10-Q: Quarterly report pursuant to Section 13 or 15(d)
Published on May 14, 2002
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2002
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ______________ to ______________
Commission File Number: 1-13991
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
(Exact name of registrant as specified in its charter)
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Maryland 13-3974868
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
399 Park Avenue, 36th Floor, New York, New York 10022
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (212) 935-8760
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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 |_|
35,823,601 shares of common stock, $0.01 par value, were outstanding as of
May 14, 2002.
INDEX
Page
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PART I
Financial Information
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
STATEMENTS OF FINANCIAL CONDITION
The accompanying notes are an intergral part of the financial statements.
1
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
STATEMENTS OF OPERATIONS
The accompanying notes are an intergral part of the financial statements.
2
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
Three Months Ended
March 31, 2002
------------------
(Unaudited)
(In Thousands, Except per Share Data)
Common Stock (Par Value: $.01):
Balance at December 31, 2001 $ 283
Issuance of common stock, net of offering expenses 75
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Balance at March 31, 2002 358
---------
Additional Paid-in Capital:
Balance at December 31, 2001 212,536
Issuance of common stock, net of offering expenses 58,137
Compensation expense for 1997 stock option plan 24
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Balance at March 31, 2002 270,697
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Accumulated Deficit:
Balance at December 31, 2001 (13,704)
Net income 9,557
Cash dividends declared ($.30 per share) (10,897)
---------
Balance at March 31, 2002 (15,044)
---------
Accumulated Other Comprehensive Income (Loss):
Balance at December 31, 2001 4,509
Unrealized gain (loss) during period, net (6,729)
Unrealized gain on interest rate cap agreements 200
---------
Balance at March 31, 2002 (2,020)
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Total Stockholders' Equity $ 253,991
=========
The accompanying notes are an intergral part of the financial statements.
3
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
STATEMENTS OF CASH FLOWS
The accompanying notes are an integral part of the financial statements.
4
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
NOTES TO THE FINANCIAL STATEMENTS
(UNAUDITED)
Organization
America First Mortgage Investments, Inc. (the "Company") was incorporated
in Maryland on July 24, 1997. The Company began operations on April 10, 1998
when it merged with three partnerships (the "1998 Merger"), America First
Participating/Preferred Equity Mortgage Fund Limited Partnership ("Prep Fund
1"), America First Prep Fund 2 Limited Partnership ("Prep Fund 2") and America
First Prep Fund 2 Pension Series Limited Partnership ("Pension Fund"),
collectively, the "Prep Funds".
The Company has elected to be taxed as a real estate investment trust
("REIT") for federal income tax purposes. Pursuant to the current federal tax
regulations, one of the requirements of maintaining its status as a REIT is that
the Company must distribute at least 90% of its annual taxable net income to its
stockholders, subject to certain adjustments.
From the time of its inception through December 31, 2001, the Company was
externally advised by America First Mortgage Advisory Corporation (the
"Advisor"), pursuant to an advisory agreement between the parties (the "Advisory
Agreement"). As an externally managed company, the Company had no employees of
its own and relied on the Advisor to conduct its business and operations.
Pursuant to the consummation of the stockholder approved merger between
the Company and the Advisor (the "Advisor Merger"), the Company and the Advisor
merged on January 1, 2002. As a result of the Advisor Merger, the Company became
self-advised commencing January 1, 2002 and thereafter has directly incurred the
cost of all overhead necessary to operate the Company. For accounting purposes,
the Advisor Merger was not considered the acquisition of a "business" for
purposes of applying Accounting Principles Board ("APB") Opinion No. 16,
"Business Combinations" and, therefore, the market value of the common stock
issued, valued as of the consummation of the Advisor Merger, in excess of the
fair value of the net tangible assets acquired was charged to operating income
rather than capitalized as goodwill at the time the Advisor Merger received
stockholder approval in December 2001. (See Note 3)
1. Summary of Significant Accounting Policies
(a) Basis of Presentation
The accompanying interim unaudited financial statements have been prepared
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 according to such rules and
regulations, although management believes that the disclosures are adequate to
make the information presented not misleading. The financial statements should
be read in conjunction with the financial statements and notes thereto included
in the Company's Annual Report on Form 10-K for the year ended December 31,
2001. In the opinion of management, all normal and recurring adjustments
necessary to present fairly the financial position at March 31, 2002 and results
of operations for all periods presented have been made. The results of
operations for the three-month period ended March 31, 2002 are not necessarily
indicative of the results to be expected for the full year.
As more fully discussed in Note 7, the Company has an investment in a
corporation, as a preferred stockholder, and investments in four real estate
limited partnerships, as a limited partner, which are accounted for under the
equity method. The Company does not legally controls either the corporation nor
any of the partnerships.
The financial statements are prepared on the accrual basis of accounting
in accordance with generally accepted accounting principles. The preparation of
financial statements in conformity with generally accepted accounting principles
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from those estimates.
(b) Credit Risk and Declines in Market Value
The Company limits its exposure to credit losses on its investment
portfolio by requiring that at least 50% of its investment portfolio consist of
MBS that are guaranteed as to principal and interest by an agency of the U.S.
Government, such as Ginnie Mae, Fannie Mae and Freddie Mac ("Agency MBS"). The
remainder of the Company's assets may be either: (i) investments in multi-family
apartment properties; (ii) investments in limited partnerships, real estate
investment trusts (each a REIT) or a preferred stock of a real estate related
corporation or (iii) other fixed-
5
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
NOTES TO THE FINANCIAL STATEMENTS
(UNAUDITED)
income instruments, such as corporate debt securities, that provide increased
call protection relative to the Company's MBS portfolio. Corporate debt that is
below investment-grade will be limited to less than 5% of the Company's total
assets. Agency and AAA rated MBS comprised 95% and 93% of the Company's total
assets at March 31, 2002 and December 31, 2001, respectively. The Company did
not have an allowance for credit losses at March 31, 2002 or December 31, 2001.
A decline in the estimated market value of any of the Company's investment
securities that is considered by management to be other-than-temporary would
result in the Company reducing the cost basis of the specific security through a
corresponding charge against earnings. Losses related to other-than-temporary
declines in market value are determined based on management's assessment of
various factors affecting the security. The following are among, but not all,
the factors considered in determining whether and to what extent an
other-than-temporary impairment exists: (i) the expected cash flow from the
investments; (ii) whether an other-than-temporary deterioration of the credit
quality of the underlying mortgages, debtor, or the company in which equity
investments has occured; (iii) the credit protection available to the related
mortgage pool for MBS; (iv) any other market information available, including
analysts assessments and statements, public statements and filings made by the
debtor, counterparty or other relevant party issuing or otherwise securing the
particular security; (v) management's internal analysis of the security
considering all known relevant information at the time of assessment; and (vi)
the magnitude and duration of historical decline in market prices. Because
management's assessments are based on factual information as well as subjective
information available at the time of assessment, the determination as to whether
an other-than-temporary decline exists and, if so, the amount considered
impaired is also subjective and, therefore, constitutes a material estimate,
that is susceptible to a significant change. (See Notes 5 and 6)
(c) MBS, Corporate Debt Securities and Corporate Equity Securities
Statement of Financial Accounting Standards ("FAS") No. 115, "Accounting
for Certain Investments in Debt and Equity Securities" ("SFAS 115"), requires
that investments in securities be designated as either held-to-maturity,
available-for-sale or trading at the time of acquisition. Securities that are
designated as held-to-maturity are carried at their amortized cost. Securities
designated as available-for-sale are carried at fair value with unrealized gains
and losses excluded from earnings and reported in other comprehensive income.
Although the Company generally intends to hold most of its MBS until
maturity, it may, from time to time, sell any of its MBS as part of its overall
management of its business. The available-for-sale designation provides the
flexibility to sell its MBS in order to appropriately act on potential future
market opportunities, changes in economic conditions and to ensure future
liquidity. All of the Company's investments in corporate equity securities are
classified as available-for-sale. As of March 31, 2002, all of the Company's
investments in corporate debt securities were classified as available-for-sale.
If management were to decide to sell any security, whether
held-for-investment or held for sale, unrealized losses at the time that the
decision to sell is made would be charged against earnings in that period, if
any. However, any gains would be deferred until realized.
Other-than-temporary losses on investment securities, whether designated
as available-for-sale or held-to-maturity, as measured by the amount of decline
in fair value attributable to factors that are considered to be
other-than-temporary, are charged against income resulting in an adjustment of
the cost basis of such securities. Gains or losses on the sale of investment
securities are based on the specific identification method.
The Company's adjustable rate assets are comprised primarily of adjustable
rate MBS issued through Ginnie Mae, Fannie Mae or Freddie Mac. Included in these
adjustable rate MBS are hybrid MBS that have a fixed interest rate for an
initial period, generally three-to-five years, then convert to an adjustable
rate for their remaining term to maturity.
