10QSB 1 sf10q123103.txt SANTA FE FINANCIAL CORPORATION 10-QSB DECEMBER 31, 2002 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 ---------------------- FORM 10-QSB [X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended December 31, 2002 [ ] Transition Report Under Section 13 or 15 (d) of the Securities Exchange Act of 1934 For the transition period from ________ to _________. Commission file number 0-6877 SANTA FE FINANCIAL CORPORATION ------------------------------ (Exact Name of Small Business Issuer as Specified in Its Charter) Nevada 95-2452529 ------------------------------- ------------------ (State or Other Jurisdiction of (IRS Employer Incorporation or Organization) Identification No.) 820 Moraga Drive Los Angeles, CA 90049 --------------------------------------- ------------------ (Address of Principal Executive Offices) (Zip Code) (310) 889-2500 --------------------------------------------------- (Registrant's Telephone Number, Including Area Code) Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 12 months, and (2) has been subject to such filing requirements for the past 90 days. Yes (x) No ( ) State the number of shares outstanding of each of the issuer's classes of Common equity, as of the latest practicable date: 1,178,210 shares of issuer's $.10 Par Value Common Stock were outstanding as of February 13, 2003. Transitional Small Business Disclosure Format (check one): Yes ( ) No (X) INDEX SANTA FE FINANCIAL CORPORATION PART I FINANCIAL INFORMATION PAGE Item 1. Financial Statements Consolidated Balance Sheet - December 31, 2002 (Unaudited) 3 Consolidated Statements of Operations (Unaudited) - Three Months ended December 31, 2002 and December 31, 2001 4 Consolidated Statements of Operations (Unaudited) - Six Months ended December 31, 2002 and December 31, 2001 5 Consolidated Statements of Cash Flows (Unaudited) - Six Months ended December 31, 2002 and December 31, 2001 6 Notes to Consolidated Financial Statements 7 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 13 Item 3. Controls and Procedures 19 PART II. OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K 20 SIGNATURES 20 -2- PART I FINANCIAL INFORMATION Item 1. Financial Statements Santa Fe Financial Corporation Consolidated Balance Sheet (Unaudited) As of December 31, 2002 ----------- ASSETS Cash and cash equivalents $ 698,924 Investment in marketable securities 8,985,656 Investment in Justice Investors 5,979,098 Rental property 4,756,309 Other investments 300,000 Deferred income tax asset 2,075,473 Other assets 505,492 ----------- Total assets $ 23,300,952 =========== LIABILITIES AND SHAREHOLDERS' EQUITY Liabilities Due to securities broker $ 3,200,224 Obligations for securities sold 1,140,343 Mortgage notes payable 2,353,743 Accounts payable and accrued expenses 308,123 ----------- Total liabilities 7,002,433 ----------- Minority interest 4,851,190 ----------- Commitments and contingencies Shareholders' equity 6% Cumulative, convertible, voting preferred stock par value $.10 per share Authorized shares - 1,000,000 Issued and outstanding - 63,600 Liquidation preference of $858,600 6,360 Common stock - par value $.10 per share Authorized - 2,000,000 Issued 1,276,038 and outstanding 1,178,210 127,604 Additional paid-in capital 8,807,942 Retained earnings 3,456,261 Treasury stock, at cost, 97,828 shares (950,838) ----------- Total shareholders' equity 11,447,329 ----------- Total liabilities & shareholders' equity $ 23,300,952 =========== See accompanying notes to consolidated financial statements. -3- Santa Fe Financial Corporation Consolidated Statements of Operations (Unaudited) For the three months ended December 31, 2002 2001 ---------- ---------- Revenues Equity in net income of Justice Investors $ 371,444 $ 297,019 Net gains (losses) on marketable securities 551,413 (283,453) Dividend and interest income 35,415 9,902 Rental income 108,828 85,895 Other income 14,523 39,216 ---------- ---------- 1,081,623 148,576 ---------- ---------- Costs and expenses Property operating expense (51,465) (29,156) Mortgage interest expense (58,213) (44,177) Depreciation expense (17,961) (13,582) Margin interest, trading and management expenses (63,540) (75,164) General and administrative (240,391) (226,219) ---------- ---------- (431,570) (388,298) ---------- ---------- Income(loss) before income taxes and minority interest 650,053 (239,722) Income tax (expense) benefit (269,081) 652,005 ---------- ---------- Income before minority interest 380,972 412,283 Minority interest (86,253) (61,724) ---------- ---------- Net Income $ 294,719 $ 350,559 Preferred stock dividend (12,879) (12,879) ---------- ---------- Income available to common shareholders $ 281,840 $ 337,680 ========== ========== Basic earnings per share $ 0.24 $ 0.29 ========== ========== Weighted average number of shares outstanding 1,178,210 1,178,308 ========== ========== See accompanying notes to consolidated financial statements. -4- Santa Fe Financial Corporation Consolidated Statements of Operations (Unaudited) For the six months ended December 31, 2002 2001 ---------- ---------- Revenues Equity in net income of Justice Investors $ 870,731 $ 1,385,416 Net losses on marketable securities (612,509) (5,638,215) Dividend and interest income 104,501 79,050 Rental income 207,426 170,363 Other income 37,555 76,567 ---------- ---------- 607,704 (3,926,819) ---------- ---------- Costs and expenses Property operating expense (103,496) (65,461) Mortgage interest expense (102,395) (89,246) Depreciation expense (35,362) (26,858) Margin interest, trading and management expenses (101,646) (228,510) General and administrative (456,700) (419,090) ---------- ---------- (799,599) (829,165) ---------- ---------- Loss before income taxes and minority interest (191,895) (4,755,984) Income tax benefit 62,606 1,977,213 ---------- ---------- Loss before minority interest (129,289) (2,778,771) Minority interest (30,944) 140,841 ---------- ---------- Net loss $ (160,233) $ (2,637,930) Preferred stock dividend (25,758) (25,758) ---------- ---------- Loss available to common shareholders $ (185,991) $ (2,663,688) ========== ========== Basic loss per share $ (0.16) $ (2.26) ========== ========== Weighted average number of shares outstanding 1,178,210 1,178,559 ========== ========== See accompanying notes to consolidated financial statements. -5- Santa Fe Financial Corporation Consolidated Statements of Cash Flows (Unaudited) For the six months ended December 31, 2002 2001 ---------- ---------- Cash flows from operating activities: Net loss $ (160,233) $(2,637,930) Adjustments to reconcile net income to net cash used in operating activities: Equity in net income of Justice Investors (870,731) (1,385,416) Net unrealized (gains)losses on marketable securities (1,448,243) 2,798,495 Minority interest 30,944 (140,841) Depreciation expense 35,362 26,858 Changes in operating assets and liabilities: Restricted cash - 14,732 Investment in marketable securities (2,810,766) 1,143,070 Other assets (241,157) (107,190) Deferred tax asset (147,205) (1,951,052) Accounts payable and accrued expenses 79,177 (1,007,152) Due to securities broker 3,107,951 8,601,157 Obligations for securities sold 839,623 (4,190,155) ---------- ---------- Net cash (used)provided by operating activities (1,585,278) 1,164,576 ---------- ---------- Cash flows from investing activities: Cash distributions from Justice Investors 1,003,968 2,091,600 ---------- ---------- Net cash provided by investing activities 1,003,968 2,091,600 ---------- ---------- Cash flows from financing activities: Principal payments on mortgage payable (12,997) (9,605) Dividends paid to preferred shareholders (25,758) (25,758) Dividends paid to minority shareholders (63,103) (63,118) Notes Receivable (162,564) - Purchase of treasury stock - (10,218) ---------- ---------- Net cash used in financing activities (264,422) (108,699) ---------- ---------- Net (decrease) increase in cash and cash equivalents (845,732) 3,147,477 Cash and cash equivalents at beginning of period 1,544,656 167,694 ---------- ---------- Cash and cash equivalents at end of period $ 698,924 $ 3,315,171 ========== ========== See accompanying notes to consolidated financial statements. -6- SANTA FE FINANCIAL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. Basis of Presentation and Significant Accounting Policies --------------------------------------------------------- The consolidated financial statements included herein have been prepared by Santa Fe Financial Corporation ("Santa Fe" or the "Company"), without audit, according 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 generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations, although the Company believes the disclosures that are made are adequate to make the information presented not misleading. Further, the consolidated financial statements reflect, in the opinion of management, all adjustments (which included only normal recurring adjustments) necessary to state fairly the financial position and results of operations as of and for the periods indicated. It is suggested that these financial statements be read in conjunction with the audited financial statements and the notes therein included in the Company's Form 10-KSB for the year ended June 30, 2002. Certain reclassifications have been made to the financial statements as of December 31, 2002 and for the three and six months then ended to conform to the financial statements as of and for the three and six months ended December 31, 2001 presentation. The results of operations for the three and six months ended December 31, 2002 are not necessarily indicative of results to be expected for the full fiscal year ending June 30, 2003. 2. Investment in Justice Investors ------------------------------- The Company's principal source of revenue is derived from the management of its 68.8%-owned subsidiary Portsmouth Square, Inc. ("Portsmouth"). Portsmouth has a 49.8% interest in Justice Investors, a California limited partnership ("Justice Investors") and also serves as one of the two general partners. The other general partner, Evon Garage Corporation ("Evon"), serves as the managing general partner. As a general and limited partner, Portsmouth has significant control over the management and operation of the assets of Justice Investors. All significant partnership decisions require the active participation and approval of both general partners. The Company and Evon jointly consult and determine the amount of partnership reserves and the amount of cash to be distributed to the limited partners. The partnership derives most of its income from a lease of its San Francisco, California hotel property to Felcor Lodging Trust, Inc. ("Felcor") and