-----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, By0Idp5/9K67ksUFAbXu+FWr9eSOGolvNh89efkQy+Lkrjaivx0K5JUOFFBkCkWy uHygu5lzBrx643Mv5zvOHw== 0000950123-03-006106.txt : 20030515 0000950123-03-006106.hdr.sgml : 20030515 20030515162807 ACCESSION NUMBER: 0000950123-03-006106 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 20030331 FILED AS OF DATE: 20030515 FILER: COMPANY DATA: COMPANY CONFORMED NAME: FIRST UNION REAL ESTATE EQUITY & MORTGAGE INVESTMENTS CENTRAL INDEX KEY: 0000037008 STANDARD INDUSTRIAL CLASSIFICATION: REAL ESTATE INVESTMENT TRUSTS [6798] IRS NUMBER: 346513657 STATE OF INCORPORATION: OH FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 001-06249 FILM NUMBER: 03705043 BUSINESS ADDRESS: STREET 1: 551 FIFTH AVE STREET 2: STE 1416 CITY: NEW YORK STATE: NY ZIP: 10176 BUSINESS PHONE: 2129051104 MAIL ADDRESS: STREET 1: 551 FIFTH AVE STREET 2: SUITE 1416 CITY: NEW YORK STATE: NY ZIP: 10176 FORMER COMPANY: FORMER CONFORMED NAME: FIRST UNION REALTY DATE OF NAME CHANGE: 19691012 10-Q 1 y86708e10vq.txt FIRST UNION REAL ESTATE INVESTMENTS ================================================================================ UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended March 31, 2003 Commission File Number 1-6249 First Union Real Estate Equity and Mortgage Investments ------------------------------------------------------- (Exact name of registrant as specified in its charter) Ohio 34-6513657 - ------------------------------- ------------------------------------ (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 125 Park Avenue, 14th Floor New York, New York 10017 - ------------------------------------ ---------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (212) 949-1373
- -------------------------------------------------------------------------------- Former name, former address and former fiscal year, if changed since last report. Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate the number of shares outstanding of each of the registrant's classes of common stock, as of the latest practicable date. 34,814,361 Shares of Beneficial Interest outstanding as of May 1, 2003 ================================================================================ Total number of pages contained in this report: 30 PART I - FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS. FIRST UNION REAL ESTATE EQUITY and MORTGAGE INVESTMENTS Combined Balance Sheets
(In thousands, except share data) March 31, 2003 December 31, (Unaudited) 2002 ----------- ----------- ASSETS Investments in real estate, at cost Land $6,086 $6,086 Buildings and improvements 64,902 64,867 ----------- ----------- 70,988 70,953 Less - Accumulated depreciation (12,563) (12,057) ----------- ----------- Investments in real estate, net 58,425 58,896 Other assets Cash and cash equivalents - unrestricted 3,034 3,897 - restricted 2,196 1,968 Accounts receivable and prepayments, net of allowances of $608 and $601, respectively 890 1,625 Investments 103,993 103,974 Inventory, net of reserve 1,117 1,033 Unamortized debt issue costs, net 259 278 Other 147 154 ----------- ----------- Total assets $170,061 $171,825 =========== =========== LIABILITIES AND SHAREHOLDERS' EQUITY Liabilities Mortgage loan $41,690 $41,781 Note payable 76 80 Senior notes 12,538 12,538 Accounts payable and accrued liabilities 8,073 8,332 Dividends payable 516 516 Deferred items 609 471 ----------- ----------- Total liabilities 63,502 63,718 ----------- ----------- Shareholders' equity Convertible preferred shares of beneficial interest, $25 per share liquidation preference, 2,300,000 shares authorized, 983,082 shares outstanding at March 31, 2003 and December 31, 2002 23,131 23,131 Shares of beneficial interest, $1 par, unlimited authorized, 34,814,361 outstanding at March 31, 2003 and December 31, 2002 34,814 34,814 Additional paid-in capital 207,634 207,634 Accumulated distributions in excess of net income (159,020) (157,472) ----------- ----------- Total shareholders' equity 106,559 108,107 ----------- ----------- Total liabilities and shareholders' equity $170,061 $171,825 =========== ===========
See Notes to Combined Financial Statements. 2 FIRST UNION REAL ESTATE EQUITY and MORTGAGE INVESTMENTS Combined Statements of Operations
Unaudited (In thousands, except per share data) Three Months Ended March 31, ------------------------------------- 2003 2002 ----------- ----------- Revenues Rents $3,445 $3,297 Sales 726 945 Interest 259 461 ----------- ----------- 4,430 4,703 ----------- ----------- Expenses Property operating 1,181 1,270 Cost of goods sold 1,087 1,373 Real estate taxes 225 220 Depreciation and amortization 535 509 Interest 1,272 1,203 General and administrative 1,162 1,618 ----------- ----------- 5,462 6,193 ----------- ----------- Net loss (1,032) (1,490) Preferred dividend (516) (517) ----------- ----------- Net loss applicable to shares of beneficial interest $(1,548) $(2,007) =========== =========== Per share data Basic: Net loss applicable to shares of beneficial interest $(0.04) $(0.06) =========== =========== Diluted: Net loss applicable to shares of beneficial interest $(0.04) $(0.06) =========== =========== Basic weighted average shares 34,814 34,806 =========== =========== Diluted weighted average shares 34,814 34,806 =========== ===========
See Notes to Combined Financial Statements. 3 FIRST UNION REAL ESTATE EQUITY and MORTGAGE INVESTMENTS Combined Statements of Cash Flows
Unaudited (In thousands) Three Months Ended March 31, ------------------------------------- 2003 2002 ----------- ----------- Cash provided by (used for) operating activities Net loss $(1,032) $(1,490) Adjustments to reconcile net loss to net cash provided by (used for) operating activities Depreciation and amortization 535 509 Increase (decrease) in deferred items 138 (313) Net changes in other operating assets and liabilities 392 500 ----------- ----------- Net cash provided by (used for) operating activities 33 (794) ----------- ----------- Cash (used for) provided by investing activities Purchase of investments (335,812) (342,955) Proceeds from maturity of investments 335,793 344,823 Investments in building and tenant improvements (38) (61) ----------- ----------- Net cash (used for) provided by investing activities (57) 1,807 ----------- ----------- Cash used for financing activities Decrease in note payable (4) (4) Repayment of mortgage loan - principal payments (91) (85) Dividends paid on preferred shares of beneficial interest (516) (517) ----------- ----------- Net cash used for financing activities (611) (606) ----------- ----------- (Decrease) increase in cash and cash equivalents (635) 407 Cash and cash equivalents at beginning of period 5,865 4,724 ----------- ----------- Cash and cash equivalents at end of period $5,230 $5,131 =========== =========== Supplemental Disclosure of Cash Flow Information Interest paid $994 $1,481 =========== =========== Supplemental Disclosure of Non-Cash Financing Activities Dividends accrued on shares of beneficial interest and preferred shares of beneficial interest $516 $3,998 =========== ===========
See Notes to Combined Financial Statements. 4 FIRST UNION REAL ESTATE EQUITY AND MORTGAGE INVESTMENTS FORM 10-Q MARCH 31, 2003 NOTES TO COMBINED FINANCIAL STATEMENTS General The accompanying financial statements represent the combined results of the registrant, First Union Real Estate Equity and Mortgage Investments (the "Trust") and First Union Management Inc. (the "Company"). Under a trust agreement, the common shares of the Company are held for the benefit of the shareholders of the Trust. Accordingly, the financial statements of the Company and the Trust have been combined. The combined financial statements included herein have been prepared by the Trust, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to such rules and regulations, although the Trust believes that the disclosures contained herein are adequate to make the information presented not misleading. These combined financial statements should be read in conjunction with the combined financial statements and the notes thereto included in the Trust's latest annual report on Form 10-K. The combined financial statements reflect, in the opinion of the Trust, all adjustments (consisting of normal recurring adjustments) necessary to present fairly the combined financial position and results of operations for the respective periods in conformity with accounting principles generally accepted in the United States of America consistently applied. Accounting Policies In April 2002, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13 and Technical Corrections," which updates, clarifies and simplifies existing accounting pronouncements. In part, this statement rescinds SFAS No. 4, "Reporting Gains and Losses from Extinguishment of Debt." FASB No. 145 is effective for fiscal years beginning after May 15, 2002. Upon adoption, enterprises must reclassify prior period items that do not meet the extraordinary item classification criteria in Accounting Principles Board ("APB") No. 30. The adoption of this statement had no impact on the Trust's combined financial statements. In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities." SFAS No. 146 requires companies to recognize costs associated with exit or disposal activities when they are incurred rather than at the date of a commitment to an exit or disposal plan. Examples of costs covered by the standard include lease termination costs and certain employee severance costs that are associated with a restructuring, discontinued operation, plant closing or other exit or disposal activity. SFAS No. 146 is effective prospectively for exit and disposal activities initiated after December 31, 2002, with earlier adoption encouraged. In November 2002, the FASB issued Interpretation No. 45, "Guarantors' Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others." The Interpretation elaborates on the disclosures to be made by a guarantor in its financial statements about its