Interest income is accrued based on the outstanding principal amount of
the investment securities and their contractual terms. Premiums and discounts
associated with the purchase of the investment securities are amortized into
interest income over the lives of the securities using the effective yield
method, adjusted for actual prepayment activity.
(d) Cash and Cash Equivalents
Cash and cash equivalents include cash on hand and highly liquid
investments with original maturities of three
6
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
NOTES TO THE FINANCIAL STATEMENTS
(UNAUDITED)
months or less. The carrying amount of cash equivalents approximates their fair
value.
(e) Restricted Cash
The Company's restricted cash balance represents cash held on deposit with
certain counterparties (i.e., lenders) to satisfy margin calls on repurchase
agreements. The margin calls result from the decline in the value of the MBS
securing repurchase agreements, generally due to principal reduction in the MBS
from scheduled amortization and prepayments. At the time a repurchase agreement
rolls, the Company will apply the restricted cash against the repurchase
agreement, thereby reducing the borrowing.
(f) Other Investments
Other investments consist of certain non-consolidated investments,
accounted for under the equity method, which include: (i) non-voting preferred
stock of a corporation which has an interest in a real estate limited
partnership and a wholly owned limited liability company, and (ii) investments
in four limited partnerships owning real estate. The Company acquired these
investments as part of the 1998 Merger. Certain of the properties underlying the
other investments in the limited partnerships that the Company received in the
1998 Merger were subsequently exchanged for other properties through non-taxable
exchanges, known for tax purposes as a "Section 1031 exchange."
Certain of the investments have a zero carrying value and, as such,
earnings are recorded only to the extent that distributions are received. Such
investments have not been reduced below zero through recognition of allocated
investment losses since the Company has no legal obligation to provide
additional cash support to the underlying property partnerships as it is not the
general partner in any of the partnership entities, nor has it indicated any
commitment to provide this support. Each of the properties in which the Company
has interests are mortgaged, with the underlying investment properties serving
as collateral. The Company has no liability for the mortgage loans, since (1)
the Company's investment is as a limited partner and (2) the mortgages have
non-recourse provisions, such that they are secured only to the extent of the
collateral which is comprised of the mortgaged property.
(g) Derivative Financial Instruments - Interest Rate Cap Agreements
The Company utilizes interest rate cap agreements ("Cap Agreements"),
which are derivative instruments, for the purpose of managing interest rate
risk. The Company has not entered, nor does it anticipate entering, into
derivative transactions for speculative or trading purposes.
In accordance with FAS No. 133, "Accounting for Derivative Instruments and
Hedging Activities" a derivative which is designated as a hedge is recognized as
an asset/liability and measured at fair value. To qualify for hedge accounting,
at the inception of a Cap Agreement, the Company must anticipate that the hedge
will be highly effective in limiting the Company's cost beyond the Cap Agreement
threshold on its matching (on an aggregate basis) anticipated repurchase
agreements during the active period of the Cap Agreement. As long as the hedge
remains effective, changes in fair value are included in the accumulated other
comprehensive income component of stockholders' equity. Upon the Cap Agreement
active period commencing, the premium paid to enter into the Cap Agreement is
amortized and reflected in interest expense. The periodic amortization of the
premium expense is based on an estimated allocation of the premium, determined
at inception of the hedge, on a fair value basis. Payments received in
connection with the Cap Agreement will be reported as a reduction to interest
expense, net of the amortization recognized for the premium. If it is determined
that a Cap Agreement is not effective, the premium would be reduced and a
corresponding charge made to interest expense for the ineffective portion of the
Cap Agreement. The maximum cost related to each of the Company's Cap Agreements
is limited to the original purchase price (i.e. the premium) of each such
instrument. In order to limit credit risk associated with purchased Cap
Agreements, the Company only enters into Cap Agreements with financial
institutions rated "A" or better by one of the nationally recognized rating
agencies. Income generated by the Cap Agreements, if any, would be presented as
an off-set to interest expense on the hedged liabilities.
In order to continue to qualify for and to apply hedge accounting, the Cap
Agreements are monitored on a quarterly basis to determine whether they continue
to be effective or, if prior to the trigger date, whether the Cap Agreement
continues to be expected to be effective. If during the term of the Cap
Agreement the Company determines that a Cap Agreement is not effective or that a
Cap Agreement is not expected to be effective, the ineffective portion of the
Cap Agreement will no longer qualify for hedge accounting and, accordingly
subsequent changes in its fair value will be reflected in earnings. (See Note 8)
7
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
NOTES TO THE FINANCIAL STATEMENTS
(UNAUDITED)
(h) Repurchase Agreements
The Company finances the acquisition of its MBS at short-term borrowing
rates through the use of repurchase agreements. Under a repurchase agreement,
the Company sells securities to a lender and agrees to repurchase those
securities in the future for a price that is higher than the original sales
price. The difference between the sale price the Company receives and the
repurchase price the Company pays represents interest paid to the lender.
Although structured as a sale and repurchase obligation, a repurchase agreement
operates as a financing under which the Company effectively pledges its
securities as collateral to secure the loan which is equal in value to a
specified percentage of the market value of the pledged collateral. The Company
retains beneficial ownership of the pledged collateral, including the right to
distributions. At the maturity of a repurchase agreement, the Company is
required to repay the loan and concurrently receives back its pledged collateral
from the lender or, upon mutual consent with the lender, the Company may renew
such agreement at the then prevailing financing rate. The repurchase agreements
may require the Company to pledge additional assets to the lender in the event
the market value of the existing pledged collateral declines. Through March 31,
2002, the Company did not have any margin calls on its repurchase agreements
that it was not able to satisfy with either cash or additional pledged
collateral.
The Company enters into repurchase agreements that generally range from
one month to 18 months in duration. Should a lender decide not to renew a
particular agreement at maturity, the Company must either refinance elsewhere or
be in a position to satisfy the obligation. If, during the term of a repurchase
agreement, a lender should file for bankruptcy, the Company might experience
difficulty recovering its pledged assets and may have an unsecured claim against
the lender's assets. To reduce its exposure, the Company enters into repurchase
agreements only with financially sound institutions whose holding or parent
company's long-term debt rating is "A" or better as determined by at least one
of the nationally recognized rating agencies, where applicable. The Company will
not enter into repurchase agreements with a lender without the specific approval
of the Company's Board of Directors, if the minimum criterion is not met. In the
event an existing lender is downgraded below "A," the Company is required to
obtain board approval before renewing or entering into additional repurchase
agreements with that lender. The Company generally aims to diversify its
exposure by entering into repurchase agreements with at least four separate
lenders with a maximum loan from any lender of no more than three times the
Company's stockholders' equity. As of March 31, 2002, the Company had repurchase
agreements with 11 separate lenders with a maximum loan amount of $527 million
and a net exposure (the difference between the amount loaned to the Company and
the fair value of the security pledged by the Company as collateral) to a single
lender of $29.4 million. (See Note 9)
(i) Stock Based Compensation
The Company's policy is to apply the intrinsic method of Accounting
Principles Bulletin No. 25 ("APB 25") for its direct employees and independent
directors. Under the intrinsic method, no compensation expense is recorded when
options are issued with an exercise price equal to the market price of the
underlying security.
(j) Federal Income Taxes
The Company has elected to be taxed as a REIT under the provisions of the
Internal Revenue Code of 1986, as amended (the "Code"), and the corresponding
provisions of state law. The Company expects to operate in a manner that will
enable it to continue to be taxed as a REIT. As such, no provision for current
or deferred income taxes has been made in the accompanying financial statements.
(k) Earnings per Common Share ("EPS")
Basic EPS is computed by dividing net income by the weighted average
number of shares of common stock outstanding during the period. Diluted EPS is
computed by dividing net income by the weighted-average common shares and common
equivalent shares outstanding during the period. For the diluted EPS
calculation, the weighted average common shares and common equivalent shares
outstanding are adjusted for the dilutive effect of unexercised stock options
using the treasury stock method. Under the treasury stock method, common
equivalent shares, which for the Company include common stock options, are
calculated assuming that all dilutive common stock options (i.e., options on
which the exercise price is below the market price of the Company's common stock
during the period) are exercised and the proceeds are used to buy back shares of
the Company's outstanding common stock at the average market price during the
reported period. No common share equivalents are included in the computation of
diluted earnings per share for any period in which their inclusion would be
antidilutive. In addition, no common share equivalents are included in the
computation of any diluted per share amount for a period
8
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
NOTES TO THE FINANCIAL STATEMENTS
(UNAUDITED)
in which a net operating loss is reported. (See Note 12)
(l) Other Comprehensive Income
FAS No. 130, "Reporting Comprehensive Income" requires the Company to
display and report comprehensive income, which includes all changes in
Stockholders' Equity with the exception of additional investments by or
dividends to stockholders. Comprehensive income for the Company includes net
income and the change in net unrealized holding gains (losses) on investments
and certain derivative instruments. (See Note 13)
(m) Adoption of New Accounting Standards
In July 2001, the FASB issued FAS No. 141, "Business Combinations" ("FAS
141") and FAS No. 142, "Goodwill and Other Intangible Assets" ("FAS 142") which
provide guidance on how entities are to account for business combinations and
for the goodwill and other intangible assets that arise from those combinations
or are acquired otherwise. Pursuant to FAS 142 goodwill is no longer amortized,
but instead be tested for impairment at least annually. As of the date of
adoption, the Company had unamortized goodwill in the amount of $7,189,000. The
Company's adoption of FAS 142 on January 1, 2002 did not have a material effect
on the Company's financial statements. For the three month period ended March
31, 2001, the Company recognized $50,000 of goodwill amortization.