from a lease of the garage portion of the property to Evon. Santa Fe and Portsmouth jointly manage and oversee their interest in the operation of the hotel and the parking garage. -7- Pursuant to the terms of the partnership agreement, voting rights of the partners are determined according to the partners' entitlement to share in the net profit and loss of the partnership. The Company is not entitled to any additional voting rights by virtue of its position as a general partner. The partnership agreement also provides that no portion of the partnership real property can be sold without the written consent of the general and limited partners entitled to more than 72% of the net profit. Condensed financial statements for Justice Investors are as follows: JUSTICE INVESTORS CONDENSED BALANCE SHEET As of December 31, 2002 ---------- Assets Total current assets $ 248,240 Property, plant and equipment, net of accumulated depreciation of $12,440,376 4,616,710 Loan fees and deferred lease costs, net of accumulated amortization of $241,320 69,092 ---------- Total assets $ 4,934,042 ========== Liabilities and partners' capital Total current liabilities $ 1,145,841 Partners' capital 3,788,201 ---------- Total liabilities and partners' capital $ 4,934,042 ========== JUSTICE INVESTORS CONDENSED STATEMENTS OF OPERATIONS For the three months ended December 31, 2002 2001 ---------- ---------- Revenues $ 901,594 $ 838,683 Costs and expenses (155,722) (242,265) ---------- ---------- Net income $ 745,872 $ 596,418 ========== ========== For the six months ended December 31, 2002 2001 ---------- ---------- Revenues $ 2,093,067 $ 3,223,184 Costs and expenses (344,610) (441,224) ---------- ---------- Net income $ 1,748,457 $ 2,781,960 ========== ========== -8- 3. Investment in Marketable Securities ----------------------------------- The Company's investment in marketable securities consists primarily of corporate equities. The Company has also invested in corporate bonds and income producing securities, which may include interests in real estate based companies and REITs, where financial benefit could inure to its shareholders through income and/or capital gain. The Company may also use exchange traded funds, options and futures to hedge concentrated stock positions and index futures to hedge against market risk and enhance the performance of the Company's portfolio while reducing the overall portfolio's risk and volatility. The Company's marketable securities investment portfolio as of December 31, 2002 is composed of following types of securities: % of Total Market Value Portfolio ------------ --------- Fixed income: Corporate bonds $ 196,000 2.2% Corporate securities: Common stocks 7,701,856 85.7% Preferred stocks 1,087,800 12.1% ---------- ------ Total marketable securities $ 8,985,656 100.0% ========= ====== As part of the investment strategies, the Company may assume short positions in marketable securities. Short sales are used by the Company to potentially offset normal market risks undertaken in the course of its investing activities or to provide additional return opportunities. The Company has no naked short positions. As of December 31, 2002, the Company had obligations for securities sold (equities short) of $1,140,343. Marketable securities are stated at market value as determined by the most recently traded price of each security at the balance sheet date. Marketable securities are classified as trading with net unrealized gains or losses included in earnings. Included in the net gains on marketable securities of $551,413 for the three months ended December 31, 2002 are net unrealized gains of $1,095,757 and net realized losses of $544,344. Included in the net losses on marketable securities of $283,453 for the three months ended December 31, 2001, are net unrealized gains $2,701,909 and net realized losses of $2,985,362. Included in the net losses on marketable securities of $612,509 for the six months ended December 31, 2002 are net unrealized gains of $1,448,243 and net realized losses of $2,060,752. Included in the net losses on marketable securities of $5,638,215 for the six months ended December 31, 2001 are net unrealized losses of $2,798,495 and net realized losses of $2,839,720. -9- 4. Rental Property --------------- The Company owns and operates a 27 unit multi-family apartment complex and a 3 unit multi-family complex located in Los Angeles, California. Units are leased on a short-term basis with no lease extending beyond one year. At December 31, 2002, rental property included the following: Land $ 2,429,950 Buildings, improvements, and equipment 2,516,709 Accumulated depreciation on buildings, improvements, and equipment (190,350) ---------- $ 4,756,309 ========== 5. Segment Information ------------------- The Company operates in three reportable segments, the operations of its multi-family residential property, the operation of Justice Investors, and the investment of its cash and securities assets. These three operating segments, as presented in the financial statements, reflect how management internally reviews each segment's performance. Management also makes operational and strategic decisions based on this same information. Information below represents reporting segments for the three and six months ended December 31, 2002 and for the three and six months ended December 31, 2001. Operating income for rental properties consist of rental income. Operating income from Justice Investors consists of the operations of the hotel and garage included in the equity in net income of Justice Investors. Operating income (losses) for investment transactions consist of net investment gains(losses)and dividend and interest income.