obligations under certain guarantees that it has issued. It also clarifies that a guarantor is required to recognize, at the inception of a 5 guarantee, a liability for the fair value of the obligation undertaken in issuing the guarantee. This Interpretation does not prescribe a specific approach for subsequently measuring the guarantor's recognized liability over the term of the related guarantee. The disclosure provisions of this Interpretation were effective for the Trust's December 31, 2002 combined financial statements. The initial recognition and initial measurement provisions of this Interpretation are applicable on a prospective basis to guarantees issued or modified after December 31, 2002. This Interpretation had no effect on the Trust's combined financial statements. The Trust's guarantees are disclosed in the combined financial statements. In January 2003, the FASB issued Interpretation No. 46, "Consolidation of Variable Interest Entities." This Interpretation clarifies the application of existing accounting pronouncements to certain entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. The provisions of the Interpretation are immediately effective for all variable interests in variable interest entities created after January 31, 2003, and the Trust will need to apply its provisions to any existing variable interests in variable interest entities by no later than December 31, 2004. The Trust does not anticipate that this Interpretation will have an impact on its combined financial statements. Earnings Per Share The computation of basic and diluted earnings per share is as follows (in thousands, except per share data):
Three Months Ended March 31, --------------------------------------- 2003 2002 ------------ ------------ Basic Net loss $ (1,032) $ (1,490) Preferred dividend (516) (517) ------------ ------------ Net loss applicable to shares of beneficial interest $ (1,548) $ (2,007) ============ ============ Basic weighted average shares 34,814 34,806 ============ ============ Net loss per share $ (0.04) $ (0.06) ============ ============ Diluted Net loss $ (1,032) $ (1,490) Preferred dividend (516) (517) ------------ ------------ Net loss applicable to shares of beneficial interest $ (1,548) $ (2,007) ============ ============ Basic weighted average shares 34,814 34,806 Convertible preferred shares -- -- ------------ ------------ Diluted weighted average shares 34,814 34,806 ============ ============ Net loss per share $ (0.04) $ (0.06) ============ ============
The preferred shares are not included in the diluted earnings per share calculation for the three months ended March 31, 2003 and 2002 because they are anti-dilutive. 6 Share Options The Trust accounts for stock option awards in accordance with APB No. 25, "Accounting for Stock Issued to Employees" and has adopted the disclosure-only provisions of SFAS No. 123, "Accounting for Stock-Based Compensation." Consequently, compensation cost has not been recognized for the share option plans except for the options granted in 1999 which had an exercise price that was less than the grant date per share market price. Had the Trust applied the expense recognition provisions of SFAS No. 123, there would have been no impact on the results of operations for the periods ended March 31, 2003 and 2002. Dividends The Trust declared a dividend of $0.5 million ($0.525 per share) to Series A Cumulative Preferred Shareholders in the first quarter of 2003. The first quarter dividend was paid April 30, 2003 to shareholders of record at the close of business on March 31, 2003. Legal Proceedings Preferred Shareholders Lawsuit Kimeldorf v. First Union, et al. On April 15, 2002, the Trust was served with a complaint filed in the Supreme Court of New York in New York County on behalf of a purported holder of the Trust's convertible preferred shares. Among the allegations made by the plaintiff is that the proposed transaction with Gotham Golf Corp. ("Gotham Golf") was approved by the Trust's Board of Trustees in violation of fiduciary duties owed to the holders of the Trust's convertible preferred shares. The suit seeks, among other things, unspecified damages, an injunction of the proposed transaction and the court's certification of the lawsuit as a class action. Named as defendants in the lawsuit were the Trust, its five then trustees and Gotham Partners, L.P. ("Gotham Partners"). On November 21, 2002 the New York Supreme Court of New York County issued an order granting motions for preliminary injunction. On December 6, 2002, the New York Supreme Court for New York County issued an order reaffirming its preliminary injunction barring the proposed merger of the Trust with and into Gotham Golf. The court's order also extended indefinitely the preliminary injunction previously granted with respect to the proposed merger transaction and directed the parties of the lawsuit to attend a preliminary conference for the purpose of scheduling discovery. The Trust filed a notice of appeal of the preliminary injunction with the Appellate Division of the New York Supreme Court. Oral argument with respect to the appeal was held before a judicial panel of the Appellate Division - First Department of the New York Supreme Court on March 11, 2003. There is no specific timetable for the appellate court to render its decision. It is not possible to predict the outcome of the appellate process with respect to lifting the injunction. In the event that the Appellate Division rules that the injunction should not be lifted, the case will proceed to trial on the merits. In the event that the injunction imposed by the trial court were lifted and dissolved, it is the intention of the Trust and, to the best of the Trust's knowledge, Gotham Partners and the other Gotham Partners-affiliated parties to the proposed merger transaction, to take the steps necessary to consummate the proposed transaction. However, any party to the Kimeldorf litigation may seek leave of the Appellate Division to appeal to the Court of Appeals of the State of New York an adverse ruling by the Appellate Division regarding the injunction granted by the trial court. 7 On or about November 8, 2002, First Carolina Investors, Inc. ("First Carolina") a holder of preferred shares, filed a separate lawsuit in New York Supreme Court for New York County, naming the same defendants as in the Kimeldorf case. On or about December 20, 2002, plaintiffs Kimeldorf and First Carolina filed a consolidated amended complaint alleging, among others, breach of contract; aiding and abetting breach of contract; tortuous interference with the contract; breach of fiduciary duties; aiding and abetting of breach of fiduciary duties; and unconscionability against the defendants, styled Kimeldorf et al. v. First Union, et al. This consolidated amended complaint essentially consolidated the separate First Carolina complaint, filed on or about November 8, 2002 with the complaint of Mr. Kimeldorf filed in April 2002. On April 30, 2003, the trial court granted the plaintiff's motion to certify the litigation as a class action. The Trust regards the lawsuit as being without merit and will vigorously defend against the asserted claims. Common Shareholders Lawsuits Fink v. First Union. On or about January 24, 2003, the Trust was served with a complaint filed in the Supreme Court of New York, New York County on behalf of a purported holder of the Trust's common shares, on behalf of himself and the common shareholders as a class. The lawsuit seeks a declaration that the lawsuit is maintainable as a class action and a certification that the plaintiff, Robert Fink, is the representative of the class. Named as defendants in the lawsuit are the Trust, Gotham Partners, the companies affiliated with Gotham Partners and the Trust that are parties to the Merger Agreement, William Ackman and the four current Trustees of the Trust. Among the allegations asserted are breach of fiduciary duty and aiding and abetting thereof in connection with the transactions contemplated by the Merger Agreement. The relief requested by the plaintiff includes an injunction preventing the defendants from proceeding with consummation of the merger, rescission of the merger if it occurs, an accounting for any profits realized by the defendants as a result of the actions complained of, an order permitting the creation of a shareholders' committee composed of the Trust common shareholders and their representatives to manage the affairs of the Trust, compensatory damages and the costs and disbursements of plaintiff's counsel. On or about February 14, 2003, the parties to this lawsuit stipulated that the defendants need not answer or otherwise respond to the complaint for an indefinite period of time. The stipulation is revocable by the plaintiff at any time. The Trust believes that the purpose of the stipulation was to delay court proceedings in this lawsuit until the outcome of the appeal of the injunction entered in the Kimeldorf, et al. v. First Union, et al. case (see above) is decided by the Appellate Division. The Trust regards the lawsuit as without merit and plans to vigorously defend against the allegations. The Trust will oppose any attempt by the plaintiff to interfere with the transactions contemplated by the Merger Agreement, which was approved by more than 64% of the outstanding common shares of the Trust and by approximately 98% of the common shares voted at a special meeting of shareholders held on November 27, 2002. K-A & Company, LTD. v. First Union. On or about February 12, 2003, certain of the Trust Trustees and, later, the Trust, were served with a complaint filed in the Court of Common Pleas, Cuyahoga County, Ohio, by a purported holder of the Trust's common shares, on behalf of itself and the Trust common shareholders as a class. Named as defendants in the lawsuit are the Trust, Gotham Partners, William Ackman and the four current Trustees of the Trust. The allegations made and the relief requested in the K-A suit are substantially