In October 2001, the FASB issued FAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets" ("FAS 144"). FAS 144 provides new
guidance on the recognition of impairment losses on long-lived assets to be held
and used or to be disposed of and also broadens the definition of what
constitutes a discontinued operation and how the results of a discontinued
operation are to be measured and presented. The Company's adoption of FAS 144 on
January 1, 2002 did not have any impact on the Company's financial statements.
(n) New Accounting Pronouncements
On April 30, the FASB issued FASB Statement No. 145 ("FAS 145"),
Rescission of FASB Statements No. 4, 44, and 64, "Amendment of FASB Statement
No. 13, and Technical Corrections." FAS 145 rescinds both FASB Statement No. 4
("FAS 4"), "Reporting Gains and Losses from Extinguishment of Debt," and the
amendment to FAS 4, FASB Statement No. 64 ("FAS 64"), "Extinguishments of Debt
Made to Satisfy Sinking-Fund Requirements." Through this rescission, FAS 145
eliminates the requirement (in both FAS 4 and FAS 64) that gains and losses from
the extinguishment of debt be aggregated and, if material, classified as an
extraordinary item, net of the related income tax effect. However, an entity is
not be prohibited from classifying such gains and losses as extraordinary items,
so long as they meet the criteria in paragraph 20 of Accounting Principles Board
Opinion No. 30, Reporting the Results of Operations Reporting the Effects of
Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently
Occurring Events and Transactions.
FAS 145 also rescinds FASB Statement No. 44, "Accounting for Intangible
Assets of Motor Carriers," which was originally issued to establish accounting
standards for the effects of the transition to the provisions of the Motor
Carrier Act of 1980, which transition is now complete. Further, FAS 145 amends
paragraph 14(a) of FASB Statement No. 13, "Accounting for Leases," to eliminate
an inconsistency between the accounting for sale-leaseback transactions and
certain lease modifications that have economic effects that are similar to
sale-leaseback transactions. The amendment requires that a lease modification
(1) results in recognition of the gain or loss in the financial statements, (2)
is subject to FASB Statement No. 66, "Accounting for Sales of Real Estate," if
the leased asset is real estate (including integral equipment), and (3) is
subject (in its entirety) to the sale-leaseback rules of FASB Statement No. 98,
"Accounting for Leases: Sale-Leaseback Transactions Involving Real Estate,
Sales-Type Leases of Real Estate, Definition of the Lease Term, and Initial
Direct Costs of Direct Financing Leases." FAS 145 also makes several other
technical corrections to existing pronouncements that may change accounting
practice. Generally, FAS 145 is effective for transactions occurring after May
15, 2002. The adoption of FAS 145 is not expected to have a material impact on
the Company's financial condition or results of operations.
(o) Reclassifications
Certain prior period amounts have been reclassified to conform to the
current period presentation.
3. Advisor Merger/Related Parties and Other Related Parties
(a) Advisor Fees and Advisor Merger
From the time of the 1998 Merger through December 31, 2001, the Advisor
managed the operations and
9
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
NOTES TO THE FINANCIAL STATEMENTS
(UNAUDITED)
investments of the Company and performed administrative services for the
Company. Prior to the Advisor Merger, the Advisor was owned directly and
indirectly by certain of the Company's directors and executive officers (see
discussion below). For the services and functions provided to the Company, the
Advisor received a monthly management fee in an amount equal to 1.10% per annum
of the first $300 million of stockholders' equity of the Company, plus 0.80% per
annum of the portion of stockholders' equity of the Company above $300 million.
The Company also paid the Advisor, as incentive compensation for each calendar
quarter, an amount equal to 20% of the dollar amount by which the annualized
return on equity for such quarter exceeded the amount necessary to provide an
annualized return on equity equal to the Ten-Year U.S. Treasury rate plus 1%.
During the quarter ended March 31, 2001, the Company paid Advisor total fees of
$962,000, of which $511,000 was attributed to a $2.6 million gain on the sale of
a property.
The Company entered into an Agreement and Plan of Merger, dated September
24, 2001 (the "Advisor Merger Agreement"), with the Advisor, America First
Companies L.L.C. ("AFC") and the stockholders of the Advisor. In December 2001,
the Company's stockholders approved the terms of the Advisor Merger Agreement,
which provided for the Merger of the Advisor into the Company on January 1,
2002. The Company issued 1,287,501 shares of its common stock to the
stockholders of the Advisor as merger consideration. As a result, the Company
became self advised commencing January 1, 2002 and thereafter has directly
incurred the cost of all overhead necessary for its operation and
administration. The market value of the common stock issued in the Advisor
Merger, valued as of the consummation of the Advisor Merger in excess of the
fair value of the net tangible assets acquired, was charged to operating income
of the Company for the year ended December 31, 2001.
Certain of the Company's directors and executive officers who were
involved in discussions and negotiations relating to the Advisor Merger had, and
continue to have, interests that would be affected by the Advisor Merger. At the
time of the Advisor Merger, AFC owned 80% of the outstanding capital stock of
the Advisor. At that time, Michael Yanney, the Chairman of the Company's Board
of Directors, and George H. Krauss, one of the Company's directors, beneficially
owned approximately 57% and 17%, respectively, of AFC. In addition, Stewart
Zimmerman, the Company's President and Chief Executive Officer, and William S.
Gorin, the Company's Executive Vice President, Chief Financial Officer and
Treasurer, collectively owned approximately 3% of AFC. At the time of the
Advisor Merger, Messrs. Zimmerman, Gorin and Ronald A. Freydberg, the Company's
Executive Vice President and Secretary, also owned, in the aggregate, the
remaining 20% of the Advisor. Accordingly, the Advisor Merger resulted in these
individuals receiving, in the aggregate, beneficial ownership of an additional
1,287,501 shares of the Company's common stock valued at approximately $11.3
million at the time of the Advisor Merger.
Because the Advisor Merger was between affiliated parties and may not be
considered to have been negotiated in a completely arm's-length manner, the
Company's Board of Directors established a special committee of the Board, which
consisted of three of the Company's independent directors who had no personal
interest in the Advisor Merger, to direct the negotiations relating to the
Advisor Merger on the Company's behalf and to consider and make recommendations
to the Board relating to the Advisor Merger.
(b) Other Related Party Transactions
America First Properties Management Company L.L.C. (the "Property
Manager") is a wholly owned subsidiary of AFC, provides property management
services for certain of the multi-family properties in which the Company has an
interest. The Property Manager receives a management fee equal to a stated
percentage of the gross revenues generated by the Company's properties under
management, ranging from 3.5% to 4% of gross revenues, which are considered in
line with market terms for such services. The Property Manager was paid fees
totaling $109,000 and $108,000 for the quarters ended March 31, 2002 and 2001,
respectively for managing the properties in which the Company has interests.
Included in the Company's corporate debt securities portfolio are
investments in the corporate debt securities of RCN Corporation ("RCN"), which
were purchased between February 1999 and August 2000, and Level 3 Corporation
("Level 3"), which were purchased between August 1998 and August 2000. At March
31, 2002, the Company's investment in (i) the RCN debt securities had a carrying
value of $2,147,000, and (ii) the Level 3 debt securities had a carrying value
of $3,080,000. The carrying value of both of the RCN and Level 3 debt securities
reflect impairment charges recognized against these investments. The Company
recognized an other-than-temporary impairment charge of $2,453,000 on the RCN
debts securities in the fourth quarter of 2001 and $3,474,000 on the Level 3
debt securities during the quarter ended March 31, 2002. The impairment charges,
which
10
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
NOTES TO THE FINANCIAL STATEMENTS
(UNAUDITED)
are reflected as a permanent reduction in the carrying value of these
investments, were made based on management's assessment that the decline in the
value of these securities that was other-than-temporary. Mr.Yanney, the Chairman
of the Company's Board of Directors, is currently on the board of directors of
both RCN and Level 3. One of the Company's Directors, W. David Scott, is the son
of the individual who is the Chairman of both Level 3 and RCN. (See Note 5)
Since 1998, the Company has held all of the non-voting preferred stock,
representing 95% of the ownership and economic interest, in Retirement Centers
Corporation ("RCC"), an entity formed following the 1998 Merger which holds
certain of the properties in which the Company has investments in (See Note 7).
