UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended: September 30, 2001
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Commission file number: 1-12639
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CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
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(Exact name of registrant as specified in its charter)
Maryland 94-3254883
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(State or other jurisdiction (I.R.S. Employer Identification No.)
of incorporation or organization)
200 Crescent Court, Suite 1350, Dallas, Texas 75201
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(Address of principal executive offices) (Zip Code)
214-871-5131
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(Registrant's telephone number, including area code)
N/A
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(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. X Yes No
--- -----
The number of shares outstanding of registrant's $0.01 par value common
stock, as of the close of business on October 31, 2001: 1,000 shares.
CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
THIRD QUARTER 2001 REPORT ON FORM 10-Q
TABLE OF CONTENTS
PAGE NO.
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PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Unaudited Balance Sheets
September 30, 2001 and December 31, 2000..................................................... 3
Unaudited Statements of Income
Nine months ended September 30, 2001 and 2000................................................ 4
Unaudited Statements of Income
Three months ended September 30, 2001 and 2000............................................... 5
Unaudited Statement of Stockholders' Equity
Nine months ended September 30, 2001......................................................... 6
Unaudited Statements of Cash Flows
Nine months ended September 30, 2001 and 2000................................................ 7
Notes to Unaudited Financial Statements...................................................... 8
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations................................................ 10
Item 3. Quantitative and Qualitative Disclosures About Market Risk................................... 15
PART II. OTHER INFORMATION
Item 1. Legal Proceedings............................................................................ 16
Item 6. Exhibits and Current Reports on Form 8-K..................................................... 16
Signature............................................................................................. 17
2
CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
BALANCE SHEETS
September 30, 2001 and December 31, 2000
(Unaudited)
(dollars in thousands, except per share data)
September 30, December 31,
ASSETS 2001 2000
------ ---- ----
Residential mortgage loans, net $ 953,065 $ 970,398
Cash and cash equivalents 23,993 8,526
Due from affiliates 34,685 15,109
Accrued interest receivable 5,059 5,615
Foreclosed real estate, net 63 569
----------- -----------
TOTAL ASSETS $ 1,016,865 $ 1,000,217
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Due to affiliates $ 419 $ 56
Accounts payable and accrued liabilities 291 310
----------- -----------
Total Liabilities 710 366
----------- -----------
Commitments and contingencies -- --
Stockholders' Equity:
Preferred stock, par value $0.01 per share, liquidation preference $500,000,
30,000,000 shares authorized, 20,000,000 shares
issued and outstanding 500,000 500,000
Common stock, par value $0.01 per share, 30,000,000 shares authorized,
1,000 shares issued and outstanding -- --
Additional paid-in capital 500,000 500,000
Retained earnings (accumulated deficit) 16,155 (149)
----------- -----------
Total Stockholders' Equity 1,016,155 999,851
----------- -----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 1,016,865 $ 1,000,217
=========== ===========
See accompanying notes to unaudited financial statements.
3
CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
STATEMENTS OF INCOME
Nine Months Ended September 30, 2001 and 2000
(Unaudited)
(in thousands)
2001 2000
---- ----
INTEREST INCOME
Residential mortgage loans $ 52,690 $53,802
Less: servicing fee expense (2,734) (2,732)
-------- -------
49,956 51,070
Short-term investments 663 811
-------- -------
Interest income, net of servicing fee expense 50,619 51,881
NONINTEREST EXPENSE
Director fees 65 44
Professional fees 57 56
Foreclosed real estate operations, net (64) (139)
Other 38 86
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Total noninterest expense 96 47
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NET INCOME 50,523 51,834
Preferred stock dividends 34,219 34,219
-------- -------
NET INCOME AVAILABLE TO COMMON STOCKHOLDER $ 16,304 $17,615
======== =======
See accompanying notes to unaudited financial statements.
4
CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
STATEMENTS OF INCOME
Three Months Ended September 30, 2001 and 2000
(Unaudited)
(in thousands)
2001 2000
---- ----
INTEREST INCOME
Residential mortgage loans $ 16,638 $18,225
Less: servicing fee expense (895) (915)
-------- -------
15,743 17,310
Short-term investments 217 364
-------- -------
Interest income, net of servicing fee expense 15,960 17,674
NONINTEREST EXPENSE
Director fees 51 34
Professional fees 20 14
Foreclosed real estate operations, net (17) (20)
Other 6 5
-------- -------
Total noninterest expense 60 33
-------- -------
NET INCOME 15,901 17,641
Preferred stock dividends 11,406 11,406
-------- -------
NET INCOME AVAILABLE TO COMMON STOCKHOLDER $ 4,494 $ 6,235
======== =======
See accompanying notes to unaudited financial statements.