identical to those of the Fink v. First Union suit referenced above. The lawsuit seeks a declaration that the lawsuit is 8 maintainable as a class action and certification that the plaintiff, K-A & Company, Ltd., is the representative of the class. Among the allegations asserted are breach of fiduciary duty and aiding and abetting thereof in connection with the transactions contemplated by the Merger Agreement. This lawsuit was removed by notice filed by defendants to the United States District Court, Northern District of Ohio, Eastern Division (Case No. 1:03 CV 0460). The relief requested by the plaintiff includes an injunction preventing the defendants from proceeding with consummation of the merger, rescission of the merger if it occurs, an accounting for any profits realized by the defendants as a result of the actions complained of, an order permitting the creation of a shareholders' committee composed of the Trust common shareholders and their representatives to manage the affairs of the Trust, compensatory damages and the costs and disbursements of plaintiff's counsel. On April 10, 2003, the plaintiff filed a motion for a preliminary injunction seeking an order preventing the defendants from consummation of the merger. The defendants have filed a motion requesting the court to stay consideration of the plaintiff's motion pending a decision on the appeal of the preliminary injunction entered by the New York Supreme Court for New York County in Kimeldorf v. First Union, described above. The court has not ruled on either motion and there is no timetable for a ruling. As with the Fink v. First Union lawsuit, the Trust regards the lawsuit as without merit and plans to vigorously defend against the allegations. Peach Tree Mall Litigation The Trust, as one Plaintiff in a class action composed of numerous businesses and individuals, has pursued legal action against the State of California associated with the 1986 flood of Sutter Buttes Center, formerly Peach Tree Mall. In September 1991, the court ruled in favor of the plaintiffs on the liability portion of the inverse condemnation suit, which the State of California appealed. In the third quarter of 1999, the 1991 ruling in favor of the Trust and the other plaintiffs was reversed by the State of California Appeals Court, which remanded the case to the trial court for further proceedings. After the remand to the trial court, the Trust and the other plaintiffs determined to pursue a retrial before the court. The retrial of the litigation commenced February 2001 and was completed July 2001. In November 2001, the trial court issued a decision that generally holds in favor of the State of California. In February 2002, the Plaintiffs in the case filed a notice of appeal of the ruling of the trial court. Both the Plaintiffs and the State have filed their opening briefs in the California Court of Appeals, and the Plaintiffs are to submit a reply brief in May 2003. The Trust is unable to predict at this time whether or not it will recover any amount of its damage claims in this legal proceeding. Indemnity to Imperial Parking Corporation In 1999, Newcourt Financial Ltd. ("Newcourt") brought a claim in Ontario against an affiliate of the Trust and Imperial Parking Limited alleging a breach of a contract between the Trust affiliate and Newcourt's predecessor-in-interest, Oracle Credit Corporation and Oracle Corporation Canada, Inc. The Trust affiliate and Imperial Parking Limited brought a separate action in British Columbia against Newcourt, Oracle Credit Corporation and Oracle Corporation Canada claiming, among other things, that the contract at issue was not properly authorized by the Trust's board of trustees and the Imperial Parking Limited board of directors. On March 27, 2000, in connection with the spinoff of Imperial Parking Corporation (the successor in interest to Imperial Parking Limited) to the Trust's shareholders, the Trust granted a full indemnity to Imperial Parking Corporation in respect of all damages arising from the outstanding actions. 9 Numerous attempts to settle this matter have not been successful. The Trust has reserved $575,000 in its combined financial statements for this claim. The reserved amount consists of the face amount of the contract of $425,000 and estimated costs of $150,000. The amount of the claim, $825,000, includes Newcourt's calculation of interest on the amount due at the default rate under the contract. The Trust believes that, due to the failure of attempted settlement negotiations, discovery will commence, and the matter will become more actively litigated. The Trust intends to defend vigorously against the claims brought against the parties that it has indemnified and to pursue their separate claims with respect to this matter. Mountaineer Mall Claim The Trust was named as a defendant in a lawsuit filed in connection with a contractor's claim relative to the construction of a portion of the Mountaineer Mall, located in Morgantown, West Virginia. The construction of the mall commenced in 1993 and was completed in 1995. The mall was sold in July 1999. A trial on the merits of the lawsuit was held in 1997. In October 2002, the court issued findings of fact and conclusions of law providing that the claimant was entitled to recover from the Trust the principal amount of $266,076 in damages plus various interest amounts, which, when added to the principal amount, would result in an aggregate damage award of $494,382 against the Trust. The court's order provided, however, that the amount of the damage award is subject to offset by the amount of legal fees and expenses reasonably and necessarily incurred by the Trust in defending a certain mechanic's lien claim asserted by the plaintiff in the lawsuit. The court further directed that the plaintiff and the Trust negotiate in good faith as to the amount of such expense and that, if the parties are unable to agree as to the appropriate offset, the court would schedule an evidentiary hearing for the purpose of resolving the issue. In response to the October 2002 order, the Trust's counsel in the litigation has been attempting to determine the amount of allowable offset to reduce the damages assessed against the Trust. As this matter is subject to further negotiation and possible further court proceedings to reach a final resolution, the Trust is not able to predict the final outcome of this claim. The Trust does not expect that the outcome will have a significant impact on the combined financial position of the Trust. Proposed Transaction On February 13, 2002, the Trust entered into a definitive agreement of merger and contribution with, among others, Gotham Partners, a shareholder of the Trust that is controlled by affiliates of William A. Ackman, who was at the time Chairman of the Board of Trustees of the Trust, and Gotham Golf, a Delaware corporation controlled by Gotham Partners, pursuant to which the Trust agreed to merge with and into Gotham Golf. The parties subsequently adopted Amendment No. 1 to the merger agreement on April 24, 2002, Amendment No. 2 to the merger agreement on September 24, 2002 and Amendment No. 3 to the merger agreement on October 24, 2002. If consummated, the proposed transaction will result in the Trust's common shareholders receiving as merger consideration for each common share: - - $1.98 in cash; - - a choice of (a) an additional $0.35 in cash or (b) approximately 1/174th (0.0057461) of a debt instrument to be issued by Southwest Shopping Centers, Co. II, L.L.C. ("Southwest Shopping Centers"), with a face value of $100 (which is an effective price of $60.91 per face value of $100), indirectly secured by the Trust's principal real estate assets; and 10 - - three-fiftieths (0.06) of a non-transferable uncertificated subscription right, with each whole right exercisable to purchase one Gotham Golf common share at $20.00 per share and, subject to availability and proration, additional Gotham Golf common shares at $20.00 per share, for up to an aggregate of approximately $41 million of Gotham Golf common shares. The proposed transaction is subject to several conditions, including the approval of the Trust's shareholders and the obtaining of certain third party consents. The proposed transaction was approved by the Trust's common shareholders at a special meeting held on November 27, 2002. There can be no assurance that the proposed transaction approved by the Trust's common shareholders will be consummated. In November 2002, the plaintiff in the preferred shareholder litigation (see "Legal Proceedings") filed with the New York Supreme Court for New York County an Order to Show Cause why the transaction should not be enjoined. The court held a hearing on that issue on November 20. On November 21, 2002, the court issued an order denying the defendant's motion to dismiss the complaint and granting motions for preliminary injunction and expedited discovery in connection with the proposed merger. The court also set a hearing for November 26, 2002 to determine whether to grant further relief to plaintiff with respect to the proposed transaction. An evidentiary hearing was held on November 26, 27 and December 2, 2002 with respect to this matter. Thereafter, the court issued an order dated December 6, 2002, reaffirming its preliminary injunction barring the proposed merger of the Trust with and into Gotham Golf. The court's order extended indefinitely the preliminary injunction previously granted with respect to the proposed merger transaction and directed the parties to the lawsuit to attend a preliminary conference for the purpose of scheduling discovery. The Trust filed a notice of appeal and began pursuit of its appeal of the court's order barring the transaction in the Appellate Division of the New York Supreme Court. The issue of the lifting of the injunction was briefed by the parties to the litigation and oral argument on the appeal was heard by the Appellate Division of the New York Supreme Court on March 11, 