Mr. Gorin, the Company's Executive Vice President, Chief Financial Officer and
Treasurer, holds all of the common stock of RCC, representing 5% of the
ownership and economic interest in RCC. Mr. Gorin also serves as a director of
RCC.
4. Mortgage Backed Securities
As of March 31, 2002 and December 31, 2001, all of the Company's MBS were
classified as available-for-sale and, as such, were carried at their estimated
fair value. The following table presents the carrying value of the Company's MBS
as of March 31, 2002 and December 31, 2001.
March 31, December 31,
2002 2001
---------- ------------
(In Thousands)
Fannie Mae Certificates $1,587,613 $1,228,095
Ginnie Mae Certificates 6,996 12,266
Freddie Mac Certificates 835,001 472,908
Commercial AAA 11,583 11,486
Non-agency AAA 196,233 202,145
---------- ----------
$2,637,426 $1,926,900
========== ==========
At March 31, 2002 and December 31, 2001, the Company's portfolio of MBS
consisted of pools of adjustable rate MBS with carrying values of approximately
$2,630,523,000 and $1,915,380,000, respectively, and fixed rate MBS with
carrying values of approximately $6,903,000 and $11,520,000, respectively.
Fannie Mae: Fannie Mae MBS are certificates issued by Fannie Mae that are
backed by pools of single-family and multi-family mortgage loans. Fannie Mae
guarantees to the registered holders of its certificates that it will distribute
amounts representing scheduled principal and interest on the mortgage loans in
the pool underlying its certificates, whether or not received, and the full
payment amount of any such mortgage loan foreclosed or otherwise finally
liquidated, whether or not the principal amount is actually received. The
obligations of Fannie Mae under its guarantees are solely those of Fannie Mae
and are not backed by the full faith and credit of the U.S. Government. If
Fannie Mae were unable to satisfy its obligations, distributions to holders of
its certificates would consist solely of payments and other recoveries on the
underlying mortgage loans and, accordingly, monthly distributions to holders of
its certificates would be affected by delinquent payments and defaults on these
mortgage loans.
Ginnie Mae: Ginnie Mae MBS are certificates issued by a wholly owned
instrumentality of the U.S. Government within the Department of Housing and
Urban Development that are backed mostly by pools of single-family mortgage
loans. Ginnie Mae is authorized by the National Housing Act of 1934 to guarantee
the timely payment of principal and interest on its certificates which represent
an interest in a pool of mortgages insured by the Federal Housing Administration
or partially guaranteed by the Department of Veterans Affairs and other loans
eligible for inclusion in mortgage pools underlying its certificates. The
National Housing Act of 1934 provides that the full faith and credit of the U.S.
Government is pledged to the payment of all amounts which may be required to be
paid under any guarantee by Ginnie Mae.
Freddie Mac: Freddie Mac MBS are certificates issued by Freddie Mac that
are backed by pools of multi-family mortgage loans. Freddie Mac guarantees to
the holders of its certificates the timely payment of interest and the ultimate
collection of all principal on each holder's pro rata share of the unpaid
balance of the underlying mortgage loans, but does not guarantee the timely
payment of scheduled principal of the underlying mortgage loans. The obligations
of Freddie Mac under its guarantees are solely those of Freddie Mac and are not
backed by the full faith and credit of the U.S. Government. If Freddie Mac were
unable to satisfy its obligations, distributions to
11
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
NOTES TO THE FINANCIAL STATEMENTS
(UNAUDITED)
holders of its certificates would consist solely of payments and other
recoveries on the underlying mortgage loans and, accordingly, monthly
distributions to holders of its certificates would be affected by delinquent
payments and defaults on these mortgage loans.
Commercial: The Company's investments in commercial MBS are comprised of
privately issued certificates that are backed by pools of single-family and
multi-family mortgage loans. These securities are not guaranteed by the U.S.
Government or any of its agencies. As of March 31, 2002 and December 31, 2001,
all the Company's investments in commercial MBS were rated "AAA" by at least one
nationally recognized rating agency.
Non-Agency "AAA": Non-Agency "AAA" MBS are privately issued certificates
that are backed by pools of single-family and multi-family mortgage loans.
Non-Agency "AAA" MBS are rated as such by one of the nationally recognized
rating agencies. "AAA" is the highest rating given by bond rating agencies and
indicates the relative security of the investment. These securities are not
guaranteed by the U.S. Government or any of its agencies.
The following table presents the amortized cost, gross unrealized gains,
gross unrealized losses and fair value of MBS as of March 31, 2002 and December
31, 2001:
March 31, December 31,
2002 2001
----------- ------------
(In Thousands)
Amortized cost $ 2,639,249 $ 1,923,334
Gross unrealized gains 8,902 8,339
Gross unrealized losses (10,725) (4,773)
----------- -----------
Estimated fair value $ 2,637,426 $ 1,926,900
=========== ===========
5. Corporate Debt Securities
The Company has investments in corporate debt securities, which are
comprised of "non-investment grade," "high yield securities." Corporate debt
securities, which are not guaranteed by the U.S Government or any of its
agencies, are subject to substantially greater credit risk than are the
Company's core investment portfolio, which is comprised primarily of Agency MBS.
As such, corporate debt securities are affected by, among other things, changes
in the financial condition of the debtor, general market and economic conditions
and market interest rates.
During the quarter ended March 31, 2002, the Company recognized an
impairment charge of $3,474,000 against its holdings of Level 3 debt securities
and in the fourth quarter of 2001, the Company recognized an impairment charge
of $2,453,000 against its holdings of RCN debt securities. As of March 31, 2002,
all of the Company's investments in corporate debt securities were designated as
available-for-sale.
12
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
NOTES TO THE FINANCIAL STATEMENTS
(UNAUDITED)
The following tables presents the amortized cost, gross unrealized gains,
gross unrealized losses and estimated fair value of the Company's corporate debt
securities by investment strategy classification as of March 31, 2002 and
December 31, 2001.
(1) All debt securities were reclassified to available-for-sale as
of March 31, 2002.
(2) Reflects write-downs to the cost basis of $3,474,000 and
$2,453,000 for Level 3 and RCN debt securities, respectively, for
other-than-temporary impairment. Level 3 and RCN debt securities
accounted for $3,080,000 and $2,147,000 of the amortized
cost/carrying value at March 31, 2002. The Company continues to
receive and recognize interest income on the Level 3 and RCN debt
securities.
6. Corporate Equity Securities
Corporate equity securities are classified as available-for-sale. The
following table presents the cost, gross unrealized gains, gross unrealized
losses and fair value of the Company's corporate equity securities as of March
31, 2002 and December 31, 2001:
7. Other Investments
Other investments consisted of the following as of March 31, 2002 and
December 31, 2001:
As of March 31, 2002 and December 31, 2001, the Company had a net
investment as a preferred stockholder in RCC and net investments in four limited
partnerships. These entities had an aggregate of approximately $48.1
13
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
NOTES TO THE FINANCIAL STATEMENTS
(UNAUDITED)
million of non-recourse mortgage loans secured by the underlying investment
properties. The Company has no recourse liability for any of these mortgage
loans, since the mortgages have non-recourse provisions, such that they are
secured only to the extent of the collateral, which is comprised of the
mortgaged property.
Income from the Company's other investments was as follows for the
quarters ended March 31, 2002 and 2001 were as follows:
March 31, March 31,
2002 2001
--------- ---------
(In Thousands)
Gains on sale of underlying properties $ -- $2,574
Equity earnings, net 59 380
------ ------
$ 59 $2,954
====== ======
Retirement Center Corporation
The Company owns 100% of the non-voting preferred stock in RCC, which
represents a 95% economic interest in such corporation. The Company accounts for
its investment in RCC using the equity method.
As of March 31, 2002, RCC owned (i) a 128-unit apartment property located
in Omaha, Nebraska, known as the "Greenhouse," which was acquired on January 12,
2000 and (ii) an 88.3% undivided interest in a 192-unit apartment property
located in Lawrenceville, Georgia, which was acquired on January 18, 2001. The
Company also directly acquired the remaining 11.7% undivided interest in the
Georgia property on January 18, 2001. In addition, in December 2000, the Company
loaned Greenhouse Holding LLC (which holds the Greenhouse property), $437,000 to
fund building renovations. This loan, which is non-amortizing, is due and
payable July 31, 2002, is included in the above table in the Company's
investment in RCC at March 31, 2002 and December 31, 2001.