REAL ESTATE ------------------------- Three months ended Rental Justice Investment December 31, 2002 Properties Investors Transactions Other Total ----------- ----------- ------------ ----------- ------------ Operating income(loss) $ 108,828 $ 371,444 586,828 $ - $ 1,067,100 Operating expenses (51,465) - (63,540) - (115,005) ----------- ----------- ----------- ----------- ------------ 57,363 371,444 523,288 - 952,095 Mortgage interest expenses (58,213) - - - (58,213) Depreciation (17,961) - - - (17,961) General and administrative expenses - - - (240,391) (240,391) Other income - - - 14,523 14,523 Income tax benefit - - - (269,081) (269,081) Minority interest - - - (86,253) (86,253) ----------- ----------- ----------- ----------- ------------ Net income (losses) $ (18,811) $ 371,444 $ 523,288 $ (581,202) $ 294,719 =========== =========== =========== =========== ============ Total Assets $ 4,756,309 $ 5,979,098 $ 9,285,656 $ 3,279,889 $ 23,300,952 =========== =========== =========== =========== ============
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REAL ESTATE ------------------------- Three months ended Rental Justice Investment December 31, 2001 Properties Investors Transactions Other Total ----------- ----------- ----------- ----------- ------------ Operating income(loss) $ 85,895 $ 297,016 $ (273,551) $ - $ 109,360 Operating expenses (29,156) - (75,164) - (104,320) ----------- ----------- ----------- ----------- ------------ 56,739 297,016 (348,715) - 5,040 Mortgage interest expenses (44,177) - - - (44,177) Depreciation (13,582) - - - (13,582) General and administrative expenses - - - (226,219) (226,219) Other income - - - 39,216 39,216 Income tax benefit - - - 652,005 652,005 Minority interest - - - (61,724) (61,724) ----------- ----------- ----------- ----------- ------------ Net income(losses) $ (1,020) $ 297,016 $ (348,715) $ 403,278 $ 350,559 =========== =========== =========== =========== ============ Total Assets $ 3,976,540 $ 6,457,524 $20,770,028 $ 3,677,447 $ 34,881,539 =========== =========== =========== =========== ============
REAL ESTATE ------------------------- Six months ended Rental Justice Investment December 31, 2002 Properties Investors Transactions Other Total ----------- ----------- ------------ ----------- ------------ Operating income(loss) $ 207,426 $ 870,731 $ (508,008) $ - $ 570,149 Operating expenses (103,496) - (101,646) - (205,142) ----------- ----------- ----------- ----------- ------------ 103,930 870,731 (609,654) - 365,007 Mortgage interest expenses (102,395) - - - (102,395) Depreciation (35,362) - - - (35,362) General and administrative expenses - - - (456,700) (456,700) Other income - - - 37,555 37,555 Income tax benefit - - - 62,606 62,606 Minority interest - - - (30,944) (30,944) ----------- ----------- ----------- ----------- ------------ Net income(losses) $ (33,827) $ 870,731 $ (609,654) $ (387,483) $ (160,233) =========== =========== =========== =========== ============ Total Assets $ 4,756,309 $ 5,979,098 $ 9,285,656 $ 3,279,889 $ 23,300,952 =========== =========== =========== =========== ============
-11- REAL ESTATE ------------------------- Six months ended Rental Justice Investment December 31, 2001 Properties Investors Transactions Other Total ----------- ----------- ----------- ----------- ------------ Operating income(loss) $ 170,363 $ 1,385,416 $(5,559,165) $ - $ (4,003,386) Operating expenses (65,461) - (228,510) - (293,971) ----------- ----------- ----------- ----------- ------------ 104,902 1,385,416 (5,787,675) - (4,297,357) Mortgage interest expenses (89,246) - - - (89,246) Depreciation (26,858) - - - (26,858) General and administrative expenses - - - (419,090) (419,090) Other income - - - 76,567 76,567 Income tax benefit - - - 1,977,213 1,977,213 Minority interest - - - 140,841 140,841 ----------- ----------- ----------- ----------- ------------ Net income(losses) $ (11,202) $ 1,385,416 $(5,787,675) $ 1,775,531 $ (2,637,930) =========== =========== =========== =========== ============ Total Assets $ 3,976,540 $ 6,457,524 $20,770,028 $ 3,677,447 $ 34,881,539 =========== =========== =========== =========== ============
6. Related Party Transactions -------------------------- In September 2002, the Company purchased from InterGroup a $162,564 note payable from Intergroup Woodland Village, Inc., the Company's 55.4% owned subsidiary, which is secured by its 27 unit apartment complex, for the face value of the note. The note matures September 29, 2004 and carries an interest rate of 7.75%. Certain costs and expenses, primarily salaries, rent and insurance, are allocated among the Company and its subsidiary, Portsmouth, and the Company's parent, InterGroup, based on management's estimate of the utilization of resources. For the three and six months ended December 31, 2002, the Company and Portsmouth made payments to InterGroup of approximately $43,328 and $86,656, respectively, for administrative costs and reimbursement of direct and indirect costs associated with the management of the Companies