2003. No assurance can be given that the injunction will be lifted, that all required third party consents will be obtained and that the transaction will be consummated. Contingencies VenTek The Trust has provided performance guarantees entered into with respect to contracts of the Company's manufacturing subsidiary, VenTek International, Inc. ("VenTek"), with two transit authorities, which contracts are in the amounts of $5.3 million and $6.2 million for the manufacturing, installation and maintenance of transit ticket vending equipment manufactured by VenTek. The guarantees expire within the next two years based upon the projected completion dates anticipated by VenTek and the transit agencies. No amounts have been drawn against these guarantees. Since these projects are entering their final stages, management does not anticipate that payment will have to be made under the guarantees; however, if VenTek is unable to perform in accordance with these contracts, and subsequent change orders the Trust may be responsible for partial payment under these guarantees. In connection with one of the contracts, VenTek settled a claim for liquidated damages for approximately $0.1 million during the three months ended March 31, 2003. Park Plaza Mall The Trust is aware of the proposed construction of a new mall in the vicinity of Park Plaza Mall (the "Mall") by a partnership of a mall developer and the owner and operator of the anchor department stores at the Mall who would be the anchor department store at the proposed new mall. Legal actions have been taken by local citizens of Little Rock, Arkansas to reverse the decision of the Little Rock board of directors with respect to the zoning for the development of the proposed new mall. On June 5, 2002, the court issued an opinion 11 invalidating the decision of the Little Rock board of directors with respect to zoning of the proposed new mall. Furthermore, the court permanently enjoined the City of Little Rock from issuing any building permits or taking any other action pursuant to the invalid ordinances with respect to the proposed new mall. The proponents of the new mall have appealed the decision to the Supreme Court of Arkansas with no decision expected before June 2003. It is also possible that proponents of the new mall will file a new application to rezone the proposed area for the new mall for commercial use and, specifically for large-scale retail use. The administrative expenses, principally legal fees related to this contingency have been paid by the Trust. Regardless of whether the proposed new mall is built at the site in question, under the terms of an operating covenant with Dillard's Department Stores, Inc. ("Dillard's"), which has two department stores that are the anchor stores at the Mall, Dillard's has no obligation to maintain its operations at the Mall beyond July 2003. Dillard's has been approached to extend the operating covenant at the Mall. To date, it has declined to do so, however, under the terms of the operating covenant, Dillard's is permitted to continue operations at the Mall through 2031. If Dillard's does not maintain its presence as an anchor store at the Mall, the Mall would experience a loss of revenue and likely an event of default under the mortgage, thereby causing the value of the Mall to be materially and adversely affected. In such circumstances, there would be an impairment of the value of the property and a loss could be recognized. There can be no assurance that Dillard's will maintain its presence as an anchor store at the Mall. Proposed Transaction The Trust is contractually obligated under the merger agreement to pursue the proposed transaction with Gotham Partners unless a superior proposal, as defined in the agreement, is made. The pending preferred shareholder litigation opposing the transaction does not give the Trust the contractual right under the merger agreement to terminate its obligations to complete the transaction. If the Trust were to seek to terminate its obligations solely for that reason, the Trust could incur liability to Gotham Partners that may include responsibility for the payment of Gotham Partners' expenses for the transaction, which the Trust believes may exceed $8 million. Business Segments The Trust's and Company's business segments include ownership of a shopping center, an office building, and a parking and transit ticket equipment manufacturing company. Management evaluates performance based upon net operating income. With respect to property assets, net operating income is property rent less property operating expense, and real estate taxes. With respect to VenTek, a manufacturer of transit ticketing and parking equipment, net operating income is sales revenue less cost of goods sold. Corporate assets consist primarily of cash and cash equivalents, investments and deferred issue costs for senior notes. All intercompany transactions between segments have been eliminated (see table of business segments). 12 Business Segments
Three Months Ended March 31, --------------------------------- 2003 2002 --------- --------- Rents and Sales Shopping Center $ 3,105 $ 2,927 Office Building 340 337 Ventek 726 945 Corporate -- 33 --------- --------- 4,171 4,242 Less - Operating Expenses and Costs of Goods Sold Shopping Center 968 1,077 Office Building 200 193 Ventek 1,087 1,373 Corporate 13 -- --------- --------- 2,268 2,643 Less - Real Estate Taxes Shopping Center 202 199 Office Building 23 21 --------- --------- 225 220 Net Operating Income (Loss) Shopping Center 1,935 1,651 Office Building 117 123 Ventek (361) (428) Corporate (13) 33 --------- --------- 1,678 1,379
13 Business Segments (Continued)
Three Months Ended March 31, ----------------------------- 2003 2002 ------- ------- Less - Depreciation and Amortization $ 535 $ 509 Less - Interest Expense 1,272 1,203 Corporate Income (Expense) Interest 259 461 General and administrative (1,162) (1,618) ------- ------- Net Loss before Preferred Dividend $(1,032) $(1,490) ======= ======= Capital Expenditures Shopping Center $ 4 $ 9 Office Building 32 50 Ventek 2 2 ------- ------- $ 38 $ 61 ======= =======
March 31, ---------------------------------- 2003 2002 ---------- ---------- Identifiable Assets Shopping Center $ 58,400 $ 59,529 Office Building 2,390 2,351 Ventek 1,774 3,330 Corporate 107,497 118,176 ---------- ---------- Total Assets $ 170,061 $ 183,386 ========== ==========
14 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. 2002 TRANSACTION THE PROPOSED TRANSACTION In April 2001, the Board of Trustees of the Trust established a Special Committee for the purpose of evaluating and advising the Board with respect to proposed transactions and other possible business alternatives that the Trust may pursue. The Special Committee, which is composed of Daniel J. Altobello and Bruce R. Berkowitz, independent Trustees of the Trust, retained Libra Securities, LLC and Duff & Phelps LLC as its financial advisors and Shaw Pittman LLP as its independent legal counsel. On February 13, 2002, the Trust entered into a definitive agreement of merger and contribution with, among others, Gotham Partners, L.P., ("Gotham Partners") a shareholder of the Trust that is controlled by affiliates of William A. Ackman, who was at the time Chairman of the Board of Trustees of the Trust, and Gotham Golf Corp. ("Gotham Golf"), a Delaware corporation controlled by Gotham Partners, pursuant to which the Trust agreed to merge with and into Gotham Golf. The merger agreement provided that the Trust's common shareholders would receive as merger consideration for each common share $2.20 in cash, subject to possible deductions on account of dividends paid to the Trust's common shareholders prior to completion of the transaction, breaches of certain representations, warranties and covenants contained in the merger agreement and costs, fees and expenses associated with obtaining certain third-party consents for the proposed transaction, a choice of an additional $0.35 in cash or a debt instrument and a subscription right to purchase common shares of Gotham Golf. The merger agreement also provided that Gotham Golf would exchange the outstanding shares of the Trust's convertible preferred shares for shares of Gotham Golf Series A Cumulative Convertible Redeemable Preferred Stock, par value $25.00 per share, having terms and conditions substantially identical to those as the Trust's convertible preferred shares had with respect to the Trust. On April 24, 2002, the parties adopted Amendment No. 1 to the merger agreement to change the formula in which the conversion price of Gotham Golf convertible preferred shares is determined and to extend the time during which Gotham Partners can elect not to include the note option as part of the merger consideration to any time prior to the effective time of the merger. On September 24, 2002, the parties adopted Amendment No. 2 to the merger agreement to reduce the cash merger consideration by $0.20 to reflect the amount that would have been deducted from the merger consideration at closing on account of dividends paid to the Trust's common shareholders prior to completion of the transaction and by an additional $0.02 to reflect the Trust's and Gotham Partners's agreement, based on the good faith estimate of the parties, of the amount that may result from possible breaches of certain representations, warranties and covenants contained in the merger agreement and costs, fees and expenses associated with obtaining certain third-party consents for the proposed transaction. The parties also agreed to eliminate from the merger agreement all provisions relating to any reduction in the cash merger consideration. Finally, on October 24, 2002, in order to facilitate the listing of the Gotham Golf convertible preferred shares on the American Stock Exchange, the parties adopted Amendment No. 3 to the merger agreement to provide a right to holders of Gotham Golf convertible preferred shares to approve of, by a majority vote, the creation of, or increase in the authorized amount of, any additional class of preferred stock with a liquidation preference equal to that of the Gotham Golf convertible preferred shares. 