5
CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
STATEMENT OF STOCKHOLDERS' EQUITY
Nine Months Ended September 30, 2001
(Unaudited)
(dollars in thousands)
Retained
Additional Earnings Total
Preferred Common Paid-in (Accumulated Stockholders'
Stock Stock Capital Deficit) Equity
----- ----- ------- -------- ------
BALANCE AT DECEMBER 31, 2000 $500,000 $ -- $500,000 $ (149) $ 999,851
Net income -- -- -- 50,523 50,523
Dividends paid on 9 1/8% noncumulative
Exchangeable preferred stock, series A -- -- -- (34,219) (34,219)
-------- ------- -------- -------- ----------
BALANCE AT SEPTEMBER 30, 2001 $500,000 $ -- $500,000 $ 16,155 $1,016,155
======== ======= ======== ======== ==========
See accompanying notes to unaudited financial statements.
6
CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
STATEMENTS OF CASH FLOWS
Nine Months Ended September 30, 2001 and 2000
(Unaudited)
(in thousands)
2001 2000
---- ----
OPERATING ACTIVITIES:
Net income $ 50,523 $ 51,834
Adjustments to reconcile net income to net cash provided by operating activities:
Amortization of purchase discounts and premiums, net 2,043 704
Interest capitalized on negatively amortizing loans (60) (80)
Gain on sales of foreclosed real estate, net (64) (139)
(Increase)/decrease in due from affiliates (44) 470
Decrease/(increase) in accrued interest receivable 1,527 (342)
(Decrease)/increase in accounts payable and accrued liabilities (19) 48
Increase/(decrease) in due to affiliates 363 (35)
-------- --------
Net cash provided by operating activities 54,269 52,460
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INVESTING ACTIVITIES:
Purchase of mortgage loans (263,618) (122,233)
Mortgage loan principal repayments 259,358 120,665
Purchase of accrued interest receivable (971) (527)
Proceeds from sales of foreclosed real estate 648 1,142
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Net cash used in investing activities (4,584) (953)
-------- --------
FINANCING ACTIVITIES:
Common stock dividends paid -- (3,500)
Preferred stock dividends paid (34,219) (34,219)
-------- --------
Net cash used in financing activities (34,219) (37,719)
-------- --------
NET INCREASE IN CASH AND CASH EQUIVALENTS 15,467 13,788
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 8,526 5,485
-------- --------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 23,993 $ 19,273
======== ========
Supplemental disclosure of cash flow information:
Non-cash investing activities:
Mortgage loan principal reductions due to foreclosure (11) 47
Mortgage loan principal (decrease) increase for timing difference between
principal repayments received by servicer and related cash received
by Company during the period $(19,532) $ 7,621
See accompanying notes to unaudited financial statements.
7
CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
NOTES TO UNAUDITED FINANCIAL STATEMENTS
(1) Basis of Presentation
The accompanying financial statements of California Federal Preferred
Capital Corporation (the "Company") were prepared in accordance with
accounting principles generally accepted in the United States of America
for interim financial information and the requirements of Regulation S-X,
Article 10 and therefore do not include all disclosures necessary for
complete financial statements. In the opinion of management, all
adjustments have been made that are necessary for a fair presentation of
the financial position and results of operations and cash flows as of and
for the periods presented. All such adjustments are of a normal recurring
nature. The results of operations for the nine months ended September 30,
2001 are not necessarily indicative of the results that may be expected for
the entire fiscal year or any other interim period. Certain amounts from
prior periods have been reclassified to conform with the current period's
presentation.
The accompanying financial statements should be read in conjunction with
the financial statements included in the Company's Annual Report on Form
10-K for the year ended December 31, 2000. All terms used but not defined
elsewhere herein have meanings ascribed to them in the Company's Annual
Report on Form 10-K.
As the Company's common stock is wholly owned by California Federal Bank
(the "Bank"), earnings per share data is not presented.