and their investments, including the partnership asset. John V. Winfield serves as Chief Executive Officer and Chairman of the Company, Portsmouth, and InterGroup. Depending on certain market conditions and various risk factors, the Chief Executive Officer, his family, Portsmouth and InterGroup may, at times, invest in the same companies in which the Company invests. The Company encourages such investments because it places personal resources of the Chief Executive Officer and his family members, and the resources of Portsmouth and InterGroup, at risk in connection with investment decisions made on behalf of the Company. -12- Item 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING STATEMENTS AND PROJECTIONS The Company may from time to time make forward-looking statements and projections concerning future expectations. When used in this discussion, the words "estimate," "project," "anticipate" and similar expressions are intended to identify forward-looking statements. Such statements are subject to certain risks and uncertainties, such as the impact of terrorism and war on the national and international economies, including tourism and securities markets, general economic conditions an increased competition in the hotel industry in the San Francisco area, partnership distributions, securities markets, litigation and other factors, including natural disasters, and those discussed below in the Company's Form 10-KSB for the year ended June 30, 2002, that could cause actual results to differ materially from those projected. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as to the date hereof. The Company undertakes no obligation to publicly release the results of any revisions to those forward-looking statements, which may be made to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. RESULTS OF OPERATIONS The Company's principal sources of revenue are derived from the management of the real property assets of its 68.8% owned subsidiary, Portsmouth, rental income from its multi-family real estate properties and income received from investment of its cash and securities assets. Portsmouth serves as both a general and 49.8% limited partner of Justice Investors, which derives most of its income from a lease of its hotel property to Felcor and from a lease of the garage portion of the property to Evon. Three Months Ended December 31, 2002 Compared to Three Months Ended December 31, 2001 The Company had net income of $294,719 for the three months ended December 31, 2002 as compared to net income of $350,559 for the three months ended December 31, 2001. The decrease is primarily due to the recognition of an income tax benefit $652,005 during the three months ended December 31, 2001 compared to an income tax expense of $269,081 in the current quarter, which was partially offset by an increase in investment income. Total revenues for the Company increased to $1,081,623 from $148,576 as a result of the increases in equity in net income of Justice Investors, gains on marketable securities, dividend and interest income, and rental income partially offset by the decrease in other income. Total costs and expenses increased to $431,570 from $388,298. The increase in equity in net income of Justice Investors to $371,444 from $297,019 is primarily due to three factors. Approximately $55,000 of that increase is attributable to additional revenue related to the year-end hotel rent calculation. Approximately $50,000 of the increase was due to legal and consulting expenses related to an arbitration proceeding in the prior year. -13- These amounts were partially offset by a decline in hotel revenues. The recovery of the tourism and the hospitality industry has been especially slow in San Francisco due to the continued weak economy in the Bay Area. In addition, the hotel has faced increased competition from new properties and from higher end properties that have cut room rates in an effort to keep their share of a declining market. For the three months ended December 31, 2002, average daily room rates decreased 18% to $89 from $108 in the prior year's quarter, while average occupancy increased 11% to 62% from 56% in the prior year's quarter. Net gains (losses) on marketable securities increased to $551,413 for the three months ended December 31, 2002 from net losses of $283,453 for the three months ended December 31, 2001. For the three months ended December 31, 2002, the Company had net unrealized gains of $1,095,757 and net realized losses of $544,344. Gains and losses on marketable securities may fluctuate significantly from period to period in the future and could have a significant impact on the Company's net income. However, the amount of gain or loss on marketable securities for any given period may have no predictive value and variations in amount from period to period may have no analytical value. For a more detailed description of the composition of the Company's marketable securities and performance please see the section below. Dividend and interest income increased to $35,415 from $9,902 as a result of increased investment in dividend yielding securities. Rental income increased to $108,828 from $85,895 and total property costs and expenses increased to $127,639 from $86,915. Both increases were due to the purchase of a 3 unit multi-family complex located in Los Angeles, California in February 