15 If consummated, the proposed transaction as contemplated by the amended merger agreement will result in the Trust's common shareholders receiving as merger consideration for each common share: - - $1.98 in cash; - - a choice of (a) an additional $0.35 in cash or (b) approximately 1/174th (0.0057461) of a debt instrument to be issued by Southwest Shopping Centers, Co. II, L.L.C., with a face value of $100 (which is an effective price of $60.91 per face value of $100), indirectly secured by the Trust's principal real estate assets (such debt instrument referred to in this document as a note); and - - three-fiftieths (0.06) of a non-transferable uncertificated subscription right, with each whole right exercisable to purchase one Gotham Golf common share at $20.00 per share and, subject to availability and proration, additional Gotham Golf common shares at $20.00 per share, for up to an aggregate of approximately $41 million of Gotham Golf common shares. The proposed transaction was approved by the Trust's common shareholders at a special meeting held on November 27, 2002. There can be no assurance that the proposed transaction approved by the Trust's common shareholders will be consummated. Under the proposed transaction - - The Trust will merge with and into Gotham Golf a new corporation formed by Gotham Golf Partners, L.P. ("Gotham Golf Partners"), which is a golf course acquirer, owner and operator. As part of the transaction, Gotham Partners and certain other Gotham Golf Partners equity holders will contribute their respective limited partnership interests in Gotham Golf Partners to Gotham Golf and their respective general partnership interests in Gotham Golf Partners to a wholly owned limited liability company of Gotham Golf, in exchange for common stock of Gotham Golf. As a result, after the proposed transaction, Gotham Golf will directly and indirectly own approximately 92.5% of the equity interests in Gotham Golf Partners, and Gotham Partners and the other equity holders that contributed their equity interests in Gotham Golf Partners in the proposed transaction will own approximately 52.55% of the shares of Gotham Golf stock, assuming that (i) all of the subscription rights to receive Gotham Golf common shares are exercised and (ii) no other equity of Gotham Golf will be issued on or prior to the effective time of the proposed transaction. - - Each note will have a face amount of $100, which is equivalent to approximately $0.575 per share, and will bear interest at 11% per annum on its face amount. The notes will be secured by a pledge of two underlying loans: (1) an approximate $3.5 million first leasehold mortgage on the Circle Tower office building in Indianapolis, Indiana and (2) an approximate $16.5 million mezzanine loan on the Park Plaza Mall in Little Rock, Arkansas. Holders of notes will receive a pass-through of the economic attributes of the two underlying loans. - - Shareholders who receive their proportionate share of the notes in the transaction will have the right to require the issuer of the notes to redeem them on the 90th day after the effective time of the merger for $0.35 in cash for every approximately 1/174th of a note received as merger consideration. Gotham Partners has agreed to purchase from the issuer any redeemed notes for the same redemption price paid by the issuer to the shareholders. 16 - - The notes will not be issued unless certain consents are obtained from the mortgage lender on the Park Plaza Mall and the rating agencies that originally rated the certificates backed by the first Park Plaza Mall mortgage. If any required consents, approvals or similar clearances with respect to the notes cannot be timely obtained, the merger consideration will be adjusted to eliminate the ability for common shareholders to elect to receive the notes in lieu of part of the cash consideration, and all shareholders will receive cash consideration of $2.33 per common share. - - Convertible preferred shareholders of the Trust will receive convertible preferred shares of Gotham Golf, as provided for in the Certificate of Designations for the convertible preferred shares of the Trust. The existing 8.875% unsecured notes will remain outstanding according to their terms and will become obligations of Gotham Golf after the closing of the transaction. - - The Trust, Gotham Partners and each of the members of the Board of Trustees have entered into a Voting Agreement, pursuant to which the parties thereto have agreed to vote a collective 7,424,943 common shares, or approximately 21.3% of the total outstanding common shares, for the approval of the proposed transaction. - - The merger is subject to certain customary closing conditions, including approval by the Trust's common shareholders and receipt of certain third-party consents. There can be no assurance that the proposed transaction will be consummated. The Trust's approval of the merger agreement was based on the recommendation of the Special Committee. The Special Committee concluded that the transaction was in the best interests of the Trust and the Trust's common shareholders (other than Gotham Partners and its affiliates), where such shareholders elect to receive the full cash consideration in the merger. The Board of Trustees of the Trust, with Mr. Ackman not participating, unanimously voted in favor of the transaction. The Special Committee was advised by Libra Securities, LLC and Duff & Phelps, LLC, and Gotham Partners and its affiliates were advised by Mercury Partners. In November 2002, the plaintiff in the preferred shareholder litigation (see "Part II, Item 1. Legal Proceedings") filed with the New York Supreme Court for New York County an Order to Show Cause why the transaction should not be enjoined. The court held a hearing on that issue on November 20. On November 21, 2002, the court issued an order denying the defendant's motion to dismiss the complaint and granting motions for preliminary injunction and expedited discovery in connection with the proposed merger. The court also set a hearing for November 26, 2002 to determine whether to grant further relief to plaintiff with respect to the proposed transaction. An evidentiary hearing was held on November 26, 27 and December 2, 2002 with respect to this matter. Thereafter, the court issued an order dated December 6, 2002, reaffirming its preliminary injunction barring the proposed merger of the Trust with and into Gotham Golf. The court's order extended indefinitely the preliminary injunction previously granted with respect to the proposed merger transaction and directed the parties to the lawsuit to attend a preliminary conference for the purpose of scheduling discovery. The Trust filed a notice of appeal and began pursuit of its appeal of the court's order barring the transaction in the Appellate Division of the New York Supreme Court. The issue of the lifting of the injunction was briefed by the parties to the litigation and oral argument on the appeal was heard by the Appellate Division of the New York Supreme Court on March 11, 2003. No assurance can be given that the injunction will be lifted, that all required third party consents will be obtained and that the transaction will be consummated. 17 The Trust is contractually obligated under the merger agreement to pursue the proposed transaction with Gotham Partners unless a superior proposal is made; that is, an offer consisting of cash or publicly traded securities for more than 90% of the Trust's common shares or all or substantially all of the Trust's assets that would be more favorable to the holders of the common shares than the proposed transactions under the merger agreement with Gotham Partners. The pending preferred shareholder litigation opposing the transaction does not give the Trust the contractual right under the merger agreement to terminate its obligations to complete the transaction. If the Trust were to seek to terminate its obligations solely for that reason, the Trust could incur liability to Gotham Partners that may include responsibility for the payment of Gotham Partners' expenses for the transaction, which the Trust believes may exceed $8 million. OTHER MATTERS The Trust could be affected by declining economic conditions as a result of various factors that affect the real estate business including the financial condition of tenants, competition, and increased operating costs. The Trust's property insurance was renewed in November 2002. The rates increased 73% upon renewal. The Trust's Directors' and Officers' insurance will expire on May 30, 2003. The rates are expected to increase substantially upon renewal. The Trust's most critical accounting policy relates to the evaluation of the carrying value of real estate. The Trust evaluates the need for an impairment loss on its real estate assets when indicators of impairment are present and the undiscounted cash flows are not sufficient to recover the asset's carrying amount. The impairment loss is measured by comparing the fair value of the asset to its carrying amount. In addition, estimates are used when accounting for the allowance for doubtful accounts, potentially excess and obsolete inventory, product warranty reserves, the percentage of completion method of recognizing revenue and contingent liabilities, among others. These estimates are susceptible to change and actual results could differ from these estimates. The effects of changes in these estimates are recognized in the period they are determined. SHAREHOLDER LITIGATION Three separate lawsuits have been filed seeking to block the proposed transaction between the Trust and Gotham Partners relative to the Merger Agreement of February 13, 2002 (See "Part II, Item 1. Legal Proceedings"). With respect to one of these legal proceedings, the New York Supreme Court of New York