceeds the impact of the expected future credit losses as originally projected. Impairment losses are determined by comparing the current fair value of a CMBS to its existing carrying amount, the difference being recognized as a loss in the current period in the consolidated statement of income. Reduced estimates of credit losses are recognized as an adjustment to yield over the remaining life of the portfolio. Derivative Financial Instruments The Company uses interest rate swaps to effectively convert fixed rate assets to variable rate assets for proper matching with variable rate liabilities. The differential to be paid or received on these agreements is recognized as an adjustment to the interest income related to the earning asset. Each derivative used as a hedge is matched with an asset or liability with which it has a high correlation. The swap agreements are generally held to maturity and the Company does not use derivative financial instruments for trading purposes. Upon early termination of the designated matched asset or liability, the related derivative is matched to another appropriate item or marked to fair value. Equipment and Leasehold Improvements, Net Equipment and leasehold improvements, net, are stated at original cost less accumulated depreciation and amortization. Depreciation is computed using the straight-line method based on the estimated lives of the depreciable assets. Amortization is computed over the remaining terms of the related leases. Expenditures for maintenance and repairs are charged directly to expense at the time incurred. Expenditures determined to represent additions and betterments are capitalized. Cost of assets sold or retired -8- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements (continued) and the related amounts of accumulated depreciation are eliminated from the accounts in the year of sale or retirement. Any resulting profit or loss is reflected in the consolidated statement of operations. Sales of Real Estate The Company complies with the provisions of Statement of Financial Accounting Standards No. 66, "Accounting for Sales of Real Estate". Deferred Debt Issuance Costs The Company capitalizes costs incurred related to the issuance of long-term debt. These costs are deferred and amortized on a straight-line basis over the life of the related debt and recognized as a component of interest expense. Income Taxes Prior to commencement of full implementation of the new business plan on July 15, 1997, the Company had elected to be taxed as a REIT and, as such, was not taxed on that portion of its taxable income which was distributed to shareholders, provided that at least 95% of its real estate trust taxable income was distributed and that the Company met certain other REIT requirements. At July 15, 1997, the Company did not meet the requirements to continue to be taxed as a REIT and will therefore not be considered a REIT retroactive to January 1, 1997. The Company has adopted Financial Accounting Standards Board Statement No. 109, "Accounting for Income Taxes" ("SFAS No. 109"). SFAS No. 109, utilizes the liability method for computing tax expenses. Under the liability method, deferred income taxes are recognized for the tax consequences of "temporary differences" by applying statutory tax rates to future years to differences between the financial statement carrying amounts and the tax bases of existing assets and liabilities. Deferred tax assets are recognized for temporary differences that will result in deductible amounts in future years and for carryforwards. A valuation allowance is recognized if it is more likely than not that some portion of the deferred asset will not be recognized. When evaluating whether a valuation allowance is appropriate, SFAS No. 109 requires a company to consider such factors as previous operating results, future earning potential, tax planning strategies and future reversals of existing temporary differences. The valuation allowance is increased or decreased in future years based on changes in these criteria. Amortization of the Excess of Purchase Price Over Net Tangible Assets Acquired The Company recognized the excess of purchase price over net tangible assets acquired in a business combination accounted for as a purchase transaction and is amortizing it on a straight-line basis over a period of 15 years. The carrying value of the excess of purchase price over net tangible assets acquired is analyzed quarterly by the Company based upon the expected revenue and profitability levels of the acquired enterprise to determine whether the value and future benefit may indicate a decline in value. -9- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements (continued) If the Company determines that there has been a decline in the value of the acquired enterprise, the Company writes down the value of the excess of purchase price over net tangible assets acquired to the revised fair value. Use of Estimates The preparation of financial statements in conformity with generally accepted accounting principals 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 financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Earnings Per Class A Common Share Primary earnings per Class A Common Share is computed by dividing net income (loss), after deduction of preferred share dividends declared or required, by the weighted average number of Class A Common Shares outstanding during the period. Fully diluted earnings per Class A Common Share is computed by dividing net income (loss), after deduction of preferred share dividends declared or required, by the weighted average number of Class A Common Shares outstanding and dilutive potential Class A Common Shares (convertible preferred share and share options) that were outstanding during the period. At September 30, 1997, the preferred shares and share options were not considered Class A Common Share equivalents for purposes of calculating fully diluted earnings per share as they were antidilutive. Accordingly, at September 30, 1997, there was no difference between primary and fully diluted loss per share or weighted average Class A Common Shares outstanding. Reclassifications Certain reclassifications have been made to amounts reported in previous financial statements to conform to classifications adopted in 1997. New Accounting Pronouncements In February 1997, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 128, "Earnings per Share" ("SFAS No. 128") effective for periods ending after December 15, 1997. SFAS No. 128 simplifies the standard for computing earnings per share and makes them comparable with international earnings per share standards. The statement replaces primary earnings per share with Basic Earnings per Share ("Basic EPS") and fully diluted earnings per share with Diluted Earnings per Share ("Diluted EPS"). Basic EPS is computed based on the income applicable to Class A Common Shares (which is net loss reduced by the dividends on preferred shares) divided by the weighted-average number of Class A Common Shares outstanding during the period. Diluted EPS is based on the net earnings applicable to Class A Common Shares plus dividends on convertible preferred shares, divided by the weighted average number of Class A Common Shares and dilutive potential Class A Common Shares that were outstanding during the period. Dilutive potential Class A Common Shares -10- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements (continued) include the convertible preferred shares and dilutive share options. The Company will adopt this accounting standard effective December 31, 1997, as required. The adoption of this accounting standard would have no effect on the reported September 30, 1997 earnings per share amounts. In June 1997, the FASB issued Statement No. 130, "Reporting Comprehensive Income" ("SFAS No. 130") effective for fiscal years beginning after December 15, 1997, although earlier application is permitted. SFAS No. 130 establishes standards for reporting and display of comprehensive income and its components in a full set of general-purpose financial statements. SFAS No. 130 requires that all components of comprehensive income shall be reported in the financial statements in the period in which they are recognized. Furthermore, a total amount for comprehensive income shall be displayed in the financial statement where the components of other comprehensive income are reported. The Company was not previously required to present comprehensive income or the components therewith under generally accepted accounting principles. The Company intends to adopt the requirements of this pronouncement in its financial statements for the year ended December 31, 1998. In June 1997, the FASB issued Statement No.131, "Disclosure about segments of an Enterprise and Related Information" ("SFAS No. 131") effective for financial statements issued for periods beginning after December 15, 1997. SFAS No. 131 requires disclosures about segments of an enterprise and related information regarding the different types of business activities in which an enterprise engages and the different economic environments in which it operates. The Company intends to adopt the requirements of this pronouncement in its financial statements for the year ended December 31, 1998. The adoption of SFAS No. 131 is not expected to have a material impact on the Company's financial statement disclosures. 4. Interest Rate Risk Management Effective September 12, 1997, the Company entered into an interest rate swap agreement for a notional amount of $15 million with a financial institution counterparty whereby the Company swapped a fixed rate instrument for a floating rate instrument based on the London Interbank Offered Rate ("LIBOR"). Amounts arising from the differential are recognized as an adjustment to interest income related to the earning asset. See Note 6. The agreement terminates on April 12, 2006. The Company is exposed to credit loss in the event of non-performance by the counterparty to the agreement, although it does not anticipate such non-performance. -11- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements (continued) 5. Available-for-Sale Securities At September 30, 1997, the Company's available-for-sale securities consisted of the following (in thousands):
Gross Unrealized ---------------- Estimated Cost Gains Losses Fair Value ---- ----- ------ ---------- Federal National Mortgage Association, adjustable rate interest currently at 7.923%, due April 1, 2024............................. $ 2,359 $ -- $ (2) $ 2,357 Federal Home Loan Mortgage Association, adjustable rate interest currently at 7.944%, due June 1, 2024.............................. 812 1 -- 813 Federal National Mortgage Association, adjustable rate interest currently at 7.360%, due May 1, 2025............................... 532 -- (2) 530 Federal National Mortgage Association, adjustable rate interest currently at 7.094%, due May 1, 2026............................... 2,205 -- (19) 2,186 Federal National Mortgage Association, adjustable rate interest currently at 7.146%, due June 1, 2026.............................. 4,865 64 -- 4,929 SL Green Realty Corp. Common Stock, 85,600 shares..................... 1,798 417 -- 2,215 -------- ------- ---------- -------- $12,571 $ 482 $ (23) $13,030 ======= ====== ========== =======