(2) Residential Mortgage Loans, Net
At September 30, 2001 and December 31, 2000, residential mortgage loans,
net, consisted of the following (in thousands):
September 30, December 31,
2001 2000
---- ----
1-4 unit residential mortgage loans $ 952,796 $ 971,145
Purchase discounts and premiums, net 7,923 6,894
Allowance for loan losses (7,654) (7,641)
--------- ---------
Total residential mortgage loans, net $ 953,065 $ 970,398
========= =========
Residential mortgage loans consist primarily of adjustable rate mortgages
("ARMs") which adjust periodically based on changes in various indices
including the FHLB Eleventh District Cost of Funds, the one-year Treasury
rate and the six-month Treasury rate. Certain types of residential mortgage
loans contain an option for the mortgagor to convert the ARM to a fixed
rate loan for the remainder of the term. Included in residential mortgage
loans are hybrid ARMs, which have an initial three or five-year fixed rate
period, followed by annual interest rate adjustments. As of September 30,
2001 and December 31, 2000, approximately 53% and 46%, respectively, of
residential mortgage loans consisted of such hybrid ARMs.
(3) Dividends
Holders of Series A Preferred Shares (as defined herein) are entitled to
receive, if, when and as authorized and declared by the Board of Directors
of the Company out of funds legally available, noncumulative dividends at a
rate of 9 1/8% per annum of the initial liquidation preference ($25.00 per
share). Dividends on the Series A Preferred Shares, if authorized and
declared, are payable quarterly in arrears on the last day of March, June,
September and December. Dividends paid during each of the nine month
periods ended September 30, 2001 and 2000 to the holders of the Series A
Preferred Shares totalled approximately $34.2 million.
Dividends on common stock are paid if, when and as authorized and declared
by the Board of Directors out of funds legally available after all
preferred dividends have been paid. There were no common stock dividends
paid during the nine months ended September 30, 2001. For the nine months
ending September 30, 2000, common stock dividends of $3.5 million were
paid.
8
CALIFORNIA FEDERAL PREFERRED CAPITAL CORPORATION
NOTES TO UNAUDITED FINANCIAL STATEMENTS
(4) Related Party Transactions
The Company entered into a servicing agreement with First Nationwide
Mortgage Corporation ("FNMC") pursuant to which FNMC performs the actual
servicing of the residential mortgage loans held by the Company in
accordance with normal industry practice (the "Servicing Agreement"). The
Servicing Agreement can be terminated without cause with at least 30 days
prior written notice to FNMC and payment to FNMC of a termination fee equal
to 2% of the outstanding principal balances of the loans. The servicing fee
ranges from 0.25% to 0.50% per year of the outstanding principal balances.
Servicing fee expense paid totalled $2.7 million for each of the nine
months ended September 30, 2001 and 2000. Servicing fee expense paid
totalled $895,000 and $915,000 for the three months ended September 30,
2001 and 2000, respectively. FNMC is also entitled to a 1% disposition fee
on the aggregate proceeds obtained in the sale of a defaulted residential
mortgage loan. The Company recorded such disposition fees totalling
approximately $5,000 and $11,000 during the nine months ended September 30,
2001 and 2000, respectively. The Company recorded such disposition fees
totalling approximately $550 and $1,000 during the three months ended
September 30, 2001 and 2000, respectively. These disposition fees are
included in other noninterest expense in the accompanying statements of
income.
In its capacity as servicer, FNMC holds mortgage loan payments received on
behalf of the Company in a custodial account at the Bank. The balance of
this account totalled approximately $34.7 million and $15.1 million at
September 30, 2001 and December 31, 2000, respectively, and is included in
due from affiliates. Substantially all of such payments were passed through
to the Company in October 2001 and January 2001, respectively, as provided
in the Servicing Agreement. At September 30, 2001 and December 31, 2000,
trust funds of approximately $2.4 million and $1.4 million, respectively,
representing escrows received from borrowers, were on deposit in a trust
account at the Bank and are not included in the accompanying financial
statements.
As of September 30, 2001 and December 31, 2000, the Company owed the Bank
approximately $419,000 and $56,000, respectively, in connection with the
settlement of loans purchased from the Bank, advances related to foreclosed
real estate and expenses incurred by the Company to be reimbursed to the
Bank. These amounts were paid to the Bank during October 2001 and January
2001, respectively.