County has issued an order granting an injunction preventing the transaction from going forward. That injunction is currently under appeal. No assurance can be given that the injunction will be lifted or that the proposed transaction will be consummated. PARK PLAZA MALL Two Dillard's department stores are the anchor stores at Park Plaza Mall. Dillard's owns its facilities in Park Plaza Mall and has a Construction, Operation and Reciprocal Easement Agreement with a subsidiary of the Trust that contains an operating covenant requiring Dillard's to operate these facilities continuously as retail department stores until July 2003. Dillard's and its partner, Simon Property Group, own a parcel of land of nearly 100 acres in the western part of Little Rock, Arkansas and have announced, at various times over the last several years, their intention to build in this new location. During the first quarter of 2001, the Little Rock board of directors approved a change in zoning that would allow the construction of an approximately 1.3 million square foot regional enclosed mall on this site. The zoning on this site reverted to its prior status as a residential use property pursuant to a court order in 2002; however, the proponents of the regional enclosed mall have filed a notice of appeal of this ruling in the Supreme Court of Arkansas, with no decision expected before 18 June 2003. In the event that a large-scale retail facility is built on this site, Dillard's may cease operating its stores at Park Plaza Mall. In the event Dillard's closes one or both of its stores at Park Plaza Mall, it is unlikely that it would sell or lease its two stores to comparable anchor tenants. Accordingly, the value of Park Plaza Mall would be materially and adversely affected due to the decline in traffic and sales volume at Park Plaza Mall, and the rights of many of the tenants to terminate their leases or to pay less rent triggered by the closure of one or both of the anchor stores. The Park Plaza Mall property is financed by a mortgage loan. The loss of an anchor tenant or a significant number of other mall tenants could result in an event of default under this mortgage. Regardless of whether the proposed new mall is built at the site in question, under the terms of the operating covenant, Dillard's has no obligation to maintain its operations at Park Plaza Mall beyond July 2003. Dillard's has been approached to extend the operating covenant at the Park Plaza Mall.To date, it has declined to do so, however, under the terms of the operating covenant, Dillard's is permitted to continue operations at Park Plaza Mall through 2031. If Dillard's does not maintain its presence as an anchor store at Park Plaza Mall, the Park Plaza Mall would experience a loss of revenue and likely an event of default under the mortgage, thereby causing the value of the Park Plaza Mall to be materially and adversely affected. In such circumstances, there would be an impairment of the value of the property and a loss could be recognized. There can be no assurance that Dillard's will maintain its presence as an anchor store at Park Plaza Mall. With respect to capital improvements, the Trust has recently completed the repair of Park Plaza Mall's roof at a cost of approximately $0.6 million. VENTEK The Company's subsidiary, VenTek, a manufacturer of transit ticketing and parking equipment, continues to incur significant operating losses. The Trust has provided performance bond guarantees entered into with respect to two contracts of VenTek with transit authorities, which contracts are in the amounts of $6.2 million and $5.3 million. These contracts are for the manufacture, installation and maintenance of transit ticket vending equipment by VenTek. The guarantees are expected to expire within the next two years based on the commencement of contractual warranty and maintenance periods now in effect under both contracts. As of May 1, 2003, no amounts have been drawn against these guarantees. If VenTek is unable to perform in accordance with these contracts, the Trust may be responsible for payment under these guarantees. In connection with one of the contracts, VenTek settled a claim for liquidated damages for approximately $0.1 million during the three months ended March 31, 2003. LIQUIDITY AND CAPITAL RESOURCES GENERAL Unrestricted and restricted cash and cash equivalents decreased by approximately $0.6 million (to $5.2 million from $5.8 million) when comparing the balance at March 31, 2003 to the balance at December 31, 2002. The Trust's decrease in cash and cash equivalents was mainly attributable to net cash used for financing activities of $0.6 million, which primarily consisted of $0.5 million of dividends paid on preferred shares of beneficial interest. Net cash provided by operating activities and net cash used for investing activities were not significant. 19 The Trust declared a dividend of $0.5 million ($0.525 per share) to Series A Cumulative Preferred Shareholders in the first quarter of 2003. The dividend was paid April 30, 2003 to shareholders of record at the close of business on March 31, 2003. No cash dividend for the first quarter was declared with respect to the Common Shares. At March 31, 2003, the Trust owned $104.0 million in face value of U.S. Treasury Bills. The U.S. Treasury Bills are of maturities of less than 90 days and classified as held to maturity. The average yield for the three months ended March 31, 2003 and 2002 was 1.17% and 1.66%, respectively. A summary of the Trust's borrowings and repayment timing is as follows (in millions):
Payments Due by Period ---------------------- Less than 1-3 4-5 After 5 Contractual Obligations Total 1 Year Years Years Years - ----------------------- -------- -------- -------- -------- -------- Mortgage loan payable $ 41.7 $ 0.3 $ 0.8 $ 0.9 $ 39.7 Senior notes $ 12.5 $ 12.5 $ -- $ -- $ -- -------- -------- -------- -------- -------- Total $ 54.2 $ 12.8 $ 0.8 $ 0.9 $ 39.7 ======== ======== ======== ======== ========
The only lease with respect to which the Trust has an obligation for payment of rent for is for VenTek, which is month to month. RESULTS OF OPERATIONS Net loss applicable to shares of beneficial interest for the three months ended March 31, 2003 was $1.5 million as compared to net loss of $2.0 million for the three months ended March 31, 2002. Interest income decreased by $0.2 million during the three months ended March 31, 2003, as compared to 2002. The decrease is a result of lower amounts invested and lower interest rates between the periods. Property net operating income, which is rent less property operating expenses and real estate taxes, increased for the three months ended March 31, 2003 to $2.0 million from $1.8 million in 2002. The increase was attributable primarily to an increase in revenues of $0.1 million and a decrease in operating expenses of $0.1 million. Revenues increased by $0.1 million for the three months ended March 31, 2003, primarily due to a lease termination fee received of $0.1 million at Park Plaza. A decrease in occupancy at Park Plaza was offset by an increase in rental rates when comparing the three months ended March 31, 2003 to March 31, 2002. Occupancy and rental rates remained relatively constant at Circle Tower when comparing the periods. Included in operating expenses are $0.2 million in 2002 of costs incurred in connection with the matters described above in the Park Plaza Mall section. Depreciation and amortization, and interest expense remained relatively constant from 2002 to 2003. General and administrative expenses decreased by approximately $0.5 million when comparing the three months ended March 31, 2003 to the comparable period in 2002. Included in general and administrative expenses for the three months ended March 31, 2003 and 2002 are approximately $0.2 million and $0.9 million, respectively, of the Trust's transaction costs related to the Gotham proposal. During the three months ended March 31, 2003, $0.2 million of costs related to the preferred shareholder lawsuit were included in general and administrative expense. Also included in general and administrative expenses are $0.2 million in 2003 and 20 2002, to a firm providing management services to VenTek. Otherwise, general and administrative expenses remained relatively constant when comparing the three months ended March 31, 2003 to the comparable period in 2002. The Trust cannot predict what the professional fees may be in 2003 due to the ongoing litigation. The Company's manufacturing facility, VenTek, incurred a net loss of $0.4 million for the quarter ended March 31, 2003, as compared to a net loss of approximately $0.5 million for the quarter ended March 31, 2002. Revenue decreased for the three months ended March 31, 2003 to $0.7 million from $0.9 million in 2002 and cost of goods sold decreased to $1.1 million from $1.4 million for the same period. The decrease in both revenues and cost of goods sold is due to the winding down of current contracts and having nominal new business. The backlog for VenTek is approximately $0.2 million at March 31, 2003. Backlog represents products or services that VenTek's customers have committed by contract to purchase. VenTek's backlog is subject to fluctuations and is not necessarily indicative of future sales. A failure to replace backlog has resulted in and will continue to result in lower revenues. Certain statements contained in this Form 10-Q that are forward-looking are based on current expectations that are subject to a number of uncertainties and risks, and actual results may differ materially. The uncertainties and risks include, but are not limited to, the risk that material adverse events will prelude consummation of the proposed transaction with Gotham Golf, changes in market activity, changes in local real estate conditions and markets, actions by competitors, interest rate movements and general economic conditions. Further information about these matters can be found in the Trust's Annual Report filed with the SEC on Form 10-K. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES OF MARKET RISK INTEREST RATE RISK All of the Trust's loans outstanding at March 31, 2003 have fixed interest rates. The Trust's investments in U.S. Treasury Bills mature in less than 90 days and therefore are not subject to significant interest rate risk. ITEM 4. CONTROLS AND PROCEDURES The registrant's principal executive and financial officer has, within 90 days of the filing date of this quarterly report, evaluated the effectiveness of the registrant's disclosure controls and procedures (as defined in Exchange Act Rules 13a - 14(c)) and has determined that such disclosure controls and procedures are adequate to ensure that information required to be disclosed by the registrant in the reports filed or submitted under the Exchange Act is recorded, processed and summarized and reported within the time periods specified by the Securities and Exchange Commission. There have been no significant changes in the registrant's internal controls or in other factors that could significantly affect such internal controls since the date of evaluation. Accordingly, no corrective actions have been taken with regard to significant deficiencies or material weaknesses. 21 PART II - OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS. PREFERRED SHAREHOLDER LAWSUITS KIMELDORF V. FIRST UNION REAL ESTATE EQUITY AND MORTGAGE INVESTMENTS, ET AL., SUPREME COURT OF THE STATE OF NEW YORK, COUNTY OF NEW YORK (INDEX NO. 107176/02). On April 15, 2002, the Trust was served with a complaint filed in the Supreme Court of New York in New York County on behalf of a purported holder of the Trust's convertible preferred shares. Among the allegations made by the plaintiff is that the proposed transaction with Gotham Golf Corp. ("Gotham Golf") was approved by the Trust's Board of Trustees in violation of fiduciary duties owed to the holders of the Trust's convertible preferred shares. The suit seeks, among other things, unspecified damages, an injunction of the proposed transaction and the court's certification of the lawsuit as a class action. Named as defendants in the lawsuit were the Trust, its five then trustees and Gotham Partners, L.P. ("Gotham Partners"). The Trust and the other defendants filed a motion to dismiss the lawsuit. An oral argument on the motion to dismiss was held on July 15, 2002. Discovery on the case was stayed pending the ruling of the court on the motion to dismiss. On November 1, 2002, the Trust issued a press release announcing that a special shareholders meeting was to be held November 25, 2002, for the purpose of shareholder approval of the Merger Agreement. Shortly thereafter, the plaintiff preferred shareholder in Kimeldorf filed a motion to show cause why a preliminary injunction should not be issued to enjoin the November 25, 2002 shareholder vote to consider the Merger Agreement. A hearing on the motion was held on November 20, 2002. On November 21, the New York Supreme Court of New York County issued an order granting motions for preliminary injunction and expedited discovery, denying defendant's motion to dismiss, and scheduling a hearing for November 26 to determine whether to grant further relief to plaintiff with respect to the transactions contemplated under the Merger Agreement. The special meeting of shareholders was convened as scheduled on November 25, with the vote on the proposed merger transaction tabled and the meeting adjourned until November 27, at which time the vote was held and the Trust's common shareholders approved the proposed transaction by the requisite majority vote. The New York Supreme Court of New York County held a three-day hearing on November 26, 27 and December 3, 2002. On December 6, 2002, the New York Supreme Court for New York County issued an order reaffirming its preliminary injunction barring the proposed merger of the Trust with and into Gotham Golf. The court's order also extended indefinitely the preliminary injunction previously granted with respect to the proposed merger transaction and directed the parties to the lawsuit to attend a preliminary conference for the purpose of scheduling discovery. The Trust filed a notice of appeal of the preliminary injunction with the Appellate Division of the New York Supreme Court. In addition, the Trust filed an auxiliary motion for expedited appeal regarding this matter with the Appellate Division, which motion was denied. The Trust, Gotham Partners and the other defendants in the Kimeldorf litigation filed joint appellate briefs in support of the reversal of the injunction. Plaintiffs filed a reply brief in support of the injunction. Oral argument with respect to the appeal was held before a judicial panel of the Appellate Division - First Department of the New York Supreme Court on March 11, 2003. There is no specific timetable for the appellate court to render its decision. 22 It is not possible to predict the outcome of the appellate process with respect to lifting the injunction. In the event that the Appellate Division rules that the injunction should not be lifted, the case will proceed to trial on the merits. In the event that the injunction imposed by the trial court were lifted and dissolved, it is the intention of the Trust and, to the best of the Trust's knowledge, Gotham Partners and the other Gotham Partners-affiliated parties to the proposed merger transaction, to take the steps necessary to consummate the proposed transaction. However, any party to the Kimeldorf litigation may seek leave of the Appellate Division to appeal to the Court of Appeals of the State of New York an adverse ruling by the Appellate Division regarding the injunction granted by the trial court. On or about November 8, 2002, First Carolina Investors, Inc. ("First Carolina") a holder of preferred shares, filed a separate lawsuit in New York Supreme Court for New York County, naming the same defendants as in the Kimeldorf case. On or about December 20, 2002, plaintiffs Kimeldorf and First Carolina filed a consolidated amended complaint alleging, among others, breach of contract; aiding and abetting breach of contract; tortious interference with the contract; breach of fiduciary duties; aiding and abetting of breach of fiduciary duties; and unconscionability against the defendants, styled Kimeldorf et al. v. First Union, et al. This consolidated amended complaint essentially consolidated the separate First Carolina complaint, filed on or about November 8, 2002 with the complaint of Mr. Kimeldorf filed in April 2002. On April 30, 2003, the trial court granted the plaintiff's motion to certify the litigation as a class action. The Trust regards the lawsuit as being without merit and will vigorously defend against the asserted claims. COMMON SHAREHOLDER LAWSUITS FINK V. FIRST UNION REAL ESTATE EQUITY AND MORTGAGE INVESTMENTS, ET AL., SUPREME COURT OF THE STATE OF NEW YORK, COUNTY OF NEW YORK (INDEX NO. 03600265) On or about January 24, 2003, the Trust was served with a complaint filed in the Supreme Court of New York, New York County on behalf of a purported holder of the Trust's common shares, on behalf of himself and the common shareholders as a class. The lawsuit seeks a declaration that the lawsuit is maintainable as a class action and a certification that the plaintiff, Robert Fink, is the representative of the class. Named as defendants in the lawsuit are the Trust, Gotham Partners, the companies affiliated with Gotham Partners and the Trust that are parties to the Merger Agreement, William Ackman and the four current Trustees of the Trust. Among the allegations asserted are breach of fiduciary duty and aiding and abetting thereof in connection with the transactions contemplated by the Merger Agreement. The relief requested by the plaintiff includes an injunction preventing the defendants from proceeding with consummation of the merger, rescission of the merger if it occurs, an accounting for any profits realized by the defendants as a result of the actions complained of, an order permitting the creation of a shareholders' committee composed of the Trust common shareholders and their representatives to manage the affairs of the Trust, compensatory damages and the costs and disbursements of plaintiff's counsel. On or about February 14, 2003, the parties to this lawsuit stipulated that the defendants need not answer or otherwise respond to the complaint for an indefinite period of time. The stipulation is revocable by the plaintiff at any time. The Trust believes that the purpose of the stipulation was to delay court proceedings in this lawsuit until the outcome of the appeal of the injunction entered in the Kimeldorf, et al. v. First Union Real Estate Equity and Mortgage Investments, et al. case is decided by the Appellate Division. 