The maturity dates of debt securities are not necessarily indicative of expected maturities as principal is often prepaid on such instruments. The 85,600 shares of SL Green Realty Corp. Common Stock were received as partial payment for advisory services rendered by Victor Capital to SL Green Realty Corp. These shares are restricted from sale by the Company for a period of one year from the date of issuance, August 20, 1997. The cost of securities sold is determined using the specific identification method. -12- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements (continued) 6. Investment and Lending Transactions At September 30, 1997, the Company's investment and lending transactions consisted of the following (in thousands): (1) CMBS subordinated interest....................... $49,491 (2) Participation in mezzanine loan.................. 15,617 (3) Second mortgage transition financing............. 11,532 (4) Mortgage note acquisition bridge financing....... 9,800 (5) Other mortgage loans receivable.................. 2,073 ----------- 88,513 Less: Reserve for possible credit losses............. (155) ----------- Total investment and lending transactions............ $88,358 =========== At September 30, 1997, $86.4 million of the aforementioned investment and lending transactions bear interest at floating rates ranging from LIBOR plus 410 basis points to LIBOR plus 600 basis points. The remaining $2.1 million of investment and lending transactions were financed at fixed rates ranging from 8% to 9.5% at September 30, 1997. The average earning rate in effect at September 30, 1997 was 10.8%. (1) On June 30, 1997 the Company completed an investment in a junior, subordinated class of CMBS. The CMBS investment consists of securities with a face value of $49.6 million purchased at a discount for $49.2 million plus accrued fees. The investment is collateralized by twenty short-term commercial notes receivable with original maturities ranging from two to three years. 75% of the purchase price was financed (approximately $36.9 million) pursuant to a reverse repurchase agreement and is collateralized by the Company's investment in the CMBS. In addition, the Company was named "special servicer" for the entire loan portfolio of $413 million in which capacity the Company will earn fee income for management of the collection process should any of the loans become non-performing. At September 30, 1997, no fees relating to the special servicing arrangement were earned. (2) On September 19, 1997, the Company completed a fixed rate investment in the form of a $15.0 million portion of a ten year $80.0 million mezzanine loan secured by a pledge of the ownership interest in the entities that own an office building in New York City. Additionally, the investment is secured by a full payment guarantee by the principal owner of the property owning entities, in the event of certain circumstances, including bankruptcy. The investment was purchased at a premium for approximately $15.6 million. In the event that excess cash flow available, as defined, is insufficient to pay the loan's interest currently, up to 2% can be accrued and added to principal. Scheduled maturity of the note is April 2007, with prepayment prohibited for the first five years but permitted during the following four years with yield maintenance. The loan is fully prepayable with no premium or penalty in the tenth year. The purchase price was financed 75% (approximately $11.7 million) pursuant to a reverse repurchase agreement. Effective September 12, 1997, in order to hedge its interest rate risk under the transaction, the Company entered into -13- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements (continued) an interest rate swap agreement. See Note 4. Effective September 30, 1997, the reverse repurchase agreement was terminated and refinanced with an $11.7 million borrowing under the Company's Credit Facility (as hereinafter defined). See Note 8. (3) On August 4, 1997, the Company originated, and funded in part, a $35.0 million commitment for a subordinated mortgage loan for improvements to a mixed-use property in Chicago, Illinois. The loan is subordinate to senior indebtedness and is secured by the mixed-use property and two mortgage notes aggregating $9.6 million on nearby development sites. The loan has a two-year initial term with a one-year extension option available to the borrower, subject to certain conditions, and is payable upon the sale of the property unless the Company approves the assumption of the debt by an institutional investor. On August 4, 1997, the Company funded $19.0 million against the aforementioned commitment and, subsequently, on August 19, 1997, the Company entered into a participation agreement with a third party (the "Participant") pursuant to which the Company assigned a 42.9% interest in the loan. In connection with the participation agreement the Participant paid to the Company approximately $8.2 million or 42.9% of the $19.0 million previously funded by the Company. During September 1997, the Company and the Participant funded additional amounts aggregating $1.2 million, of which $506,000 was funded by the Participant. Through September 30, 1997, the Company's portion of the funding provided under the mortgage loan aggregated $11.5 million. As of September 30, 1997, the Company's remaining share of the commitment amounts to $8.5 million. (4) On August 13, 1997, the Company originated and funded a LIBOR-based $9.8 million short-term loan. The proceeds of the loan were used primarily for the acquisition of a first mortgage note that is secured by an office/warehouse facility located in Philadelphia, Pennsylvania and for general corporate purposes. The loan is secured by a pledge of the first mortgage note, a pledge of a $4.4 million mortgage note secured by an industrial/warehouse facility in Queens, New York and a $2.3 million pool of secured home loans to owners of cooperative apartments located in Brooklyn, New York. The loan is further secured by a pledge of various other loans owned by the borrower. The loan has a term of one year which may be extended by the borrower for an additional year. -14- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements (continued) (5) The mortgage loans receivable are collateralized by real estate properties in California and Arizona. These mortgage loans receivable mature at varying dates between February 11, 1999 and March 31, 2012. At September 30, 1997, the Company has letters of intent outstanding for various other lending transactions, the terms of which have not been finalized. -15- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements (continued) 7. Notes Payable At September 30, 1997, the Company has notes payable aggregating $4.9 million. In connection with the acquisition of Victor Capital and related entities, $5.0 million of non-interest bearing notes ("Acquisition Notes") were issued to the sellers, payable in ten semi-annual payments of $500,000. The Acquisition Notes have been discounted to $3.9 million based on an imputed interest rate of 9.5%. At September 30, 1997, the net present value of the Acquisition Notes amounted to approximately $4.0 million. The Company is also indebted under a note payable due to a life insurance company. The note bears interest at 9.50% per annum with principal and interest payable monthly until August 7, 2017 when the entire unpaid principal balance and any unpaid interest is due. The life insurance company has the right to call the entire note due and payable upon ninety days prior written notice. At September 30, 1997, the balance of the note payable amounted to approximately $866,000. 8. Long-Term Debt Credit Facility Effective September 30, 1997, the Company entered into a credit agreement with a commercial lender that provides for a three-year $150 million line of credit (the "Credit Facility"). The Credit Facility provides for advances to fund lender-approved loans and investments made by the Company ("Funded -16- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements (continued) Portfolio Assets"). Prior to the execution of the Credit Facility, the commercial lender provided financing to the Company of approximately $11.7 million pursuant to a reverse repurchase agreement. The agreement bore interest at LIBOR plus 2.25% and upon execution of the Credit Facility, the agreement was terminated and the $11.7 million was refinanced with an advance under the Credit Facility. The obligations of the Company under the Credit Facility are to be secured by pledges of the Funded Portfolio Assets acquired with advances under the Credit Facility. Borrowings under the Credit Facility will bear interest at specified rates over LIBOR, (averaging approximately 7.9% for the borrowing outstanding at September 30, 1997), which rate may fluctuate based upon the credit quality of the Funded Portfolio Assets. Upon the signing of the credit agreement, a commitment fee was due and when the total borrowing under the agreement exceeds $75 million an additional fee will be due. In addition, each advance requires payment of a drawdown fee. Future repayments and redrawdowns of amounts previously subject to the drawdown fee will not require the Company to pay any additional fees. The Credit Facility provides for margin calls on asset-specific borrowings in the event of asset quality and/or market value deterioration as determined under the credit agreement. The Credit Facility contains customary representations and warranties, covenants and conditions and events of default. The Credit Facility also contains a covenant obligating the Company to avoid undergoing an ownership change that results in Craig M. Hatkoff, John R. Klopp or Samuel Zell no longer retaining their senior offices and trusteeships with the Company and practical control of the Company's business and operations. On September 30, 1997, the unused Credit Facility amounted to $138.3 million. Repurchase Obligation The Company entered into a reverse repurchase agreement with the counter party of the CMBS transaction described in Note 6. At September 30, 1997, the balance of $36.9 million bears interest at a specified rate over LIBOR (6.75% at September 30, 1997), and has a one year term with quarterly extensions available every 90 days. 9. Shareholders' Equity Authorized Capital Pursuant to the Company's Amended and Restated Declaration of Trust, all of the Company's previously issued common shares of beneficial interest, par value $1.00, were reclassified as Class A Common Shares on July 15, 1997. The total number of authorized capital shares of the Company is unlimited and currently consists of (i) Class A Preferred Shares, (ii) class B 9.5% cumulative convertible non-voting preferred shares of beneficial interest, $1.00 par value, in the Company ("Class B Preferred Shares"), (iii) Class A Common Shares, and (iv) class B common shares of beneficial interest, $1.00 par value, in the Company ("Class B Common Shares"). As of September 30, 1997, there were 12,267,658 Class A Preferred Shares issued and outstanding, no Class B Preferred Shares issued and outstanding, -17- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements (continued) 9,138,325 Class A Common Shares issued and outstanding and no Class B Common Shares issued and outstanding. The Board of Trustees is authorized, with certain exceptions, to provide for the issuance of additional preferred shares of beneficial interest in one or more classes or series. Common Shares Except as described herein or as required by law, all Class A Common Shares and Class B Common Shares are identical and entitled to the same dividend, liquidation and other rights. The Class A Common Shares are voting shares entitled to vote on all matters presented to a vote of shareholders, except as provided by law or subject to the voting rights of any outstanding preferred shares. The Class B Common Shares do not have voting rights