(5) Newly Issued Accounting Pronouncements
Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities
On September 29, 2000, the FASB issued Statement of Financial Accounting
Standards No. 140, Accounting for Transfers and Servicing of Financial
Assets and Extinguishments of Liabilities ("SFAS No. 140"). SFAS No. 140
replaces SFAS No. 125, which was issued in June of 1996. It revises the
standards for accounting for securitizations and other transfers of
financial assets and collateral and requires certain disclosures, but it
carries over most of the provisions of SFAS No. 125 without
reconsideration. In general, SFAS No. 140 was effective for transfers of
financial assets occurring after March 31, 2001 and for disclosures
relating to securitization transactions and collateral for fiscal years
ending after December 15, 2000.
The implementation of SFAS No. 140 did not materially impact the Company's
financial results.
Recognition of Interest Income and Impairment on Purchased and Returned
Beneficial Interests in Securitized Financial Assets
On September 21, 2000, the Emerging Issues Task Force ("EITF") issued EITF
No. 99-20, Recognition of Interest Income and Impairment on Purchased and
Retained Beneficial Interests in Securitized Financial Assets ("EITF No.
99-20"). This document, which was effective on April 1, 2001, establishes
guidance for (1) recognizing interest income (including amortization of
premiums or discounts) on (a) all credit-sensitive mortgage and
asset-backed securities and (b) certain prepayment-sensitive securities
including agency interest-only strips and (2) determining when these
securities must be written down to fair value because of impairment.
Existing GAAP did not provide interest recognition and impairment guidance
for securities on which cash flows change as a result of both prepayments
and credit losses and, in some cases, interest rate adjustments.
The implementation of EITF No. 99-20 did not materially impact the
Company's financial results.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Forward-Looking Statements. This Report contains forward-looking statements,
within the meaning of the Private Securities Litigation Reform Act of 1995, that
pertain to our future operating results. Words such as "anticipate," "believe,"
"expect," "intend," and other similar expressions are intended to identify these
statements. Forward-looking statements are not historical facts and are
inherently subject to significant business, economic and competitive
uncertainties and contingencies, many of which are beyond our control. Our
actual results could differ materially from those in the forward-looking
statements due to such factors as (i) the Company's dependence upon the
operations of its affiliated servicer and upon the financial condition and
operations of its parent, California Federal Bank; (ii) regulatory restrictions
on the Company's operations; (iii) interest rate changes; (iv) declines in real
estate values and increases in uncollected or uncollectable mortgage loans; (v)
the concentration of the Company's portfolio in loans secured by residential
properties located in California; (vi) the inclusion of high balance mortgage
loans in the Company's portfolio; (vii) changes made by the Company's Board of
Directors in the Company's investment and operating policies and strategies,
including whether or not to incur indebtedness; and (viii) failure to qualify as
a real estate investment trust for federal income tax purposes. In January 1997,
we filed an S-11 Registration Statement with the SEC that discusses these
factors in greater detail. We assume no obligation to update any of our
forward-looking statements.
FINANCIAL HIGHLIGHTS
The following information is presented as of September 30, 2001 and for the nine
and three months ended September 30, 2001 and 2000 (dollars in thousands):
2001 2000
---- ----
Statements of Income - Nine Months Ended September 30:
Net interest income $ 50,619 $ 51,881
Net income $ 50,523 $ 51,834
Average yield on mortgage loans 6.69% 6.86%
Statements of Income - Three Months Ended September 30:
Net interest income $ 15,960 $ 17,674
Net income $ 15,901 $ 17,641
Average yield on mortgage loans 6.31% 6.98%
Balance Sheet as of September 30, 2001:
Residential mortgage loans, net $ 953,065 $ 975,804
Total assets $1,016,865 $1,010,650
Total stockholders' equity $1,016,155 $1,010,296
OVERVIEW
The Company's principal business objective is to acquire, hold and manage
residential mortgage loans that will generate net income for distribution to
stockholders. The Company currently intends to invest in residential mortgage
loans only. The Company's current policy prohibits the acquisition of any
mortgage loan which is delinquent at the time of the proposed acquisition or
which meets certain criteria for non-performance during the preceding 12 months.
The Company currently expects that substantially all of the residential mortgage
loans to be acquired will be conventional or hybrid adjustable rate loans;
however, the Company may from time to time acquire fixed interest rate
residential mortgage loans. The Company anticipates it will continue to acquire
all of its residential mortgage loans from the Bank or affiliates of the Bank as
whole loans secured by first mortgages or deeds of trust on 1-4 unit residential
real estate properties, although mortgage loans may be acquired from
unaffiliated third parties. The Company may from time to time acquire fixed rate
or variable rate mortgage-backed securities issued or guaranteed by agencies of
the federal government or government sponsored agencies. The mortgage loans
underlying the mortgage-backed securities will be secured by single-family
residential, multifamily or commercial real estate properties located throughout
the United States.