At December 31, 2000, RCC owned in addition to the 128-unit apartment
property referenced above, a limited partnership interest in a real estate
limited partnership, which operated an assisted living center located in Salt
Lake City, Utah. On January 2, 2001, the limited partnership, which owned the
assisted living center, was liquidated with RCC receiving an undivided interest
in the net assets of such partnership. RCC then sold its undivided interest in
the net assets of this assisted living center. Such sale contributed
approximately $2,063,000 ($2,574,000 less a related incentive fee of
approximately $511,000 reflected in other general and administrative expense) to
the Company's net income for the quarter ended March 31, 2001. The proceeds of
such sale were utilized to acquire the 192-unit apartment property on January
18, 2001 as discussed above.
Real Estate Limited Partnerships
Other investments include investments in and advances made to certain real
estate limited partnerships in which the Company holds interests. The Company
acquired certain of these investments as part of the 1998 Merger, some of which
were subsequently exchanged for other properties through a non-taxable exchange,
known for tax purposes as a "Section 1031 exchange." The investments in or
advances made to limited partnerships are accounted for under the equity method
of accounting. Certain of the investments have a zero carrying value and, as
such, earnings are recorded only to the extent distributions are received. Such
investments have not been reduced below zero through recognition of allocated
investment losses since the Company has no legal obligation to provide
additional cash support to the underlying property partnerships as it is not the
general partner, nor has it indicated any commitment to provide this support.
14
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
NOTES TO THE FINANCIAL STATEMENTS
(UNAUDITED)
8. Interest Rate Cap Agreements
The Company only enters into Cap Agreements with financially sound
institutions whose holding or parent company's long-term debt rating is "A" or
better, as determined by at least one of the nationally recognized rating
agencies, where applicable. In the unlikely event of a default by the
counterparty, the Company would not receive payments provided for under the
terms of the Cap Agreement and could incur a loss for the initial cost of
entering into the Cap Agreement.
As of March 31, 2002, the Company had five interest rate Cap Agreements
with an aggregate notional amount of $150.0 million which were purchased to
hedge against increases in interest rates on its anticipated future 30-day term
repurchase agreements. The following table presents information about the
Company's Cap Agreements as of March 31, 2002:
(1) The rate at which payments would become due to the Company under the terms
of the cap agreement.
9. Repurchase Agreements
As of March 31, 2002, the Company had outstanding balances of
approximately $2.49 billion under 142 repurchase agreements with a weighted
average borrowing rate of 2.41% and a weighted average remaining maturity of
approximately seven months. As of March 31, 2002, the repurchase agreements had
the following remaining maturities:
March 31,
2002
----------
(In Thousands)
Within 30 days $ 150,113
31 to 60 days 329,960
61 to 90 days 236,522
3 to 6 months 625,028
6 to 9 months 160,100
9 to 18 months 985,670
----------
$2,487,393
==========
The repurchase agreements are collateralized by the Company's MBS and
corporate debt securities, which had a carrying value of approximately $2.64
billion as of March 31, 2002. The Company's repurchase agreements generally bear
interest at rates that are LIBOR based.
10. Commitments and Contingencies
Securities purchase commitments
At March 31, 2002, there was a commitment to purchase a $25.0 million
Fannie Mae adjustable rate MBS which had a coupon of 5.40% at a purchase price
of 100.84% of par.
15
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
NOTES TO THE FINANCIAL STATEMENTS
(UNAUDITED)
11. Stockholders' Equity
(a) Dividends/Distributions
The following presents dividends declared by the Company from January 1,
2001 through March 31, 2002:
(1) Represents a special dividend declared, in addition to the
quarterly dividend.
(b) Common Stock Offering
On January 18, 2002, the Company issued 7,475,000 shares of its common
stock at $8.25 per share, raising net proceeds of approximately $58.2 million.
(c) Shelf Registration
On September 25, 2001, the Company filed a registration statement on Form
S-3 with the Securities and Exchange Commission under the Securities Act of
1933, as amended, (the "Act"), with respect to an aggregate of $300,000,000 of
common stock and/or preferred stock that may be sold by the Company from time to
time pursuant to Rule 415 under the Act. On October 5, 2001, the Commission
declared the registration statement effective. As of March 31, 2002, the Company
had approximately $174.3 million remaining under this shelf registration
statement.
(d) Stock Repurchase Plan
The Company did not repurchase any of its common stock during the three
months ended March 31, 2002. Since implementing the stock repurchase program
during the fourth quarter of 1999, through March 31, 2002, the Company had
repurchased and retired 378,221 shares at an aggregate cost of $1,924,000.
12. EPS Calculation
The following table presents the reconciliation between basic and diluted
shares outstanding used in calculating basic and diluted EPS for the three
months ended March 31, 2002 and 2001:
16
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
NOTES TO THE FINANCIAL STATEMENTS
(UNAUDITED)
13. Other Comprehensive Income/Accumulated Other Comprehensive Income
Comprehensive income for the three months ended March 31, 2002 and 2001
was as follows:
Accumulated other comprehensive income at March 31, 2002 and December 31, 2001
was as follows:
14. 1997 Stock Option Plan and Employment Agreements
(a) 1997 Stock Option Plan
The Company's 1997 Stock Option Plan, as amended (the "1997 Plan"),
authorizes the granting of options to purchase an aggregate of up to 1,400,000
shares of the Company's common stock, but not more than 10% of the total
outstanding shares of the Company's common stock. The Plan authorizes the Board
of Directors, or a committee of the Board of Directors, to grant Incentive Stock
Options ("ISOs"), as defined under section 422 of the Code, non-qualified stock
options ("NQSOs") and dividend equivalent rights ("DERs") to eligible persons.
The exercise price for any options granted to eligible persons under the 1997
Plan shall not be less than the fair market value of the common stock on the day
of the grant. The options expire if not exercised ten years from the date of
grant or upon certain other conditions.
DERs on the ISOs vest on the same basis as the options and DERs on NQSOs
become fully vested one year following the date of grant. Dividends are paid on
vested DERs only to the extent of ordinary income. DERs are not entitled to
distributions representing a return of capital. Dividends paid on DERs attached
to ISOs are charged to stockholders' equity when declared and dividends paid on
DERs attached to NQSOs are charged to earnings when declared. For the three
months ended March 31, 2002 and 2001, the Company recorded charges of $150,000
and $82,500, respectively, to stockholders' equity (included in dividends paid
or accrued) associated with the DERs on ISOs and charges of $1,125 and $825,
respectively, to earnings associated with DERs on NQSOs. As of March 31, 2002,
503,750 DERs were outstanding, all of which were fully vested.
17
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
NOTES TO THE FINANCIAL STATEMENTS
(UNAUDITED)
ISOs granted to the executive officers of the Company, who were also
employees of the Advisor, were accounted for under the fair value method
established under FAS 123, "Accounting for Stock Based Compensation" ("FAS 123")
resulting in option related expenses recognized over the vesting period.
Management used the Black-Scholes valuation model to determine the option
expense. Since the Company commenced operations in 1998, management used
assumptions consistent with activity of a comparable peer group of companies,
including an estimated option life, a volatility rate, a risk free rate and a
current dividend yield for the 1998 and 1999 grants (or 0% if the related DERs
are issued).
Effective January 1, 2002, the status of the employees of the Advisor
changed such that they became employees of the Company, resulting in a change in
status of these individuals. Accordingly, the unvested options outstanding as of
January 1, 2002 were treated as newly granted options to employees and accounted
for under the APB 25, with the difference between the fair market value of the
Company's common stock and option price expensed over the remaining vesting
period of approximately seven months. For the quarter ended March 31, 2002, the
Company recognized $24,000 of employee related compensation expense for stock
options and recognized $126,000 of stock option related expense for options
granted to non-employees for the quarter ended March 31, 2001.
NQSOs were granted to the Company's directors as consideration for the
performance of their duties as directors. The Company treated the directors as
employees for purposes of applying FAS 123 and, in accordance with its policy,
accounted for the NQSOs under APB 25, as described earlier, with no expense
recognized for the NQSOs, as the exercise price was equal to the market value of
the Company's common stock at the time of grant.
(b) Employment Agreements
Effective January 1, 2002, the Company assumed the employment agreements
with Messrs Zimmerman, Gorin and Freydberg that provide for, among other things,
base salaries of $300,000, $200,000 and $200,000 per year, respectively, a
minimum aggregate bonus pool of $265,000 and an additional annual bonus pool of
0.65% of additional equity capital that the Company raises.