and are not counted in determining the presence of a quorum for the transaction of business at any meeting of the shareholders. Holders of record of Class A Common Shares and Class B Common Shares on the record date fixed by the Company's Board of Trustees are entitled to receive such dividends as may be declared by the Board of Trustees subject to the rights of the holders of any series of preferred shares. Each Class A Common Share is convertible at the option of the holder thereof into one Class B Common Share and, subject to certain conditions, each Class B Common Share is convertible at the option of the holder thereof into Class A Common Share. The Company is restricted from declaring or paying any dividends on its Class A Common Shares or Class B Common Shares unless all accrued and unpaid dividends with respect to the Preferred Shares have been paid in full. Preferred Shares In connection with the adoption of the Amended and Restated Designation of Trust, the Company created two classes of preferred shares, the Class A Preferred Shares and the Class B Preferred Shares (collectively, the "Preferred Shares"). Each class of Preferred Shares consists of 12,639,405 authorized shares, as specified in the certificate of designation, preferences and rights thereof adopted on July 15, 1997 (the "Certificate of Designation"). On July 15, 1997, Veqtor purchased from the Company 12,267,658 Class A Preferred Shares for an aggregate purchase price of approximately $33 million. Except as described herein or as required by law, both classes of Preferred Shares are identical and entitled to the same dividend, liquidation and other rights as provided in the Certificate of Designation and the Restated Declaration. The Class A Preferred Shares are entitled to vote together with the holders of the Class A Common Shares as a single class on all matters submitted to a vote of shareholders. Each Class A Preferred Share entitles the holder thereof to a number of votes per share equal to the number of Class A Common Shares into which such Class A Preferred Share is then convertible. Except as described herein, the Class B Preferred Shares do not have voting rights and are not counted in determining the presence of a quorum for the transaction of business at a shareholders' meeting. The affirmative vote of the shareholders of a majority of the outstanding Preferred Shares, voting together as a separate single class, except in -18- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements (continued) certain circumstances, have the right to approve any merger, consolidation or transfer of all or substantially all of the assets of the Company. Holders of the Preferred Shares are entitled to receive, when and as declared by the Board of Trustees, cash dividends per share at the rate of 9.5% per annum on a per share price of $2.69. Such dividends shall accrue (whether or not declared) and, to the extent not paid for any dividend period, will be cumulative. Dividends on the Preferred Shares are payable, when and as declared, semi-annually, in arrears, on December 26 and June 25 of each year commencing December 26, 1997. Each Class A Preferred Share is convertible at the option of the holder thereof into an equal number of Class B Preferred Shares, or into a number of Class A Common Shares equal to the ratio of (x) $2.69 plus an amount equal to all dividends per share accrued and unpaid thereon as of the date of such conversion to (y) the Conversion Price in effect as of the date of such conversion. Each Class B Preferred Share is convertible at the option of the holder thereof, subject to certain conditions, into an equal number of Class A Preferred Shares or into a number of Class B Common Shares equal to the ratio of (x) $2.69 plus an amount equal to all dividends per share accrued and unpaid thereon as of the date of such conversion to (y) the Conversion Price in effect as of the date of such conversion. The Conversion Price as of September 30, 1997 is $2.69. 10. Income Taxes The Company and its subsidiaries will elect to file a consolidated federal income tax return for the year ending December 31, 1997. Due to the net loss and its net operating loss carryforwards available, there was no provision for either federal or state income taxes for the three and nine months ended September 30, 1997. The Company has federal net operating loss carryforwards ("NOLs") as of September 30, 1997 of approximately $16.4 million. Such NOLs expire through 2011. The Company also had a federal capital loss carryover of approximately $1.6 million that can be used to offset future capital gains. Due to CRIL's purchase of 6,959,593 Class A Common Shares from the Company's Former Parent in January 1997 and another prior ownership change, NOLs are limited for federal income tax purposes to approximately $1.5 million annually. Any unused portion of such annual limitation can be carried forward to future periods. The Company recorded a valuation allowance to fully reserve its net deferred assets. Under SFAS 109, this valuation allowance will be adjusted in future years, as appropriate. However, the timing and extent of such future adjustments cannot presently be determined. -19- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements (continued) 11. Employee Benefit Plans 1997 Long-Term Incentive Share Plan On May 23, 1997, the Board of Trustees adopted the 1997 Long-Term Incentive Plan (the "Incentive Share Plan"), which became effective upon shareholder approval on July 15, 1997 at the 1997 annual meeting of shareholders (the "1997 Annual Meeting"). The Incentive Share Plan permits the grant of nonqualified share option ("NQSO"), incentive share option ("ISO"), restricted share, share appreciation right ("SAR"), performance unit, performance share and share unit awards. The Company has reserved an aggregate of 2,000,000 Class A Common Shares for issuance pursuant to awards under the Incentive Share Plan and the Trustee Share Plan (as defined below). The maximum number of shares that may be subject of awards to any employee during the term of the plan may not exceed 500,000 shares and -20- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements (continued) the maximum amount payable in cash to any employee with respect to any performance period pursuant to any performance unit or performance share award is $1.0 million. Through September 30, 1997, the Company had outstanding ISOs and NQSOs (the "Grants") pursuant to the Incentive Share Plan to purchase an aggregate of 607,000 Class A Common Shares with an exercise price of $6.00 per share (the closing Class A Common Share price on the date of the grant). None of the options are exercisable at September 30, 1997 and they have a remaining contractual life of 93/4 years. The ISOs shall be exercisable no more than ten years after their date of grant and five years after the grant in the case of a 10% shareholder and vest over a period of three years with one-third vesting at each anniversary date. Payment of an option may be made with cash, with previously owned Class A Common Shares, by foregoing compensation in accordance with performance compensation committee or compensation committee rules or by a combination of these. SFAS No. 123, "Accounting for Stock-Based Compensation" was issued by the FASB in October 1995. SFAS No. 123 encourages the adoption of a new fair-value based accounting method for employee stock-based compensation plans. SFAS No. 123 also permits companies to continue accounting for stock-based compensation plans as prescribed by APB Opinion No. 25. However, companies electing to continue accounting for stock-based compensation plans under the APB Opinion No. 25, must make pro forma disclosures as if the company adopted the cost recognition requirements under SFAS No. 123. The Company has continued to account for stock-based compensation under the APB Opinion No. 25. Accordingly, no compensation cost has been recognized for the Incentive Share Plan or the Trustee Share Plan in the accompanying consolidated statement of operations as the exercise price of the Grant equaled the market price of the underlying stock on the date of the Grant. The fair value of each option grant is estimated on the date of grant using the Black-Scholes option- pricing model with the following weighted average assumptions used for grants in 1997, respectively: (1) dividend yield of zero; (2) expected volatility of 40%; (3) risk-free interest rate of 6.15% and (4) an expected life of five years. The weighted average fair value of each share option granted during the nine months ended September 30, 1997 was $2.67. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company's employee share options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee share options. For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over the options' vesting period. Pro forma net loss, after giving effect to the Class A Preferred Share dividend requirement, and primary and fully diluted -21- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements (continued) loss per share, after giving effect to the fair value of the grants would be $3.3 million and $0.36, respectively, for the nine months ended September 30, 1997 and $2.5 million and $0.27, respectively, for the three months ended September 30, 1997. The pro forma information presented above is not representative of the effect share options will have on pro forma net income or earnings per share for future years. 1997 Non-Employee Trustee Share Plan On May 23, 1997, the Board of Trustees adopted the 1997 Non-Employee Trustee Share Plan (the "Trustee Share Plan"), which became effective upon shareholder approval on July 15, 1997 at the 1997 Annual Meeting. The Trustee Share Plan permits the grant of NQSO, restricted shares, SAR, performance unit, share and share unit awards. The Company has reserved an aggregate of 2,000,000 Class A Common Shares for issuance pursuant to awards under the Trustee Share Plan and the Incentive Share Plan. Through September 30, 1997, the Company issued to each of two trustees pursuant to the Trustee Share Plan NQSOs to purchase 25,000 Class A Common Shares with an exercise price of $6.00 per share (the closing Class A Common Share price on the date of grant). The purchase price per Class A Common Share covered by a NQSO granted under the Trustee Share Plan shall be determined by the Board of Trustees. Payment of a NQSO may be made with cash, with previously owned Class A Common Shares, by foregoing compensation in accordance with Board rules or by a combination of these. SARs may be granted under the plan in lieu of NQSOS, in addition to NQSOS, independent of NQSOs or as a combination of the foregoing. A holder of a SAR is entitled upon exercise to receive Class A Common Shares, or cash or a combination of both, as the Board of Trustees may determine, equal in value on the date of exercise to the amount by which the fair market value of one Class A Common Share on the date of exercise exceeds the exercise price fixed by the Board on the date of grant (which price shall not be less than 100% of the market price of a Class A Common Share on the date of grant) multiplied by the number of shares in respect of which the SARs are exercised. Restricted shares may be granted under the Trustee Share Plan with performance goals and periods of restriction as the Board of Trustees may designate. The performance goals may be based on the attainment of certain objective and/or subjective measures. The Trustee Share Plan also authorizes the grant of share units at any time and from time to time on such terms as shall be