2002. Income taxes changed to an expense of $269,081 from a tax benefit of $652,005 due the income generated in the current period. For the three months ended December 31, 2001, a tax benefit of $652,005 was recognized relating to capital and operating loss carryforwards. In the previous periods, the net operating and capital losses were only recognized to the extent that they offset income. Six Months Ended December 31, 2002 Compared to Six Months Ended December 31, 2001 The Company had a net loss of $160,233 for the six months ended December 31, 2002 as compared to a net loss of $2,637,930 for the six months ended December 31, 2001. The change is primarily due to a decrease in net losses on marketable securities, partially offset by the decrease in equity in net income of Justice Investors, a decrease in the tax benefit and a decrease in minority interest. The decrease in equity in net income of Justice Investors to $870,731 for the six months ended December 31, 2002 from $1,385,416 for the six months ended December 31, 2001 is primarily attributable to a the inclusion of approximately $300,000 in equity in net income of Justice Investors from an arbitration settlement payment from the hotel leasee and to a decline in hotel revenues. The terrorist attacks of September 11, 2001, had a -14- devastating effect on tourism and the hospitality industry, especially in San Francisco where recovery has been especially slow due to the weak economy in the Bay Area. In addition, the hotel has faced increased competition from new properties and from higher end properties that have cut room rates in an effort to keep their share of a declining market. For the six months ended December 31, 2002, average daily room rates decreased 23% to $92 from $120 for the six months ended December 31, 2001, while average occupancy increased 7% to 72% from 67%. Net losses on marketable securities decreased to $612,509 for the three months ended December 31, 2002 from net losses of $5,638,215 for the three months ended December 31, 2001. For the six months ended December 31, 2002, the Company had net unrealized gains of $1,448,243 and net realized losses of $2,060,752. Gains and losses on marketable securities may fluctuate significantly from period to period in the future and could have a significant impact on the Company's net income. However, the amount of gain or loss on marketable securities for any given period may have no predictive value and variations in amount from period to period may have no analytical value. For a more detailed description of the composition of the Company's marketable securities and performance please see the section below. Dividend and interest income increased to $104,501 from $79,050 as a result of increased investment in dividend yielding securities. Rental income increased to $207,426 from $170,363 and total property costs and expenses increased to $241,253 from $181,565. Both increases were due to the purchase of a 3 unit multi-family complex located in Los Angeles, California in February 2002. Margin interest, trading and management expenses decreased to $101,646 from $228,510 primarily due to the termination of the third party investment managers in November 2001. Margin interest expense decreased to $32,874 from $93,185 as a result of lower margin balances. Income tax benefit decreased to $62,606 from $1,977,213 due to a lower net loss before taxes and a recording of a significant deferred tax benefit related to the Company's capital and net loss carryforwards during the six months ended December 31, 2001. In the previous periods, the net operating and capital losses were only recognized to the extent that they offset income. Minority interest increased to $30,944 from a benefit of $140,841 as a result of net income generated by the Company's subsidiary, Portsmouth, compared to a net loss incurred in the six months ended December 31, 2001. -15- MARKETABLE SECURITIES The Company invests from time to time in corporate debt and equity securities, mortgage backed securities, securities issued by REIT's and other companies, which invest primarily in real estate. The following table sets forth the composition of the Company's investment in marketable securities as of December 31, 2002: % of Total Market Value Portfolio ------------ --------- Fixed income: Corporate bonds $ 196,000 2.2% Corporate securities: Common stocks 7,701,856 85.7% Preferred stocks 1,087,800 12.1% ---------- ------ Total marketable securities $ 8,985,656 100.0% ========= ====== The following table shows the composition of the Company's marketable securities by selected industry groups as of December 31, 2002. % of Total Investment Industry Group Market Value Securities -------------- ------------ ---------- Telecommunication $ 3,241,891 36.1% Electric and Other Services 1,646,150 18.3% Energy 1,355,845 15.1% Metal and auto manufacturers 1,245,407 13.9% Computer/Technologies 371,785 4.1% Insurance 307,625 3.4% Other 816,953 9.1% ---------- ------ $ 8,985,656 100.0% ========== ====== The Company's investment portfolio is diversified with 79 different equity positions. Only two equity securities are more than 5% of the equity value of the portfolio, with the largest being 6.3%. The amount of the Company's investment in any particular issuer may increase or decrease, and additions or deletions to its securities