On March 12, 2002, the Board of Directors adopted a proposal to
restructure the salaries and bonuses currently being paid to Messrs. Zimmerman,
Gorin and Freydberg. Specifically, the new compensation plan, which is scheduled
to take effect on August 1, 2002, provides that the salaries to be paid to
Messrs. Zimmerman, Gorin, and Freydberg will be equal to 0.25%, 0.20% and 0.20%,
respectively, of the Company's tangible net worth, which will be calculated on a
semi-annual basis on each June 30 and December 31. In the event that the
Company's annualized return on equity for any given six-month period were to
fall below 10%, the salaries to be paid to Messrs. Zimmerman, Gorin and
Freydberg with respect to the following six-month period would be adjusted
downward to equal (i) 0.2375%, 0.19% and 0.19%, respectively, of the Company's
tangible net worth if its annualized return on equity was between 10% and 5% and
(ii) 0.225%, 0.18% and 0.18%, respectively, of the Company's tangible net worth
if its annualized return on equity was less than 5%. Notwithstanding the
foregoing, the annual base salaries payable to Messrs. Zimmerman, Gorin and
Freydberg pursuant to the new compensation plan will in no event exceed
$1,000,000, $750,000 and $750,000, respectively. In addition, the new
compensation plan provides for a performance bonus to be paid to Messrs.
Zimmerman, Gorin and Freydberg based on the determination of the Compensation
Committee of the Board of Directors as to the amount, manner and timing of such
bonus payment. As a result of the adoption of the new compensation plan by the
Board of Directors, Messrs. Zimmerman, Gorin and Freydberg will no longer be
eligible to receive the bonus, which is currently provided for in their existing
employment contracts, equal to 0.65% of any additional equity capital that the
Company may raise. The Company also expects to enter into an employment
agreement with Ms. Teresa Covello, the Company's Senior Vice
President/Controller, that will provide for an annual salary of $140,000 and an
opportunity to earn a bonus, subject to approval by the Compensation Committee.
18
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
Item 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
The following discussion should be read in conjunction with all of the
financial statements and notes included in Item 1 of this Quarterly Report on
Form 10-Q as well as the Company's Annual Report on Form 10-K for the year ended
December 31, 2001.
GENERAL
America First Mortgage Investments, Inc. is primarily engaged in the
business of investing in adjustable rate MBS. The Company's investment portfolio
consists primarily of MBS guaranteed as to principal and interest by an agency
of the U.S. Government, such as Ginnie Mae, Fannie Mae or Freddie Mac
(collectively referred to as "Agency Securities"), and, to a lesser extent, high
quality MBS, rated in one of the two highest rating categories by at least one
nationally recognized rating agency. The Company's investment strategy also
provides for the acquisition of multi-family housing properties, securities in
real estate investment trust securities and high-yield corporate debt and equity
securities. The Company's principal business objective is to generate net income
for distribution to its stockholders resulting from the spread between the
interest and other income it earns on its investments and the cost of financing
such investments.
The Company has elected to be taxed as a REIT for federal income tax
purposes. Pursuant to the current federal tax regulations, one of the
requirements of maintaining its status as a REIT is that the Company must
distribute at least 90% of its annual taxable net income to its stockholders,
subject to certain adjustments.
The Company was incorporated in Maryland on July 24, 1997 and began
operations on April 10, 1998 when it merged with the Prep Funds. As a result of
the 1998 Merger, Prep Fund 1 and Prep Fund 2 were merged directly into the
Company and Pension Fund became a partnership subsidiary of the Company. In
December 1999, Pension Fund was liquidated and dissolved and, as a result, the
Company acquired approximately 99% of the assets of Pension Fund. The remaining
assets, consisting solely of cash, were distributed to the holders of Pension
Fund securities who elected to remain in place following the 1998 Merger. As a
result of the 1998 Merger, the Company issued a total of 9,035,084 shares of its
common stock to the former partners of the Prep Funds.
Following the completion of the 1998 Merger through December 31, 2001, the
Company was an externally advised and managed REIT. As such, the Company had no
employees and relied entirely on the Advisor to perform all of the duties that
are generally performed by internal management. Pursuant the Advisory Agreement,
the Advisor provided the day-to-day management of the Company's operations for a
fee, which was calculated on a quarterly basis. The Advisor was a subsidiary of
AFC.
On December 12, 2001, the Company's stockholders approved the terms of the
Advisor Merger Agreement, dated September 24, 2001, among the Company, the
Advisor, AFC and the stockholders of the Advisor which provided for the Advisor
Merger. The Advisor Merger became effective on January 1, 2002. As a result of
the Advisor Merger, the Company became a self-advised REIT and, as such, is no
longer be required to pay a fee to the Advisor under the Advisory Agreement, but
rather directly incurs all of the costs of operating the Company. In connection
with the Advisor Merger, the employees of the Advisor became employees of the
Company and the Company assumed the employment contracts of these individuals.
The Company also acquired all of the tangible and intangible business assets of
the Advisor.
The Company's core business strategy is to invest on a leveraged basis in
a portfolio of high-grade adjustable rate MBS, which primarily consist of Agency
MBS. Beginning in June 2001, the Company significantly began to increase its
asset base by leveraging equity raised through public offerings of the Company's
common stock. As a result, the Company has experienced significant growth in
interest income, interest expense and net interest income. The Company's total
assets grew to $2.76 billion at March 31, 2002 from $563 million at March 31,
2001. As of March 31, 2002, 98% of the Company's consisted of Agency MBS, AAA
rated MBS and cash. The Company also held interests in corporate and partnership
entities that owned six apartment properties, containing a total of 1,473 rental
units. Four of these apartment properties are located in Georgia, one is located
in North Carolina and one is located in Nebraska. In addition, the Company held
publicly-traded equity and debt securities valued at approximately $6.4 million.
19
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
The results of the Company's operations are affected by various factors,
many of which are beyond the control of the Company. The results of the
Company's operations primarily depend on, among other things, the level of its
net interest income, the market value of its assets and the supply of and demand
for such assets. The Company's net interest income varies primarily as a result
of changes in short-term interest rates, borrowing costs and prepayment rates,
the behavior of which involves various risks and uncertainties as set forth
below. Prepayment rates and interest rates vary according to the type of
investment, conditions in financial markets, competition and other factors, none
of which can be predicted with any certainty. In addition to these factors,
borrowing costs are further affected by the credit worthiness of the borrower.
Since changes in interest rates may significantly affect the Company's
activities, the operating results of the Company depend, in large part, upon the
ability of the Company to effectively manage its interest rate and prepayment
risks while maintaining its status as a REIT. The Company also has risks
inherent in its other investments, including its debt and equity securities,
interests in multi-family real estate properties and hedging instruments.
Because these investments represented less than 1.0% of the Company's total
assets at March 31, 2002, the risk relating to these assets is limited, but
nonetheless these investment have the potential of causing a material impact on
the Company's operating performance.
RESULTS OF OPERATIONS
Three Month Period Ended March 31, 2002 Compared to the Three Month Period Ended
March 31, 2001
Due to the significant growth in the Company's assets as well as the
completion of the Advisor Merger on January 1, 2002, the amount and components
of the Company's income and expenses for the quarter ended March 31, 2002 differ
significantly from those for the period ended March 31, 2001.
Net income increased to $9.6 million for the three months ended March 31,
2002, reflecting basic and diluted earnings per share of $.28, from $4.1
million, or basic earnings per common share of $0.47 ($0.46 per diluted share),
for the three months ended March 31, 2001. Comparing the first quarter of 2002
to the first quarter of 2001, the Company's core net revenue, comprised of net
interest income, increased by $11.4 million, or 483%, to $13.8 million for the
2002 period from $2.4 million for the 2001 period. This increase in net interest
income reflects the significant growth in the Company's balance sheet. In
addition, significant non-recurring items are reflected in the periods ended
March 31, 2002 and 2001. During the quarter ended March 31, 2002, the Company
recognized a charge of $3.5 million against its debt securities portfolio, due
to an other-than-temporary decline in market value of a corporate debt security.
In addition, during the first quarter of 2001, the Company realized a gain of
$2.6 million on the sale of an assisted living center; no such gain was realized
during the first quarter of 2002. For tax purposes, the proceeds of this sale
were reinvested and the gain deferred. Because the Company operates as a REIT,
the Company sets its dividend rates based on the Company's taxable income.
Neither the charge against earnings for the other-than-temporary decline in
value of the debt securities nor the gain on the sale of the assisted living
center affected the Company's taxable income because such gains/losses have not
been realized for tax purposes.