determined by the Board of Trustees. Share units shall be payable in Class A Common Shares upon the occurrence of certain trigger events. The terms and conditions of the trigger events may vary by share unit award, by the participant, or both. 12. Supplemental Schedule of Non-Cash and Financing Activities The following is a summary of the significant non-cash investing and financing activities during the three and nine months ended September 30, 1997: Stock received as partial compensation for advisory services $1,798 -22- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements (continued) In connection with the sale of properties and notes receivable, the Company entered into various non-cash transactions as follows during the nine months ended September 30, 1997: Sales price less selling costs $ 8,396 Amount due from buyer.......... (1,090) -------- Net cash received.............. $ 7,306 ======== 13. Transactions with Related Parties The Company entered into a consulting agreement, dated as of July 15, 1997, with a Trustee of the Company. The consulting agreement has a term of one year and provides for a consulting fee of $150,000. Pursuant to the agreement, the Trustee provides consulting services for the Company including strategic planning, identifying and negotiating mergers, acquisitions, joint ventures and strategic alliances, and advising as to capital structure matters. During the nine months ended September 30, 1997 the Company has incurred an expense of $37,000 in connection with this agreement. The Company pays EGI, an affiliate under common control of the Chairman of the Board of Trustees, for certain corporate services. These services include consulting on legal matters, tax matters, risk management, investor relations and investment banking. During the nine months ended September 30, 1997, the Company has incurred $22,000 of expenses in connection with these services. Prior to January 7, 1997, the Company had an oral agreement with the Company's former parent whereby certain general administrative costs were allocated to the Company based upon a formula agreed to by the parties. At September 30, 1997, the Company had no amounts due to the Company's former parent pursuant to the cost allocation arrangement. During the nine months ended September 30, 1997, the Company, through two of its acquired subsidiaries, earned asset management fees pursuant to agreements with entities in which two of the executive officers and trustees of the Company have an equity interest and serve as officers, members or as a general partner thereof. During the nine months ended September 30, 1997, the Company earned $233,000 from such agreements, which has been included in the consolidated statement of operations. 14. Commitments and Contingencies Litigation In the normal course of business, the Company is subject to various legal proceeding and claims, the resolution of which, in management's opinion, will not have a material adverse effect on the consolidated financial position or the results of operations of the company. Employment Agreements At September 30, 1997, the Company has employment agreements with three of its executives. The employment agreements with two of the executives provide for five-year terms of employment commencing as of July 15, 1997. Such agreements contain extension options which extend such agreements automatically unless terminated by notice, as defined, by either party. The employment agreements provide for base annual salaries of $500,000, which will be increased each calendar year to reflect increases in the cost of living and will otherwise be subject to increase in the discretion of the Board of Trustees. Such executives are also entitled to annual incentive cash bonuses to be determined by the Board of Trustees based on individual performance and the profitability of the Company and are participants in the Incentive Share Plan and other employee benefit plans of the Company. The employment agreement with another executive provides for a two year employment term. Such agreement contains extension options which extend the agreement automatically unless terminated by notice by either party. The employment agreement provides for base annual salary of $300,000, annual bonuses, as specified, at the end of 1997 and 1998, and participation in the Incentive Share Plan and other employee benefit plans of the Company. Such executive is also entitled to an annual incentive cash bonus to be determined by the Board of Trustees based on individual performance and the profitability of the Company. -23- Capital Trust and Subsidiaries Notes to Consolidated Financial Statements (continued) 15. Subsequent Events On October 31, 1997 the Company entered into an agreement to provide a secured second mortgage loan of $10 million, which is secured by a 64% tenancy-in-common interest in an office building located in New York City; the loan is further secured by a pledge by the members of the borrower of 100% of membership interests in the borrower. The loan is for five years and bears interest at a fixed rate. The Company earns certain financing fees in connection therewith and such fees will be recognized over the life of the loan as an adjustment to yield. The Company financed the aforementioned investment in part by entering into a repurchase agreement which is collateralized by certain of the Company's debt securities. On October 6, 1997, the Company filed a Registration Statement on Form S-1 with the Securities and Exchange Commission pursuant to which the Company intends to register 9.2 million Class A Common Shares, including 1.2 million shares that may be sold under an over-allotment option available to the underwriters, exercisable for 30 days after the shares are registered. On November 13, 1997, the Company amended its Registration Statement. Included with amendment No. 1 to the Company's Registration Statement were audited financial statements as of and for the nine months ended September 30, 1997. -24- ITEM 2. 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 and notes thereto appearing elsewhere in this Form 10-Q. Historical results set forth are not necessarily indicative of the future financial position and results of operations of the Company. The following discussion reflects the reclassification on July 15, 1997 of the Company's common shares of beneficial interest, $1.00 par value, as class A common shares of beneficial interest, $1.00 par value (the "Class A Common Shares"). Overview Prior to July 1997, the Company operated as a REIT, originating, acquiring, operating or holding income-producing real property and mortgage-related investments. Since the Company's 1997 annual meeting (the "1997 Annual Meeting"), the Company has pursued a new strategic direction with a focus on becoming a specialty finance company designed primarily to take advantage of high-yielding mezzanine investments and other real estate asset and finance opportunities in commercial real estate. As contemplated by its new business plan, the Company no longer qualifies for treatment as a REIT for federal income tax purposes. Consequently, the information set forth below with regard to historical results of operations for the three and nine months ended September 30, 1996 does not reflect any operating results from the Company's specialty finance activities or real estate investment banking services nor the Company's current investment portfolio. The results for the three and nine months ended September 30, 1997 reflect partial implementation of the Company's new business plan and reflect only the activity since June 30, 1997 from the Company's specialty finance activities and reflect only the activity since July 15, 1997 from the Company's real estate investment banking services as discussed below. Recent Developments On January 3, 1997, CalREIT Investors Limited Partnership ("CRIL"),an affiliate of Equity Group Investments, Inc. ("EGI") and Samuel Zell, purchased from the Company's former parent 6,959,593 Class A Common Shares (representing approximately 76% of the then-outstanding Class A Common Shares) for an aggregate purchase price of $20,222,011. Prior to the purchase, which was approved by the then-incumbent board of trustees, EGI and Victor Capital Group, L.P. ("Victor Capital") presented to the Company's then-incumbent board of trustees a proposed new business plan in which the Company would cease to be a REIT and instead become a specialty finance company designed primarily to take advantage of high-yielding mezzanine investment and other real estate asset opportunities in commercial real estate. EGI and Victor Capital also proposed that they provide the Company with a new management team to implement the business plan and that they invest through an affiliate a minimum of $30.0 million in a new class of preferred shares to be issued by the Company. The Board of Trustees approved CRIL's purchase of the former parent's Class A Common Shares, the new business plan and the issuance of a minimum of $30.0 million of a new class of preferred shares of the Company at $2.69 per share, such shares to be convertible into Class A Common Shares of the Company on a one-for-one basis. The Board of Trustees considered a number of factors in approving the foregoing, including the attractiveness of the proposed new business plan, the significant real estate investment and financing experience of the proposed new management team and the significant amount of equity capital the Company would obtain from the proposed preferred share investment. The Board also considered the terms of previous alternative offers to purchase the former parent's interest in the Company -25- of which the Board was aware and the fact that the average price of the Company's shares of beneficial interest, par value $1.00 ("Old Common Shares"), during the 60 trading days preceding the Board of Trustees meeting at which the proposed preferred equity investment was approved was $2.38 per share. The Company subsequently agreed that, concurrently with the consummation of the proposed preferred equity investment, it would acquire for $5.0 million Victor Capital's real estate investment banking, advisory and asset management businesses, including the services of its experienced management team. At the 1997 Annual Meeting held on July 15, 1997, the Company's shareholders approved a proposal to issue and sell up to approximately $34 million of Class A 9.5% Preferred Shares, $1.00 par value ("Class A Preferred Shares") to Veqtor Finance Company, LLC ("Veqtor"), an affiliate of Samuel Zell and the principals of Victor Capital (the "Investment"). The Company's shareholders also approved an amended and restated declaration of trust of the Company (the "Restated Declaration"), which, among other things, reclassified the Company's Old Common Shares as Class A Common Shares and changed the Company's name to "Capital Trust". Immediately following the 1997 Annual Meeting, the Investment was consummated; 12,267,658 Class A Preferred Shares were sold to Veqtor for an aggregate purchase price of $33,000,000 pursuant to the terms of the preferred share purchase agreement, dated as of June 16, 1997, by and between the Company and Veqtor (the "Investment Agreement"). Concurrently with the foregoing transaction, Veqtor purchased the 6,959,593 Class A Common Shares held by CRIL for an aggregate purchase price of approximately $21.3 million. As a result of these transactions, Veqtor beneficially owns 19,227,251 (or approximately 90%) of the outstanding voting shares of the Company. Veqtor funded the approximately $54.3 million aggregate purchase price