portfolio may occur, at any time. While it is the internal policy of the Company to limit its initial investment in any single equity to less than 5% of its total portfolio value, that investment could eventually exceed 5% as a result of equity appreciation or reduction of other positions. Marketable securities are stated at market value as determined by the most recently traded price of each security at the balance sheet date. -16- The following table shows the net gain or loss on the Company's marketable securities and the associated margin interest and trading expenses for the three and six months ended December 31, 2002 and December 31, 2001, respectively. Three months ended Three month ended December 31, December 31, 2002 2001 ------------ ------------ Net gain (loss) on marketable securities $ 551,413 $ (283,453) Dividend & interest income 35,415 9,902 Margin interest (4,739) (17,832) Trading and management expenses (58,801) (57,332) ------------ ------------ Investment income (loss) $ 523,288 $ (348,715) ============ ============ Six months ended Six month ended December 31, December 31, 2002 2001 ------------ ------------ Net loss on marketable securities $ (612,509) $ (5,638,215) Dividend & interest income 104,501 79,050 Margin interest (32,874) (93,185) Trading and management expenses (68,772) (135,325) ------------ ------------ Investment loss $ (609,654) $ (5,787,675) ============ ============ FINANCIAL CONDITION AND LIQUIDITY The Company's cash flows are primarily generated by its subsidiary's ownership interest in the Justice Investors limited partnership, which derives the majority of its income from its lease with Felcor and a lease with Evon. In addition to the monthly limited partnership distributions it receives from Justice Investors, the Company's subsidiary also receives monthly management fees as a general partner. The Company also derives revenue from its investment in multi-family real estate properties and the investment of its cash and securities assets. As a result of the significant decline in partnership revenues due to the slowdown in the San Francisco area economy, increased competition and the continuing impact that the terrorist attacks of September 11, 2001 have had on tourism and the hospitality industry, Justice Investors cut the monthly distribution to its limited partners by 20%, effective with the May 2002 distribution. As a result, Portsmouth's monthly distributions were reduced by $41,832 to $167,328. Justice Investors also eliminated its special year- end partnership distribution in December 2002 and announced that there would be a further reduction of 5% in the monthly distributions commencing in March 2003. The limited partners have been further advised that, if hotel revenues do not meet budget projections, further cuts in the monthly distributions may -17- have to be made in the future. The general partners will continue to review and analyze the operations of the hotel to determine an appropriate monthly distribution. For the quarter ended December 31, 2002 the Company received cash distributions of $1,003,968 from the Justice Investors. The Company has invested in short-term, income-producing instruments and in equity and debt securities when deemed appropriate. The Company's marketable securities are classified as trading with unrealized gains and losses recorded through the statement of income. In July 2002, Justice Investors entered into a lease with Tru Spa, LLC, which was amended effective January 1, 2003. The lease premises consist of approximately 5,400 square feet of space on the lobby level of the hotel for the construction and operation of a health and beauty spa. The term of the lease is for ten years commencing on May 1, 2003 or as soon as all of the improvements are completed, with a five year option to extend the term. The amended lease provides for minimum monthly rent of $11,925, additional rent of $2,072 (up to a total of $250,000 to help defray certain relocation construction costs) and other tenant fees. Justice will be responsible for up to $1,100,000 in leasehold improvements, which will be paid using the partnership's line of credit. It is expected that the spa lease will be essentially revenue neutral to the partnership, but should help the hotel to be more competitive in a difficult marketplace by providing greater amenities to its guests. The hotel industry in San Francisco was particularly hard hit by the impact that the terrorist attacks had on tourism and the hospitality industry in general. The impact of those attacks coupled with the slow down in the economy and increased competition have made for a very challenging environment. Because of that, the economic recovery in the Bay Area has lagged behind that of many other cities. Although the Company has suffered a significant decline in revenues as a result of those events, management believes that the net cash flow generated from future operating activities and its capital resources will be adequate to meet its current and future obligations. The Company has no off balance sheet arrangements. The Company also does not have any material contractual obligations or commercial commitments. IMPACT OF INFLATION Hotel room rates are typically impacted by supply and demand factors, not inflation, since rental of a hotel room is usually for a limited number of nights. Room rates