During the three months ended March 31, 2002, total interest and dividend
income increased $18.4 million, or 206%, to $27.3 million from $8.9 million for
the three months ended March 31, 2001. This increase reflects the significant
growth in the Company's interest earning assets which was funded through new
equity raised and the leveraging of that equity. The Company's average
interest-earning assets for the three months ended March 31, 2002 were $2.38
billion, compared to $529 million for the first quarter of 2001. The increase in
interest income generated by the growth in interest earning assets was partially
offset by a decrease in the yield on interest earning assets to 4.65% from 6.81%
for the comparable period in 2001.
The Company's interest expense on borrowed funds (i.e., repurchase
agreements) increased by $6.9 million, or 106.3%, to $13.5 million, for the
three months ended March 31, 2002, compared to $6.5 million for the first
quarter of 2001, reflecting the significant increase in borrowings. The increase
in interest expense related to the volume increase of repurchase agreements was
partially off-set by a reduction in the average rate paid for borrowings of
3.07%, to 2.55% for the first quarter of 2002 from 5.62% for the comparable 2001
period. The increase in borrowings was facilitated by the Company's increase in
equity generated from its common stock offerings during the second and third
calendar quarters of 2001 and the first quarter of 2002. (See Liquidity and
Capital Resources.)
The declining interest rate environment that began during 2001 has
benefited the Company, as the Company's interest bearing liabilities (i.e.,
repurchase agreements) have repriced more rapidly than its interest earning
assets. The Company's interest rate margin (i.e., annualized net interest and
dividend income divided by average interest
20
AMERICA FIRST MORTGAGE INVESTMENTS, INC.
earning assets) was 2.35% for the three months ended March 31, 2002, compared to
1.81% for the same period in 2001. The net interest rate spread improved to
2.10% for the first quarter of 2002, compared to 1.19% for the first quarter of
2001.
Income from other investments decreased by $2.9 million for the three
months ended March 31, 2002, compared to the first quarter of 2001. The first
quarter of 2001 included a non-recurring gain of $2.6 million from the sale, by
a non-consolidated limited partnership, of its undivided interest in the net
assets of an assisted living center. This gain, net of an incentive fee of
$511,000 paid to the Advisor, contributed income of $0.24 per common share for
the quarter ended March 31, 2001. In addition, the operating performance of the
Company's investment in multi-family apartment complexes decreased during the
first quarter of 2002, compared to the first quarter of 2001, reflecting a
softening of the Atlanta, Georgia rental market, where four of the six
properties in which the Company has investments are located. The Company's
investment in these properties was intended to compliment the performance of the
MBS portfolio, offering a degree of asset diversification. Given the significant
growth of the Company during 2001 and continuing into 2002, revenues generated
from the investments in the rental properties have become a relatively
insignificant component of the Company's revenue, as the investments in real
estate represented less than 1% of total assets as of March 31, 2002.
During the first quarter of 2002, the Company recognized a loss of $3.5
million, or $(0.10) per share, for an other-than-temporary impairment on its
corporate debt securities portfolio. This loss was entirely attributable to an
investment in the corporate debt securities of Level 3 Corporation. As of March
31, 2002, the Level 3 debt securities, which had a face value of $7.0 million
and amortized cost of $6.6 million, were carried at $3.1 million, reflecting a
$3.5 million write-down of the carrying value. Management will continue to
monitor its investment Level 3 and, if necessary, may take additional charges
against this investment. As of March 31, 2002, all of the Company's debt
securities were designated as available-for-sale, with temporary changes in
their market value included as a component of other comprehensive income. As of
March 31, 2002, the Company's aggregate investment in debt securities comprised
less than 1% of total assets. (See Note 5 to the Financial Statements).
During the quarter ended March 31, 2002, the Company realized gains of
$595,000 and losses of $181,000 on the sale of equity and mortgage-backed
securities. During the first quarter of 2001, the Company realized gains of
$44,000 and no losses on the sale of securities.
The Company's general and administrative expenses for the first quarter of
2002 for the first time since the Company began operations in 1998 reflected the
Company's direct operating expenses, as such the expenses incurred during the
first quarter of 2002 are not comparative with the expenses incurred during the
quarter ended March 31, 2001, which were almost exclusively comprised of a base
management fee and incentive fee, both of which were based on a formula, paid to
the Advisor. During the quarter ended March 31, 2001, the Company paid the
Advisor total fees of $962,000, of which $511,000 was attributed to a $2.6
million gain on the sale of a property. (See Note 7 to the Financial
Statements.) For the quarter ended March 31, 2002, the Company incurred $1.2
million of operating expenses of which, $793,000 related to employee
compensation and benefits, with the remainder representing general corporate
overhead, including rent on the Company's headquarters, corporate insurance,
professional fees and miscellaneous other operating costs.
LIQUIDITY AND CAPITAL RESOURCES
The Company's principal sources of liquidity consist of borrowings under
repurchase agreements, principal payments received on its portfolio of MBS, cash
flows generated by operations and proceeds from capital market transactions. The
Company's principal uses of cash include: purchases of MBS and, to a lesser
extent, may include investments in corporate debt and equity securities and
hedge instruments; payments for operating expenses; and the payment of dividends
on the Company's common stock.
Borrowings under repurchase agreements totaled $2.49 billion as of March
31, 2002, compared to $1.85 billion at December 31, 2001. This increase in
leverage was facilitated by the increase in the Company's capital as a result of
the public stock offering completed in January 2002. The proceeds from the sale
of the Company's common stock along with the incremental borrowings under
repurchase agreements were primarily used to purchase adjustable-rate Agency MBS
and, to a lesser extent, adjustable-rate AAA-rated MBS. At March 31, 2002, the
Company's repurchase agreements had a weighted average borrowing rate of 2.41%,
on loan balances of between $8.0 million and $527.3 million. Beginning in 2002,
the Company entered into repurchase agreements with terms to
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AMERICA FIRST MORTGAGE INVESTMENTS, INC.
maturity of up to 18 months; prior to that time the maximum term to maturity was
12 months at inception of the loan. These agreements generally have original
terms to maturity ranging from one month to 18 months and interest rates that
are typically based off of LIBOR. To date, the Company has not had any margin
calls on its repurchase agreements that it was unable to satisfy with either
cash or additional pledged collateral.
On January 18, 2002, the Company issued 7,475,000 shares of its common
stock, generating net proceeds of $58.2 million in a public offering. These
shares were issued at $8.25 per share, generating gross offering proceeds,
before expenses and underwriting fees, of $61.7 million. As of March 31, 2002,
the net proceeds were fully invested and fully leveraged, as reflected in the
Company's debt to equity ratio of 10 times tangible capital. Following the
completion of the January 2002 equity offering, the Company had $174.3 million
remaining on the shelf registration statement filed with the Securities and
Exchange Commission ("SEC") on September 25, 2001 relating to $300 million of
its common stock and preferred stock.
To the extent the Company raises additional equity capital from future
sales of common and/or preferred stock pursuant to its shelf registration
statement, the Company anticipates using the net proceeds primarily to acquire
additional adjustable rate MBS. Management may also consider additional
interests in multi-family apartment properties and other investments consistent
with its operating policies. There can be no assurance, however, that the
Company will be able to raise additional equity capital at any particular time
or on any particular terms.
During the quarter ended March 31, 2002, principal payments on MBS
generated cash of $280.5 million and operations provided a net of $13.6 million
in cash. In addition, during the first quarter of 2002, the Company received
proceeds of $3.2 million from the sale of corporate equity securities and $4.6
million from the sale of MBS.
As part of its core investing activities, during the first quarter of
2002, the Company acquired $1.01 billion of MBS, all of which were either Agency
or AAA rated adjustable rate or hybrid MBS. Other uses of funds during the
quarter included payments of $7.7 million for dividends declared on the
Company's common stock.
In order to reduce interest rate risk exposure on a portion of the
Company's LIBOR-based repurchase agreements during the quarter ended March 31,
2002, the Company entered into additional interest rate Cap Agreements, with an
aggregate cost of $1.5 million. A Cap Agreement will generate cash if the market
interest rate specified in the Cap Agreement (i.e., LIBOR) increase beyond the
rate specified in the Cap Agreement. The timing and amount of such cash flows,
if any, cannot be predicted.
The Company's restricted cash balance represents cash held on deposit with
certain counterparties (i.e., lenders) to satisfy margin calls on repurchase
agreements. The margin calls result from the decline in the value of the MBS
securing repurchase agreements, generally due to principal reduction in the MBS
from scheduled amortization and prepayments. At the time a repurchase agreement
rolls, the Company will apply the restricted cash against the repurchase
agreement, thereby reducing the borrowing.
The Company believes it has adequate financial resources to meet its
obligations as they come due and to fund committed dividends as well as to
actively pursue its investment policies.