for the Class A Common Shares and Class A Preferred Shares with $5.0 million of capital contributions from its members and $50.0 million of borrowings under the Veqtor Notes issued to the Institutional Investors. The Veqtor Notes may in the future be converted for preferred interests in Veqtor that may in turn be redeemed for an aggregate of 9,899,710 voting shares of the Company. In addition, immediately following the 1997 Annual Meeting, the acquisition of the real estate services businesses of Victor Capital was consummated and a new management team was appointed by the Company from among the ranks of Victor Capital's professional team and elsewhere. The Company thereafter immediately commenced full implementation of the new business plan under the direction of its newly elected Board of Trustees and new management team. Overview of Financial Condition Following Implementation of the New Business Plan During the period June 30, 1997 through September 30, 1997, in connection with the Company's implementation of its new business plan as a specialty finance company, the Company originated four investment and loan transactions. These transactions aggregated approximately $110 million, and the Company's portion, which is net of participations and unfunded commitments, aggregated approximately $86.4 million at September 30, 1997. These investments and loans have yields ranging from 400 to 600 basis points over LIBOR and are consistent with the Company's targeted risk/reward parameters. In addition, the Company entered into the $150 million Credit Facility to finance, in part, investments made pursuant to the new business plan. As of September 30, 1997, all of the Company's new investment and loan assets and corresponding liabilities were based upon floating rates over LIBOR. During the three months ended September 30, 1997, significant advisory income, collected during the period, as a result of -26- the Company's acquisition of Victor Capital, was applied as a reduction in the excess of the acquisition purchase price over net tangible assets acquired as opposed to being reflected as a revenue item. In addition, the Company incurred significant general and administrative expenses primarily related to the commencement of operations as a specialty finance company. The Company expects to consummate the Offering (as hereinafter defined) during the fourth quarter of 1997. The net proceeds from the Offering after repayment of outstanding Credit Facility borrowings will be used to fund investments and loans made by the Company and for working capital for ongoing operations and potential business acquisitions. The Company's initial investments pursuant to the new business plan are described below. On June 30, 1997, the Company completed its first investment pursuant to its new business plan, an approximately $49.5 million investment in a junior, subordinated class of commercial mortgage-backed securities ("CMBS"). The CMBS investment, which is secured by 20 short-term commercial mortgage loans with original maturities ranging from two to three years which loans are secured, directly or indirectly, by properties located throughout the United States. This investment was structured to provided an effective yield of a specified number of basis points over LIBOR based on specified base case modeling assumptions. On August 4, 1997, the Company originated, and funded in part, a $35 million short-term LIBOR- based commitment for a subordinated mortgage loan for improvements to a mixed-use property (the Chicago Apparel Center) in Chicago, Illinois. The mortgage loan is secured by the property, is subordinate to senior indebtedness and is further secured by two mortgage notes (with an aggregate principal amount of $9.6 million) on development sites located nearby. The loan has a two-year initial term with a one-year extension option available to the borrower, subject to certain conditions, and is payable upon the sale of the property unless the Company approves the assumption of the debt by an institutional investor. On August 4, 1997, the Company funded $19.0 million against the aforementioned commitment and, subsequently, on August 19, 1997, the Company entered into a participation agreement with a third party (the "Participant") pursuant to which the Company assigned a 42.9% interest in the loan. In connection with the participation agreement, the Participant paid to the Company approximately $8.2 million or 42.9% of the $19.0 million previously funded by the Company. During September 1997, the Company and the Participant funded additional amounts aggregating $1.2 million, of which $506,000 was funded by the Participant. Through September 30, 1997, the Company's portion of the funding provided under the mortgage loan aggregated $11.5 million. On August 13, 1997, the Company originated and funded a LIBOR-based $9.8 million mortgage loan. This loan is primarily secured by an $11.8 million mortgage note on an approximately 281,000 square foot office/warehouse facility located in Philadelphia, Pennsylvania. This loan is also secured by a pledge of a $4.4 million mortgage note secured by an industrial/warehouse facility in Queens, New York and a $2.3 million pool of secured home loans to owners of cooperative apartments located in Brooklyn, New York. The mortgage loan is further secured by a pledge of various other loans owned by the borrower. The loan has a term of one year which may be extended by the borrower for an additional year. On September 19, 1997, the Company completed a fixed rate investment in the form of a $15.0 million portion of a ten-year $80.0 million mezzanine loan secured by the pledge of the ownership interest in the entities that own the approximately 1.75 million square foot office building located at 277 Park Avenue in New York City. The investment is further secured by a full payment guarantee by the principal owner of the entities that own the property, in the event of certain circumstances, including bankruptcy. Seventy-five percent of the purchase price (approximately $11.7 million) was financed pursuant to a reverse repurchase agreement. Effective September 12, 1997, in order to hedge its interest rate risk under the -27- transaction, the Company entered into an interest rate swap agreement. Effective September 30, 1997, the reverse repurchase agreement was terminated and replaced with an $11.7 million borrowing under the Credit Facility. As of January 1, 1997, the Company's real estate portfolio, which included two commercial properties, was carried at a book value of $8,585,000. The portfolio included a shopping center in Sacramento, California and a 60% interest in a mixed-use retail property in Kirkland, Washington. During the first quarter, these two commercial properties were sold. The sale of Sacramento property closed on February 14, 1997 and the sale of the Kirkland property closed on March 3, 1997. The Company completed the investment and lending transactions above with cash on hand and funding pursuant to reverse repurchase agreements, including an agreement with the commercial lender on the Credit Facility made in advance of the execution thereof. Comparison of the Nine Months Ended September 30, 1997 (Audited) and Three Months Ended September 30, 1997 (Unaudited) to the Nine Months and Three Months Ended September 30, 1996 (Unaudited) Net loss allocable to Class A Common Shares of $3,132,000 was reported by the Company during the nine months ended September 30, 1997, an increase of $2,845,000 from the loss reported for the nine months ended September 30, 1996. Net loss allocable to Class A Common Shares of $2,272,000 was reported by the Company for the three months ended September 30, 1997, an increase of $1,758,000, from the net loss allocable to Class A Common Shares of $514,000 for the three months ended September 30, 1996. These increases resulted primarily from costs incurred with the implementation of the new business plan, significant general and administrative expenses associated with the acquisition of Victor Capital and the retention of the Company's new management team and the Preferred Share dividend requirement. The increase in net loss further resulted from losses from the sale of rental properties in 1997 as compared to gains from such sales in 1996. Such increased losses were partially offset by a decrease in the provision for possible credit losses during 1997. Net income from investment and lending transactions increased $629,000 to $1,073,000 for the nine months ended September 30, 1997. Net income from investment and lending transactions increased $928,000 to $997,000 for the three months ended September 30, 1997. These increases are primarily attributable to the revenue earned from the Company's significant new investments and loan originations offset by the interest paid on reverse repurchase agreements. Other revenues decreased $128,000 to $1,850,000 for the nine months ended September 30, 1997. This decrease was primarily caused by a $1,272,000 decrease in rental income as the Company sold the remaining rental properties during the first quarter of 1997. This decrease in rental income was substantially offset by an increase in other interest income of $615,000, which income was derived from the higher level of invested cash on hand and investments and the addition of advisory and asset management fees generated by Victor Capital. During the three months ended September 30, 1997, other revenues increased $240,000 to $942,000 over the same period in 1996. As in the decrease for the nine months ended September 30, 1997, there was a $474,000 decrease in rental income as the Company sold the remaining rental properties during the first quarter of 1997, an increase in other interest income of $185,000 -28- from the higher level of invested cash on hand and investments, and a $529,000 addition of advisory and asset management fees generated by Victor Capital. Other expenses increased by $2,710,000 for the nine months ended September 30, 1997 to $4,789,000 and from $618,000 for the three months ended September 30, 1996 to $3,377,000 for the three months ended September 30, 1997. These increases were primarily due to the additional general and administrative expenses associated with the acquisition of Victor Capital and the full implementation of the Company's new business plan. The majority of the increase in general and administrative expenses was attributable to salaries and other expenses related to the additional employees from Victor Capital and other related administrative expenses resulting from the acquisition of Victor Capital. During the first quarter of 1997, the Company sold its Sacramento, California shopping center. The net loss recognized from the sale of such property was approximately $34,000. The Company also sold its Kirkland, Washington retail property. The net loss recognized from the sale of such property was approximately $398,000, of which the majority was transfer taxes and the elimination of unamortized tenant improvements and leasing commissions. The provision for possible credit losses decreased to $155,000 for the three and nine months ended September 30, 1997 as the rental properties that necessitated the provision for possible credit losses in 1996 had been sold in 1997. Liquidity and Capital Resources At September 30, 1997, the Company had $4,063,000 in cash. Liquidity in the remainder of 1997 will be provided primarily by cash on hand, cash generated from operations, interest payments received on its investments, loans and securities, additional borrowings under the Credit Facility and the net proceeds from a public