can be, and usually are, adjusted to account for inflationary cost increases. To the extent that the hotel lessee is able to adjust room rates, there should be minimal impact on partnership revenues due to inflation. Partnership revenues are also subject to interest rate risks, which may be influenced by inflation. For the two most recent fiscal years, the impact of inflation on the Company's income is not viewed by management as material. -18- CRITICAL ACCOUNTING POLICIES The Company reviews its long-lived assets and other investments for impairment when circumstances indicate that a potential loss in carrying value may have occurred. For the Company's investment in Justice, to the extent that projected future undiscounted cash flows from the operation of the Company's hotel property are less than the carrying value of the asset, the carrying value of the asset is reduced to its fair value. For other investments, the Company reviews the investment's operating results, financial position and other relevant factors to determine whether the estimated fair value of the asset is less than the carrying value of the asset. Marketable securities are stated at market value as determined by the most recently traded price of each security at the balance sheet date. Marketable securities are classified as trading with net unrealized gains or losses included in earnings. The Company's other accounting policies are straightforward in their application. Item 3. Controls and Procedures (a) Evaluation of disclosure controls and procedures. The management of the Company, including the Chief Executive Officer and the Treasurer (serving as Chief Financial Officer), have conducted an evaluation of the effectiveness of the Company's disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) as of a date within 90 days prior to the filing of this Quarterly Report on Form 10-QSB (the "Evaluation Date"). Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that, as of the Valuation Date, the Company's disclosure controls and procedures are effective in timely alerting them to material information relating to the Company, including its consolidated subsidiaries, required to be included in the Company's periodic SEC filings. (b) Changes in internal controls. Subsequent to the date of the evaluation, there have been no significant changes in the Company's internal controls or in other factors that could significantly affect internal controls, nor were there any corrective actions required with regard to significant deficiencies and material weaknesses. -19- PART II. OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K. (a) Exhibit 99.1 - Certificates Pursuant to 18 U.S.C. Section 1350 as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (b) Registrant did not file any reports on Form 8-K during the period covered by this report. SIGNATURES Pursuant to the requirements 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. SANTA FE FINANCIAL CORPORATION (Registrant) Date: February 13, 2003 by /s/ John V. Winfield --------------------------- John V. Winfield, President, Chairman of the Board and Chief Executive Officer Date: February 13, 2003 by /s/ Michael G. Zybala --------------------------- Michael G. Zybala, Vice President, Treasurer and Secretary Date: February 13, 2003 by /s/ David Nguyen -------------------------- David Nguyen (Principal Accounting Officer) CERTIFICATIONS I, John V. Winfield, certify that: 1. I have reviewed this quarterly report on Form 10-QSB of Santa Fe Financial Corporation; 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; -20- 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 flow of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officers and I are 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) designated such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, 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 our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date. 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing equivalent functions): 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 registrant's auditors and 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 registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: February 13, 2003 /s/ John V. Winfield ---------------------- John V. Winfield President and Chief Executive Officer _____________________________________________________________________________ I, Michael G. Zybala, certify that: 1. I have reviewed this quarterly report on Form 10-QSB of Santa Fe Financial Corporation; -21- 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 flow of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officers and I are 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) designated such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, 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 our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date. 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing equivalent functions): 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 registrant's auditors and 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 registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: February 13, 2003 /s/ Michael G. Zybala ---------------------- Michael G. Zybala Vice President, Secretary and Treasurer (serving as Chief Financial Officer) -22-