OTHER MATTERS
The Company at all times intends to conduct its business so as to not
become regulated as an investment company under the Investment Company Act of
1940, as amended (the "Investment Company Act"). If the Company were to become
regulated as an investment company, then, among other things, the Company's
ability to use leverage would be substantially reduced. The Investment Company
Act exempts entities that are "primarily engaged in the business of purchasing
or otherwise acquiring mortgages and other liens on and interests in real
estate" (i.e. "Qualifying Interests"). Under the current interpretation of the
staff of the SEC, in order to qualify for this exemption, the Company must
maintain at least 55% of its assets directly in Qualifying Interests. In
addition, unless certain mortgage securities represent an undivided interest in
the entire pool backing such mortgage securities (i.e., "whole pool" mortgage
securities), such mortgage securities may be treated as securities separate from
the underlying mortgage loan, thus, may not be considered Qualifying Interests
for purposes of the 55% exemption requirement. Accordingly, the Company monitors
its compliance with this requirement in order to maintain its exempt status. As
of March 31, 2002, the Company determined that it was in and has maintained
compliance with this requirement.
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AMERICA FIRST MORTGAGE INVESTMENTS, INC.
INFLATION
Virtually all of the Company's assets and liabilities are financial in
nature. As a result, interest rates and other factors drive our performance far
more than does inflation. Changes in interest rates do not necessarily correlate
with inflation rates and changes in inflation rates. Our financial statements
are prepared in accordance with Generally Accepted Accounting Principles and our
dividends are based upon our net income as calculated for tax purposes; in each
case, our activities and balance sheet are measured with reference to historical
cost or fair market value without considering inflation.
FORWARD LOOKING STATEMENTS
When used in this Quarterly Report on Form 10-Q, in future SEC filings, or
in press releases or other written or oral communications, the words or phrases
"will likely result," "are expected to," "will continue," "is anticipated,"
"estimate," "project" or similar expressions are intended to identify
"forward-looking statements" for purposes of Section 27A if the Securities Act
of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as
amended and as such may involve known and unknown risks, uncertainties and
assumptions.
These forward-looking statements are subject to various risks and
uncertainties, including, but not limited to, those relating to: increases in
the prepayment rates on the mortgage loans securing the Company's MBS; changes
in short-term interest rates; the Company's ability to use borrowings to finance
its assets; risks associated with investing in real estate, including changes in
business conditions and the general economy; changes in government regulations
affecting the Company's business; and the Company's ability to maintain its
qualification as a REIT for federal income tax purposes. These risks,
uncertainties and factors could cause the Company's actual results to differ
materially from those projected in any forward-looking statements it makes.
All forward-looking statements speak only as the date they are made and
the Company does not undertake, and specifically disclaims, any obligation to
update any forward-looking statement to reflect events or circumstances after
the date of such statements. Readers are cautioned that the Company's actual
results could differ materially from those set forth in such forward-looking
statements.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
As of March 31, 2002, the weighted average term to repricing of the
Company MBS portfolio was approximately 18 months, with approximately 40% of MBS
repricing within the next 12 months; 16% repricing within the next 24 months and
44% repricing within the next 36 months. The repurchase agreements funding these
assets, which range in term from one to 18 months at origination, has a weighted
average term to maturity of approximately seven months as of March 31, 2002.
The Company entered into Cap Agreements with an aggregate notional amount
of $100 million during the quarter ended March 31, 2002. These agreements are
intended to serve as a hedge against future rate increases in interest rates on
the Company's LIBOR-based repurchase agreements. The Company had interest rate
Cap Agreements totaling $150.0 million as of March 31, 2002. (See Note 9 to the
Financial Statements)
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AMERICA FIRST MORTGAGE INVESTMENTS, INC.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
There are no material pending legal proceedings to which the Company is a
party or any of its assets are subject.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
2.1 Agreement and Plan of Merger by and among the Registrant, America
First Participating/Preferred Equity Mortgage Fund Limited Partnership,
America First Prep Fund 2 Limited Partnership, America First Prep Fund 2
Pension Series Limited Partnership and certain other parties, dated as of
July 29, 1997 (incorporated herein by reference to Exhibit 2.1 of the
Registration Statement on Form S-4 dated February 12, 1998, filed by the
Registrant pursuant to the Securities Act of 1933 (Commission File No.
333-46179)).
2.2 Agreement and Plan of Merger by and among the Registrant, America
First Mortgage Advisory Corporation ("AFMAC") and the shareholders of
AFMAC, dated September 24, 2001 (incorporated herein by reference to
Exhibit A of the Preliminary Proxy Statement dated October 9, 2001, filed
by the Registrant pursuant to the Securities Exchange Act of 1934.
(Commission File No. 1-13991)).
3.1 Amended and Restated Articles of Incorporation of the Company
(incorporated herein by reference to Form 8-K dated April 10, 1998, filed
by the Registrant pursuant to the Securities Exchange Act of 1934
(Commission File No. 1-13991)).
3.2 Amended and Restated Bylaws of the Registrant.
4.1 Specimen of Common Stock Certificate of the Company (incorporated
herein by reference to Exhibit 4.1 of the Registration Statement on Form
S-4, dated February 12, 1998, filed by the Registrant pursuant to the
Securities Act of 1933 (Commission File No. 333-46179)).
10.1 Employment Agreement of Stewart Zimmerman (incorporated herein by
reference to Exhibit 10.2 of the Registration Statement on Form S-4, dated
February 12, 1998, filed by the Company pursuant to the Securities Act of
1933 (Commission File No. 333-46179)).
10.2 Employment Agreement of William S. Gorin (incorporated herein by
reference to Exhibit 10.3 of the Registration Statement on Form S-4, dated
February 12, 1998, filed by the Company pursuant to the Securities Act of
1933 (Commission File No. 333-46179)).
10.3 Employment Agreement of Ronald A. Freydberg (incorporated herein by
reference to Exhibit 10.4 of the Registration Statement on Form S-4, dated
February 12, 1998, filed by the Company pursuant to the Securities Act of
1933 (Commission File No. 333-46179)).
10.4 Addendum to Employment Agreement of Stewart Zimmerman (incorporated
herein by reference to Form 10-Q, dated March 31, 2000, filed with the
Securities and Exchange Commission pursuant to the Securities Exchange Act
of 1934 (Commission File No. 1-13991)).
10.6 Addendum to Employment Agreement of William S. Gorin (incorporated
herein by reference to Form 10-Q, dated March 31, 2000, filed with the
Securities and Exchange Commission pursuant to the Securities Exchange Act
of 1934 (Commission File No. 1-13991)).
10.7 Addendum to Employment Agreement of Ronald A. Freydberg (incorporated
herein by reference to Form 10-Q, dated March 31, 2000, filed with the
Securities and Exchange Commission pursuant to the Securities Exchange Act
of 1934 (Commission File No. 1-13991)).
10.8 Third Addendum to Employment Agreement of Stewart Zimmerman, dated
October 15, 2001 (incorporated herein by reference to the Form 10-K, filed
with the Securities and Exchange Commission pursuant to the Securities
Exchange Act of 1934 (Commission File No. 1-13991)).
10.9 Third Addendum to Employment Agreement of William S. Gorin, dated
October 15, 2001
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AMERICA FIRST MORTGAGE INVESTMENTS, INC.
(incorporated herein by reference to the Form 10-K, filed with the
Securities and Exchange Commission pursuant to the Securities Exchange Act
of 1934 (Commission File No. 1-13991)).
10.10 Third Addendum to Employment Agreement of Ronald A. Freydberg, dated
October 15, 2001 (incorporated herein by reference to the Form 10-K, filed
with the Securities and Exchange Commission pursuant to the Securities
Exchange Act of 1934 (Commission File No. 1-13991)).
10.11 Amended and Restated 1997 Stock Option Plan of the Company
(incorporated herein by reference to Form 10-K, dated December 31, 1999,
filed with the Securities and Exchange Commission pursuant to the
Securities Exchange Act of 1934 (Commission File No. 1-13991)).
10.12 Second Amended and Restated 1997 Stock Option Plan of the Company
(incorporated herein by reference to the Form 10-Q, dated August 10, 2001,
filed with the Securities and Exchange Commission pursuant to the
Securities Exchange Act of 1934 (Commission File No. 1-13991)).
Reports on Form 8-K
The Registrant filed a Current Report on Form 8-K on January 15,
2002 disclosing certain information under Item 5, "Other Events" relating to the
Company's January 2002 public offering of common stock.
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AMERICA FIRST MORTGAGE INVESTMENTS, INC.
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.
Dated: May 14, 2002 AMERICA FIRST MORTGAGE INVESTMENTS, INC.
By /s/ Stewart Zimmerman
Stewart Zimmerman
President and Chief Executive Officer
By /s/ William S. Gorin
William S. Gorin
Executive Vice President Chief Financial Officer/Treasurer
(Principal Accounting Officer)
26