offering of Class A Common Shares expected to be completed in the fourth quarter (the "Offering"). On October 6, 1997, the Company filed a Registration Statement on Form S-1 with respect to the offer and sale of 9.2 million shares of Class A Common Shares (including 1.2 million shares subject to the underwriter's over-allotment option) in the proposed Offering. The Company believes these sources of capital will adequately meet future cash requirements. Consistent with its new business plan, the Company expects that during the remainder of 1997 it will use a significant amount of its available capital resources to originate and fund investment and lending transactions. In connection with such investment and loan transactions, the Company intends to employ significant leverage, up to a 5:1 debt-to-equity ratio, to enhance its return on equity. The Company experienced a net decrease in cash of $635,000 for the nine months ended September 30, 1997, compared to a net decrease in cash of $1,530,000 for the nine months ended September 30, 1996, a difference of $895,000. For the nine months ended September 30, 1997, cash used in operating activities was $1,445,000, a difference of $1,815,000 from cash provided by operations of $370,000 during the same period in 1996. Cash used in investing activities during this same period increased by $78,509,000 to $80,354,000, up from $1,845,000, primarily as a result of the investment and lending transactions completed since June 30, 1997. Cash provided by financing activities increased $81,219,000 due primarily from the proceeds of repurchase obligations, borrowings under the Credit Facility and the net proceeds from the issuance of Class A Preferred Shares. The Company has two outstanding notes payable totaling $4,867,000 and outstanding borrowings of $11,715,000 under the line of Credit Facility in addition to the outstanding repurchase obligation of $36,881,000. -29- The Company has entered into the $150 million Credit Facility with German American Capital Corporation ("GACC"). The Credit Facility has a term of three years, including extensions, provided that the Company is in compliance with the covenants and terms of the Credit Facility, there have been no material adverse changes in the Company's financial position, and the Company is not otherwise in material default of the terms of the Credit Facility. The Credit Facility provides for advances to fund lender- approved investments ("Funded Portfolio Assets") made by the Company pursuant to its business plan. Prior to the execution of the Credit Facility, GACC advanced approximately $11.7 million to the Company pursuant to a reverse repurchase agreement. Upon the execution of the Credit Facility, the approximately $11.7 million was refinanced with an advance under the Credit Facility and the repurchase agreement was terminated. As of November 11, 1997, outstanding borrowings under the Credit Facility, including accrued interest, totaled approximately $35 million. -30- ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK The information contained in Notes 3, 4 and 6 to the Consolidated Financial Statements of the Company as of December 31, 1996 and as of the nine months ended September 30, 1997 included in Item I of Part I of this report with respect to an interest rate swap agreement for the notional amount of $15 million is incorporated herein by reference. The Company had not entered into any interest rate swaps at or during the year ended December 31, 1996. -31- PART II. OTHER INFORMATION ITEM 1: Legal Proceedings None. ITEM 2: Changes in Securities and Use of Proceeds (a) None. (b) None. (c) On July 15, 1997, pursuant to the terms of the preferred share agreement, dated as of June 16, 1997, by and between the Registrant and Veqtor Finance Company, LLC ("Veqtor"), the Registrant issued 12,267,658 class A 9.5% cumulative convertible preferred shares of beneficial interest, $1.00 par value, in the Company ("Class A Preferred Shares"). The issuance of the Class A Preferred Shares was not subject to the registration requirements of Section 5 of the Securities Act of 1933, as amended, because the transaction was exempt from registration under Section 4(2) thereof for transactions by an issuer not involving a public offering. Each Class A Preferred Share is convertible at the option of the holder thereof at any time and from time to time in whole or in part into a number of class A common shares of beneficial interest, $1.00 par value, in the Registrant ("Class A Common Shares") equal to the ratio of (x) $2.69 plus an amount equal to all dividends per share accrued and unpaid thereon as of the date of such conversion to (y) the Conversion Price in effect as of the date of such conversion. The initial "Conversion Price" was set at $2.69, but will be adjusted to provide the holders of Class A Preferred Shares with customary anti-dilution protection, including protection for the issuance of additional shares at a price less than $2.69 per share. At the initial Conversion Price (which is in effect on the date hereof), the holders of Class A Preferred Shares have the right to convert their shares into Class A Common Shares at the rate of one Class A Common Share for each Class A Preferred Share. ITEM 3: Defaults Upon Senior Securities None. ITEM 4: Submission of Matters to a Vote of Security Holders The Registrant held its annual meeting of shareholders on July 15, 1997. The Registrant's shareholders considered proposals to: 1. approve the issuance of the Registrant's class A 9.5% cumulative convertible preferred shares, $1.00 par value, of beneficial interest in the Registrant, upon the terms and conditions set forth in the preferred share purchase agreement, dated as of June 16, 1997, by and between the Registrant and Veqtor Finance Company, LLC and in the certificate of designation, preferences and -32- rights of the class A 9.5 % cumulative convertible preferred shares and the class B 9.5% cumulative convertible non-voting preferred shares of the Registrant ("Proposal 1"); 2. (a) approve an amendment to the existing declaration of trust of the Registrant (the "Existing Declaration") which reclassifies the common shares of beneficial interest, $1.00 par value, of the Registrant as "class A common shares" and creates another class of common shares, "class B non-voting common shares" ("Proposal 2(a)"); (b) approve an amendment to the Existing Declaration which revises certain restrictions upon transactions between the Registrant and certain large shareholders and other affiliates ("Proposal 2(b)"); (c) approve an-amendment to the Existing Declaration which eliminates certain provisions intended to assure the Registrant's continued treatment as a "real estate investment trust" for federal tax purposes ("Proposal 2(c)"); and (d) approve other amendments to the Existing Declaration ("Proposal 2(d)"), each of the foregoing amendments to be contained in an amended and restated declaration of trust of the Registrant; 3. elect Martin L. Edelman, Gary R. Garrabrant, Craig M. Hatkoff, John R. Klopp, Sheli Z. Rosenberg, Lynne B. Sagalyn and Samuel Zell as trustees to serve until the Registrant's next annual meeting of shareholders or until such trustees' successors are elected and shall have qualified ("Proposal 3"); 4. ratify the appointment of Ernst & Young LLP as the independent auditors of the Registrant for fiscal year 1997 ("Proposal 4); 5. approve a long-term incentive share plan ("Proposal 5"); and 6. approve a non-employee trustee share plan ("Proposal 6"). -33- The following table sets forth the number of votes in favor, the number of votes opposed the number of abstentions (or votes withheld in the case of the election of trustees) and broker non-votes with respect to each of the foregoing proposals. Votes in Votes Abstentions Broker Proposal Favor Opposed (Withheld) Non-Votes - -------- -------- ------- ---------- --------- Proposal 1 7,637,601 77,231 35,750 784,029 Proposal 2(a) 7,635,887 64,091 50,604 784,029 Proposal 2(b) 7,635,044 68,278 40,260 784,029 Proposal 2(c) 7,593,678 118,262 38,642 784,029 Proposal 2(d) 7,584,600 115,087 50,895 784,029 Proposal 3 Martin L. Edelman 8,474,895 -- 59,716 -- Gary R. Garrabrant 8,485,499 -- 49,112 -- Craig M. Hatkoff 8,485,499 -- 49,112 -- John R. Klopp 8,485,499 -- 49,112 -- Sheli Z. Rosenberg 8,485,499 -- 49,112 -- Lynne B. Sagalyn 8,485,499 -- 49,112 -- Samuel Zell 8,485,499 -- 49,112 -- Proposal 4 8,460,551 38,549 35,511 -- Proposal 5 7,591,933 113,232 45,417 784,029 Proposal 6 7,581,740 120,627 48,215 784,029 ITEM 5: Other Information None -34- ITEM 6: Exhibits and Reports on Form 8-K (a) Exhibits Exhibit Number Description 2.1 Interest Purchase Agreement, dated as of June 16, 1997, by and between John R. Klopp, Craig M. Hatkoff, and Valentine Wildove & Company, Inc. and the Registrant (filed as Exhibit 2.1 to the Registrant's Current Report on Form 8-K filed on July 30, 1997 and is incorporated herein by reference). 3.1 Amended and Restated Declaration of Trust, dated July 15, 1997 (filed as Exhibit 3.1 to the Registrant's Current Report on Form 8-K filed on July 15, 1997 and is incorporated herein by reference). 3.2 By-Laws of the Registrant (filed as Exhibit 3.2 to the Registrant's Current Report on Form 8-K filed on July 15, 1997 and is incorporated herein by reference). 4.1 Certificate of Designation, Preferences and Rights of the Class A 9.5% Cumulative Convertible Preferred Shares and the Class B 9.5% Cumulative Convertible Non-Voting Preferred Shares (filed as Exhibit 4.1 to the Registrant's Current Report on Form 8-K filed on July 15, 1997 and is incorporated herein by reference). 10.1 Preferred Share Purchase Agreement, dated as of June 16, 1997, by and between the Registrant and Veqtor Finance Company, LLC (filed as Exhibit 10.1 to the Registrant's Current Report on Form 8-K filed on July 30, 1997 and is incorporated herein by reference). 10.2 Non-Negotiable Notes of the Registrant payable to John R. Klopp, Craig M. Hatkoff and Valentine Wildove & Company, Inc. (filed as Exhibit 10.2 to the Registrant's Current Report on Form 8-K filed on July 30, 1997 and is incorporated herein by reference). 10.3 1997 Long-Term Incentive Share Plan, as amended (filed as Exhibit 10.1 to the Registrant's Current Report on Form 8-K filed on July 15, 1997 and is incorporated herein by reference). 10.4 1997 Non-Employee Trustee Share Plan, as amended (filed as Exhibit 10.2 to the Registrant's Current Report on Form 8-K filed on July 15, 1997 and is incorporated herein by reference). 10.5 Employment Agreement, dated as of July 15, 1997, by and between the Registrant and John Klopp (filed as Exhibit 10.5 to the Registrant's Registration Statement on Form S-1 filed on October 6, 1997 and is incorporated herein by reference). -35- 10.6 Employment Agreement, dated as of July 15, 1997, by and between the Registrant and Craig M. Hatkoff (filed as Exhibit 10.6 to the Registrant's Registration Statement on Form S-1 filed on October 6, 1997 and is incorporated herein by reference). 10.7 Employment Agreement, dated as of July 15, 1997, by and between the Registrant and Donald J. Meyer. 10.8 Consulting Agreement, dated as of July 15, 1997, by and between the Registrant and Gary R. Garrabrant (filed as Exhibit 10.7 to the Registrant's Registration Statement on Form S-1 filed on October 6, 1997 and is incorporated herein by reference). 10.9 Sublease, dated as of July 29, 1997, between New York Job Development Authority and Victor Capital Group, L.P. (filed as Exhibit 10.8 to the Registrant's Registration Statement on Form S-1 filed on October 6, 1997 and is incorporated herein by reference). 