23 The Trust regards the lawsuit as without merit and plans to vigorously defend against the allegations. The Trust will oppose any attempt by the plaintiff to interfere with the transactions contemplated by the Merger Agreement, which was approved by more than 64% of the outstanding common shares of the Trust and by approximately 98% of the common shares voted at a special meeting of shareholders held on November 27, 2002. K-A & COMPANY, LTD. V. FIRST UNION REAL ESTATE EQUITY AND MORTGAGE INVESTMENTS, ET AL., UNITED STATES DISTRICT COURT, NORTHERN DISTRICT OF OHIO, EASTERN DIVISION (CASE NO. 1:03 CV 0460) On or about February 12, 2003, certain Trustees of the Trust and, later, the Trust, were served with a complaint filed in the Court of Common Pleas, Cuyahoga County, Ohio, by a purported holder of the Trust's common shares, on behalf of itself and the Trust common shareholders as a class. Named as defendants in the lawsuit are the Trust, Gotham, William Ackman and the four current Trustees of the Trust. The allegations made and the relief requested in the K-A suit are substantially identical to those of the Fink v. First Union suit referenced above. The lawsuit seeks a declaration that the lawsuit is maintainable as a class action and certification that the plaintiff, K-A & Company, Ltd., is the representative of the class. Among the allegations asserted are breach of fiduciary duty and aiding and abetting thereof in connection with the transactions contemplated by the Merger Agreement. This lawsuit was removed by notice filed by defendants to the United States District Court, Northern District of Ohio, Eastern Division (Case No. 1:03 CV 0460). The relief requested by the plaintiff includes an injunction preventing the defendants from proceeding with consummation of the merger, rescission of the merger if it occurs, an accounting for any profits realized by the defendants as a result of the actions complained of, an order permitting the creation of a shareholders' committee composed of the Trust common shareholders and their representatives to manage the affairs of the Trust, compensatory damages and the costs and disbursements of plaintiff's counsel. On April 10, 2003, the plaintiff filed a motion for a preliminary injunction seeking an order preventing the defendants from consummation of the merger. The defendants have filed a motion requesting the court to stay consideration of the plaintiff's motion pending a decision on the appeal of the preliminary injunction entered by the New York Supreme Court for New York County in Kimeldorf v. First Union, described above. The court has not ruled on either motion and there is no timetable for a ruling. As with the Fink v. The Trust lawsuit, the Trust regards the lawsuit as without merit and plans to vigorously defend against the allegations. OTHER LITIGATION PEACH TREE MALL LITIGATION The Trust, as one Plaintiff in a class action composed of numerous businesses and individuals, has pursued legal action against the State of California associated with the 1986 flood of Sutter Buttes Center, formerly Peach Tree Mall. In September 1991, the court ruled in favor of the plaintiffs on the liability portion of the inverse condemnation suit, which the State of California appealed. In the third quarter of 1999, the 1991 ruling in favor of the Trust and the other plaintiffs was reversed by the State of California Appeals Court, which remanded the case to the trial court for further proceedings. After the remand to the trial court, the Trust and the other plaintiffs determined to pursue a retrial before the court. The retrial of the litigation commenced February 2001 and was completed July 2001. In November 2001, the trial court issued a decision that generally holds in favor of the State of California. In February 2002, the Plaintiffs in the case filed a notice of appeal of the ruling of the 24 trial court. Both the Plaintiffs and the State have filed their opening briefs in the California Court of Appeals. The Plaintiffs are scheduled to submit a reply brief in May 2003. The Trust is unable to predict at this time whether or not it will recover any amount of its damage claims in this legal proceeding. INDEMNITY TO IMPERIAL PARKING CORPORATION In 1999, Newcourt Financial Ltd. ("Newcourt") brought a claim in Ontario against an affiliate of the Trust and Imperial Parking Limited alleging a breach of a contract between the Trust affiliate and Newcourt's predecessor-in-interest, Oracle Credit Corporation and Oracle Corporation Canada, Inc. The Trust affiliate and Imperial Parking Limited brought a separate action in British Columbia against Newcourt, Oracle Credit Corporation and Oracle Corporation Canada claiming, among other things, that the contract at issue was not properly authorized by the Trust's board of trustees and the Imperial Parking Limited board of directors. On March 27, 2000, in connection with the spinoff of Imperial Parking Corporation (the successor in interest to Imperial Parking Limited) to the Trust's shareholders, the Trust granted a full indemnity to Imperial Parking Corporation in respect of all damages arising from the outstanding actions. Numerous attempts to settle this matter have not been successful. The Trust has reserved $575,000 in its combined financial statements for this claim. The reserved amount consists of the face amount of the contract of $425,000 and estimated costs of $150,000. The amount of the claim, $825,000, includes Newcourt's calculation of interest on the amount due at the default rate under the contract. The Trust believes that, due to the failure of attempted settlement negotiations, discovery will commence, and the matter will become more actively litigated. The Trust intends to defend vigorously against the claims brought against the parties that it has indemnified and to pursue their separate claims with respect to this matter. MOUNTAINEER MALL CLAIM The Trust was named as a defendant in a lawsuit filed in connection with a contractor's claim relative to the construction of a portion of the Mountaineer Mall, located in Morgantown, West Virginia. The construction of the mall commenced in 1993 and was completed in 1995. The mall was sold in July 1999. A trial on the merits of the lawsuit was held in 1997. In October 2002, the court issued findings of fact and conclusions of law providing that the claimant was entitled to recover from the Trust the principal amount of $266,076 in damages plus various interest amounts, which, when added to the principal amount, would result in an aggregate damage award of $494,382 against the Trust. The court's order provided, however, that the amount of the damage award is subject to offset by the amount of legal fees and expenses reasonably and necessarily incurred by the Trust in defending a certain mechanic's lien claim asserted by the plaintiff in the lawsuit. The court further directed that the plaintiff and the Trust negotiate in good faith as to the amount of such expense and that, if the parties are unable to agree as to the appropriate offset, the court would schedule an evidentiary hearing for the purpose of resolving the issue. In response to the October 2002 order, the Trust's counsel in the litigation has been attempting to determine the amount of allowable offset to reduce the damages assessed against the Trust. As this matter is subject to further negotiation and possible further court proceedings to reach a final resolution, the Trust is not able to predict the final outcome of this claim. The Trust does not expect that the outcome will have a significant impact on the combined financial position of the Trust. 25 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K. (a) Exhibits: 99.1 Certification Pursuant to Section 906 of the Sarbanes-Oxley Act. (b) Reports on Form 8-K: February 24, 2003 Item 5 - On February 24, 2003, the Trust announced that it reconfirmed to Gotham Partners that it was not pursuing an alternative transaction to its merger with Gotham Golf. Item 7 - Exhibits 99.1 Press release dated February 24, 2003, issued by the Trust. March 24, 2003 Item 5 - On March 18, 2003, the Trust announced that it reconfirmed to Gotham Partners that it has not been pursuing, and has no present intention of pursuing, an alternative transaction to its merger with Gotham Golf. Item 7 - Exhibits 99.1 Press release dated March 18, 2003, issued by the Trust. May 6, 2003 Item 5 - In addition on May 6, 2003, the Trust issued a letter in response to Gotham Partners' letter of April 28, 2003. Item 7 - Exhibits 99.1 Letter by the Trust to Gotham Partners dated May 6, 2003. 26 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Trust has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. First Union Real Estate Equity and Mortgage Investments ----------------------------------- (Trust) Date: May 15, 2003 By: /s/ Neil H. Koenig Neil H. Koenig Principal Executive Officer and Interim Chief Financial Officer 27 FIRST UNION REAL ESTATE EQUITY AND MORTGAGE INVESTMENTS FORM 10-Q FOR THE FISCAL QUARTER ENDED MARCH 31, 2003 CERTIFICATIONS I, Neil H. Koenig, in the capacities indicated below, certify that: 1. I have reviewed this quarterly report on Form 10-Q of First Union Real Estate Equity and Mortgage Investments; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; 4. I am responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have: a) designed such disclosure controls and procedures to ensure that material information relating to the registrant is made known to me, particularly during the period in which this quarterly report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c) presented in this quarterly report my conclusions about the effectiveness of the disclosure controls and procedures on my evaluation as of the Evaluation Date; 5. I have disclosed, based on my most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors: a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 28 FIRST UNION REAL ESTATE EQUITY AND MORTGAGE INVESTMENTS FORM 10-Q MARCH 31, 2003 6. I have indicated in this quarterly report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of my most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: May 15, 2003 /s/ Neil H. Koenig ------------------------------- Neil H. Koenig Principal Executive Officer and Interim Chief Financial Officer 29 EX-99.1 3 y86708exv99w1.txt CERTIFICATION PURSUANT TO SECTION 906 EXHIBIT 99.1 CERTIFICATION PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Quarterly Report of First Union Real Estate Equity and Mortgage Investments (the "Trust") on Form 10-Q for the quarterly period ended March 31, 2003, as filed with the Securities and Exchange Commission on the date hereof (the "Report"), the undersigned, in the capacities and on the date indicated below, hereby certifies pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: (1) the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities and Exchange Act of 1934; and (2) the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Trust. Date: May 15, 2003 /s/ Neil H. Koenig ------------------------------- Neil H. Koenig Principal Executive Officer and Interim Chief Financial Officer -----END PRIVACY-ENHANCED MESSAGE-----