10.10 Credit Agreement, dated as of September 30, 1997, between the Registrant and German American Capital Corporation ("GACC") and Global Note, dated as of September 30, 1997, made in favor of GACC by the Registrant (filed as Exhibit 10.9 to Amendment No. 1 to the Registrant's Registration Statement on Form S-1 filed on November 13, 1997 and is incorporated herein by reference). 27.1 Financial Data Schedule. -36- (b) Reports on Form 8-K During the fiscal quarter ended September 30, 1997, the Registrant filed the following Current Reports on Form 8-K: (1) Current Report on Form 8-K, dated June 30, 1997, as filed with the Commission on July 15, 1997, reporting under Item 2 "Acquisition or Disposition of Assets" the completion of an investment in a junior, subordinated class of commercial mortgage- backed securities and under Item 5 "Other Events" the issuance of press releases reporting the outcome of the Registrant's 1997 annual meeting of shareholders and including under Item 7 "Financial Statements and Exhibits" certain exhibits relating to the events reported under Item 2 and Item 5. (2) Current Report on Form 8-K, dated July 15, 1997, as filed with the Commission on July 30, 1997, reporting under Item 1 "Changes in Control" the change in control following the acquisition by Veqtor Finance Company, LLC of 6,959,593 reclassified class A common shares of beneficial interest, $1.00 par value, in the Registrant and 12,267,658 class A 9.5% cumulative convertible preferred shares of beneficial interest, $1.00 par value, in the Registrant, under Item 2 "Acquisition or Disposition of Assets" the acquisition of all partnership interests and membership interests in Victor Capital Group, L.P. and including under Item 7 "Financial Statements and Exhibits" certain exhibits relating to the matters reported under Item 1 and Item 2. (3) Current Report on Form 8-K, dated August 4, 1997, as filed with the Commission on August 19, 1997, reporting under Item 2 "Acquisition on Disposition of Assets" the origination and funding of a short-term mortgage loan. (4) Current Report on Form 8-K, dated August 13, 1997, as filed with the Commission on August 28, 1997, reporting under Item 2 "Acquisition or Disposition of Assets" the origination and funding of a short-term loan secured by a mortgage note. -37- SIGNATURES Pursuant to the requirement of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. CAPITAL TRUST Date: November 14, 1997 /s/ John R. Klopp ----------------- ----------------- John R. Klopp Chief Executive Officer (principal executive officer) /s/ Edward L Shugrue III Edward L. Shugrue III Managing Director and Chief Financial Officer (principal financial officer) -38- EX-10.7 2 EMPLOYMENT AGREEMENT EMPLOYMENT AGREEMENT THIS EMPLOYMENT AGREEMENT ("Agreement") is made and entered into as of July 15, 1997, by and between Capital Trust, a business trust organized under the laws of the State of California and established under a Declaration of Trust dated September 15, 1966, as amended from time to time (such trust and any successors thereto being hereinafter referred to as "Capital Trust"), and Donald Meyer ("Executive"). RECITALS WHEREAS, Capital Trust desires to employ Executive as Managing Director and Chief Investment Officer of Capital Trust; and WHEREAS, Executive desires to be employed by Capital Trust at the salary and benefits provided for herein; and WHEREAS, Executive acknowledges and understands that during the course of his employment, Executive will develop certain strategic business relationships and become familiar with certain confidential information of Capital Trust which are exceptionally valuable to Capital Trust and vital to the success of Capital Trust's business; and WHEREAS, Capital Trust and Executive desire to protect such business relationships and such confidential information from use to the detriment of Capital Trust or disclosure to third parties. NOW THEREFORE, in consideration of the premises and of the mutual covenants and agreements hereinafter set forth, the parties hereto acknowledge and agree as follows: TERMS PART ONE NATURE AND TERM OF EMPLOYMENT 1.01 Employment. Capital Trust hereby agrees to employ Executive, and Executive hereby accepts such employment, as Managing Director and Chief Investment Officer of Capital Trust. 1.02 Term of Employment. The term of Executive's employment hereunder shall be for a period of two years beginning on the date of this Agreement (the "Original Term"). 1.03 Term Extension. Immediately as of the expiration of the Original Term and each Renewal Period, this Agreement will automatically renew and extend for successive one year periods (the "Renewal Periods"), unless Capital Trust or Executive shall have delivered to the other written notice of non-renewal at least one hundred twenty (120) days prior to the expiration of the Original Term or the applicable Renewal Period, in which case the Original Term or the applicable Renewal Period shall expire effective as of the last day of the Original Term or the applicable Renewal Period, as the case may be. The period during which Executive shall be employed by Capital Trust hereunder shall be referred to herein as the "Employment Period." 1.04 At Will Employment. Notwithstanding anything to the contrary contained in this Agreement, Executive's employment by Capital trust shall be "at will", and both the Original Term and the Renewal Periods are subject to termination at any time for any or no reason by either Capital Trust or Executive upon written notice to the other party. 1.05 Duties. The duties of Executive shall be as determined by the Board of Trustees of Capital Trust (the "Board") consistent with Executive's title and position with the Company, and Executive shall report to, and shall be subject to the direction and control of, the Vice Chairman of the Board and/or Chief Executive Officer of Capital Trust and/or such other officers of Capital Trust as the Board shall determine. Executive agrees to devote his full business time, attention and energies to the diligent performance of his duties hereunder and will not, during the Employment Period, engage in, accept employment from or provide services to any other person, firm, corporation, governmental agency or other entity. PART TWO COMPENSATION AND BENEFITS 2.01 Salary. During the Employment Period, Executive shall receive a base salary at the rate of $300,000 per annum (the "Base Salary"), payable in regular installments in accordance with Capital Trust's general payroll practices for salaried employees. During the Employment Period, the Base Salary may be increased as of each anniversary of the date of this Agreement in the Board's sole discretion. 2.02 Bonus. In addition to his Base Salary, Executive may receive during the Employment Period, as determined annually at the discretion of the Board, an annual incentive cash bonus based upon Executive's performance and the profitability of Capital Trust during such period. Notwithstanding anything to the contrary in this Section 2.02, Executive shall be entitled to receive a minimum annual bonus of $150,000 in cash (the "Minimum Annual Bonus"), payable on or about January 1, 1998, and January 1, 1999; provided further, however, that it is agreed that (i) subject to Part Three of this Agreement, Executive shall not have earned and shall not be entitled to receive any portion of the Minimum Annual Bonus if for any or no reason he is not employed by Capital Trust on such dates, and (ii) such minimum bonuses shall not apply to any periods subsequent to January 1, 1999. 2.03 Benefits. During the Term of this Agreement, Capital Trust agrees to provide to Executive such benefits as are provided to other employees of Capital Trust from time to time, including but not limited to, any health, disability, life, deferred compensation, profit-sharing, pension, vacation, reimbursement of reasonable out-of-pocket business expenses or other employee benefit policies, programs or plans (other than with respect to severance) which Capital Trust provides to its employees, all at levels determined by the Board and commensurate with Executive's position. 2.04 Share Plan. Executive shall participate in Capital Trust's 1997 Long-Term Incentive Share Plan, and any successor plan thereto ("Share Plan") at a level determined by the Board and commensurate with his position. 2 2.05 Withholding. Any amounts payable to Executive hereunder shall be paid to Executive subject to all applicable taxes required to be withheld by the Company pursuant to federal, state or local law. Executive or his beneficiary, if applicable, shall be solely responsible for all taxes imposed on Executive or his beneficiary by reason of his receipt of any amount of compensation or benefits payable to Executive hereunder. PART THREE SEVERANCE PAYMENTS 3.01 General. Either Capital Trust or Executive may terminate Executive's employment during the Employment Period for any or no reason by delivery to the other party of a written notice (the "Termination Notice") indicating the date Executive's employment is terminated (the "Termination Date"). 3.02 Involuntary Termination without Cause. (a) If Capital Trust terminates Executive's employment prior to the expiration of the Original Term for any reason other than Cause, or if Employee terminates his employment prior to the expiration of the Original Term for Good Reason: (i) Capital Trust shall pay to Executive Executive's Base Salary accrued up to the Termination Date; and (ii) upon execution and delivery by Executive of the form of Release attached hereto as Exhibit A, and the expiration of the seven day revocation period provided in said Release without revocation of said Release by Executive, Capital Trust shall pay to Executive, a severance payment equal to (A) the Base Salary payable to Executive over the remainder of the Original Term had Executive not been so terminated (the "Base Severance") and (B) the Minimum Annual Bonus in respect of the first and second year of the Original Term if and to the extent not previously paid to Executive (the "Bonus Severance"). The Base Severance shall be payable over a period of time equal to the remainder of the Original Term had Executive not been so terminated beginning on the Termination Date and in regular installments in accordance with Capital Trust's general payroll practices for salaried employees. The portion, if any, of the Bonus Severance payable in respect of the first year of the Original Term shall be payable no later than January 10, 1998. The portion, if any, of the Bonus Severance payable in respect of the second year of the Original Term shall be payable no later than January 10, 1999. As used in this Agreement, "Good Reason" shall mean a willful and material breach of this Agreement by Capital Trust; (b) Notwithstanding anything to the contrary in the Share Plan or in any option agreement thereunder, if Capital Trust terminates Executive's employment at any time during the Employment Period, including, without limitation, during any Renewal Period, or refuses to renew this Agreement after the expiration of the Original Term or any Renewal Term, in each case for any reason other than Cause, or if Employee terminates his employment at any time during the Employment Period, including, without limitation, during any Renewal Period, or refuses to renew this Agreement after the expiration of the Original Term or any Renewal Term, in each case for Good Reason: (A) all of the initial 75,000 options granted to Executive under the Share Plan 3 which are not vested at the time of termination will automatically vest and become immediately exercisable for the total number of shares purchasable thereunder; and (B) such options will expire on the earlier of (aa) the expiration date of such options under the Share Plan and (bb) one year from the Termination Date. (c) Except as set forth in this Section 3.02, Executive shall not be entitled to receive any other severance, benefits or compensation of any kind whatsoever. 3.03 Voluntary Termination. If Executive terminates his employment voluntarily without Good Reason, Executive shall be entitled to receive only his Base Salary accrued through the Termination Date as set forth in the Termination Notice, and Executive shall not be entitled to receive any Base Severance, Bonus Severance or other severance benefits or compensation of any kind whatsoever. Except as set forth in this Section 3.03, Executive shall not be entitled to receive any other severance, benefits or compensation of any kind whatsoever. 3.04 Involuntary Termination for Cause. If Capital Trust terminates Executive's employment prior to the expiration of the Original Term for Cause, Executive shall be entitled to receive only his Base Salary accrued through the Termination Date as set forth in the Termination Notice, and Executive shall not be entitled to receive any Base Severance, Bonus Severance or other severance benefits or compensation of any kind whatsoever. As used in this Section 3.04, "Cause" shall mean: (a) fraud, embezzlement or conviction of a felony; (b) misappropriation of any money, proprietary information or other assets or properties of Capital Trust or any affiliate of Capital other than (i) an isolated, insubstantial and unintentional misappropriation which is promptly remedied by Executive after receipt of notice thereof by Capital Trust, or (ii) any good faith dispute regarding reimbursement of expenses or other similar good faith dispute; (c) willful and material breach by Executive of the terms of this Agreement; and (d) any other verifiable misconduct of Executive materially and adversely affecting the reputation of Capital Trust. Except as set forth in this Section 3.04, Executive shall not be entitled to receive any other severance, benefits or compensation of any kind whatsoever. 3.05 Sole Remedy. The rights and remedies provided for in this Part Three in connection with the termination of Executive's employment, voluntarily or involuntarily, for any or no reason, shall be the only remedy, legal or equitable, available to Executive in connection with such termination (but not for claims or causes of action not directly related to such termination, even if arising at the time of termination), and such rights and remedies shall constitute liquidated damages. PART FOUR CONFIDENTIAL INFORMATION AND NON-SOLICITATION 4.01 Definition of Confidential Information. For the purposes of this Agreement, the term "Confidential Information" shall mean all information and all documents and other tangible items which record information which is non-public, confidential or proprietary in nature with respect to Capital Trust or its customers, clients or investors and shall include, but shall not be limited to: (a) all information, which at the time or times concerned is protectible as a trade secret under applicable law; (b) business and investment plans and strategies; (c) marketing plans and strategies; and (d) proprietary software and business records. Capital Trust and Executive acknowledge and agree that the Confidential Information is extremely valuable to Capital Trust 4 and the information referred to in subparagraphs (b) through (d) inclusive of this Section 4.01 is especially sensitive and valuable. 4.02 Non-Disclosure of Confidential Information. Executive will not during, or for a period of two (2) years after termination of Executive's employment for any or no reason, in any form or manner, directly or indirectly, divulge, disclose or communicate to any person, entity, firm, corporation or any other third party, or utilize for the Employee's personal benefit of for the benefit of any person, entity, firm or corporation (other than Capital Trust), any Confidential Information. 4.03 Delivery Upon Termination. Upon termination of Executive's employment with Capital Trust for any or no reason, Executive will promptly deliver to Capital Trust all correspondence, manuals, letters, notes, notebooks, reports, programs, plans, proposals, financial documents, or any other documents or media concerning Capital Trust and/or which contains Confidential Information. 4.04 Restriction Against Employing Capital Trust Employees. Executive will not, for a period of (1) one year after termination of Executive's employment with Capital Trust for any or no reason, directly or indirectly, whether individually, as a director, stockholder, partner, member, owner, employee or agent of any business, or in any other capacity, solicit for employment or engagement, any person who is employed or otherwise engaged by Capital Trust on, or within 180 days prior to, such termination of Executive. 4.05 Continuing Obligation. The obligations, duties and liabilities of Executive pursuant to Part Four of this Agreement are continuing, absolute and unconditional and shall remain in full force and effect as provided therein despite any termination of Executive's employment with Capital Trust for any or no reason, including, but not limited to, the expiration of the Employment Period. 4.06 Executive Acknowledgment/Injunctive Relief. Executive acknowledges and agrees that the covenants set forth in Part Four hereof are reasonable and necessary for the protection of Capital Trust's business interests, that such covenants will not result in undue economic hardship to Executive, that irreparable injury will result to Capital Trust if Executive breaches any of the terms of said covenants, and that in the event of Executive's actual or threatened breach of any such covenants, Capital Trust will have no adequate remedy at law. Executive accordingly agrees that in the event of any actual or threatened breach by him of any of said covenants, Capital Trust shall be entitled to immediate injunctive and other equitable relief, without bond and without the necessity of showing, any actual monetary damages. If, in any action by Capital Trust against Executive to enforce the provisions of this Part Four, there shall be a final judicial finding that Executive has committed a material breach of this Part Four, Executive shall reimburse Capital Trust for its reasonable costs and expenses in such action (including court costs and reasonable attorney's fees). If, in any action by Capital Trust against Executive to enforce the provisions of this Part Four, there shall be a final judicial finding that Executive has not committed a material breach of this Part Four, Capital Trust shall reimburse Executive for his reasonable costs and expenses in defending such action (including court costs and reasonable attorney's fees). If in any such action there is no judicial finding on the issue of a material breach by Executive of this Part Four, neither party shall be obligated to reimburse the other for costs and expenses relating to the action. Nothing herein shall be construed as prohibiting Capital Trust from pursuing any other remedies available to it for such breach or threatened breach, including the recovery of any damages which it is able to prove. 5 PART FIVE MISCELLANEOUS 5.01 Assignment. Executive and Capital Trust acknowledge and agree that the covenants, terms and provisions contained in this Agreement constitute a personal employment contract and the rights of the parties thereunder cannot be transferred, sold, assigned, pledged or hypothecated, excepting that the rights and obligations of Capital Trust under this Agreement may be assigned or transferred by operation of law pursuant to a merger, consolidation, share exchange, sale of substantially all of Capital Trust's assets, or other reorganization described in Section 368 of the Code, or through liquidation, dissolution or otherwise, whether or not Capital Trust is the continuing entity, provided that the assignee or transferee is the successor to all or substantially all of the assets of Capital Trust and, in the event of any such transaction, such assignee or transferee assumes the liabilities, obligations and duties of Capital Trust, if any, as contained in this Agreement, either contractually or as a matter of law. 5.02 Capacity. Executive hereby represents and warrants that, in entering into this Agreement, he is not in violation of any contract or agreement, whether written or oral, with any other person, firm, partnership, corporation, or other entity to which he is a party or by which he is bound and will not violate or interfere with the rights of any other person, firm, partnership, corporation or other entity. In the event that such a violation or interference does occur, or is alleged to occur, notwithstanding the representation and warranty made hereunder, Executive shall indemnify Capital Trust from and against any and all manner of expenses and liabilities incurred by Capital Trust or any affiliated company of Capital Trust in connection with such violation or interference or alleged violation or interference. 5.03 Severability. If any phrase, clause or provision of this Agreement is declared invalid or unenforceable by a court of competent jurisdiction, such phrase, clause or provision shall be deemed severed from this Agreement, but will not affect any other provisions of this Agreement, which shall otherwise remain in full force and effect. If any restriction or limitation in this Agreement is deemed to be unreasonable, onerous and unduly restrictive by a court of competent jurisdiction, it shall not be stricken in its entirety and held totally void and unenforceable, but shall remain effective to the maximum extent permissible within reasonable bounds. 5.04 Notices. Any notice, request or other communication required to be given pursuant to the provisions hereof shall be in writing and shall be deemed to have been given when delivered in person or five (5) days after being deposited in the United States mail, certified or registered, postage pre-paid, return receipt requested and addressed to the party at its or his last known addresses. The address of any party may be changed by notice in writing to the other parties duly served in accordance herewith. 5.05 Waiver. The waiver by Capital Trust or Executive of any breach of any term or condition of this Agreement shall not be deemed to constitute the waiver of any other breach of the same or any other term or condition hereof. 6 5.06 Governing Law. This Agreement and the enforcement thereof shall be governed and controlled in all respects by the laws of the State of New York (applicable to agreements to be performed wholly within such state). IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be duly executed as of the date first hereinabove written. CAPITAL TRUST By:/s/ John Klopp -------------------------------------- John Klopp, Vice Chairman of the Board and Chief Executive Officer EXECUTIVE: /s/ Donald Meyer 7 EX-27 3 FDS --
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL EXTRACTED FROM THE FINANCIAL STATEMENTS OF CAPITAL TRUST FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1997 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000 9-MOS DEC-31-1997 JAN-01-1997 SEP-30-1997 4063 62,521 39,022 155 0 6,511 384 51 112,295 2,738 54,188 12,268 0 9,138 33,963 112,295 0 3,713 0 5,579 432 155 0 (2453) 0 (2453) 0 0 0 (2453) (0.34) (0.34)
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