10
On January 31, 1997, the Company commenced its operations upon the initial
public offering of 20,000,000 shares of the Company's 9 1/8% Noncumulative
Exchangeable Preferred Stock, Series A (the "Series A Preferred Shares"), which
raised $500 million. The Series A Preferred Shares are traded on the New York
Stock Exchange under the trading symbol "CFP." Concurrent with the sale of the
Series A Preferred Shares, the Bank contributed additional capital of $500
million to the Company. All common shares are held by the Bank.
RESULTS OF OPERATIONS
Nine months ended September 30, 2001 versus nine months ended September 30, 2000
Net Income. The Company reported net income for the nine months ended September
30, 2001 of $50.5 million compared with net income of $51.8 million for the
corresponding period in 2000. This decrease in 2001 compared with 2000 is
attributable to a decrease in net interest income.
During each of the nine month periods ended September 30, 2001 and 2000, the
Company declared and paid dividends of $34.2 million on the outstanding Series A
Preferred Shares. Net income available to the common stockholder for the nine
months ended September 30, 2001 and 2000 totalled $16.3 million and $17.6
million, respectively. There were no common stock dividends paid during the nine
months ended September 30, 2001. During the nine months ending September 30,
2000, common stock dividends of $3.5 million were paid.
Net Interest Income. The Company reported interest income, net of servicing fee
expense, for the nine months ended September 30, 2001 of $50.6 million, a
decrease of $1.3 from the $51.9 million reported for the nine month period ended
September 30, 2000. This decrease in interest income is attributed to a lower
average yield on the residential mortgage loan portfolio. The lower yield of
6.69% on residential mortgage loans during the nine month period ended September
30, 2001 as compared to the 6.86% yield for the same period in 2000 is primarily
due to the lagging effect of the repricing of variable rate loans at lower rates
and also to the purchase of new loans at lower current market rates. The average
outstanding balance of residential mortgage loans during the nine month period
ended September 30, 2001 was $2.6 million higher than during the same period in
2000. Interest income, net of servicing fee expense, during the nine months
ended September 30, 2001 is comprised of $50.0 million ($52.7 million gross
interest less $2.7 million servicing fee expense) from residential mortgage
loans and $663,000 from short-term investments, representing an average yield
after servicing fees on residential mortgage loans of 6.69% and on earning
assets of 6.64%, based on average outstanding asset balances of $995.3 million
and $1,017.1 million, respectively. Interest income, net of servicing fee
expense, during the nine months ended September 30, 2000 is comprised of $51.1
million ($53.8 million gross interest less $2.7 million servicing fee expense)
from residential mortgage loans and $811,000 from short-term investments,
representing an average yield after servicing fees on residential mortgage loans
of 6.86% and on earning assets of 6.84%, based on average outstanding asset
balances of $992.7 million and $1,011.5 million, respectively.
The computation of the average yield on residential mortgage loans and on
earning assets is based on daily average outstanding asset balances that include
nonaccruing loans and the amount of principal payments collected by FNMC but not
yet remitted to the Company, which is included in due from affiliates on the
balance sheets.
Provision for Loan Losses. The Company recorded no provision for loan losses in
either of the nine month periods ended September 30, 2001 and 2000. The
determination to record no provision for loan losses during these periods is the
result of management's evaluation of the adequacy of the allowance for loan
losses based on, among other things, the Bank's and the Company's past loan loss
experience, known and inherent risks in the residential mortgage loan portfolio,
adverse situations that have occurred but are not yet known and that may affect
the borrower's ability to repay, the estimated value of the underlying
collateral, and economic conditions.
Three months ended September 30, 2001 versus three months ended September 30,
2000
Net Income. The Company reported net income for the three months ended September
30, 2001 of $15.9 million compared with net income of $17.6 million for the
corresponding period in 2000. This decrease in 2001 compared with 2000 is
attributable to a decrease in net interest income.
During each of the three month periods ended September 30, 2001 and 2000, the
Company declared and paid dividends of $11.4 million on the outstanding Series A
Preferred Shares. Net income available to the common stockholder for the three
months ended September 30, 2001 and 2000 totalled $4.5 million and $6.2 million,
respectively. There were no common stock dividends paid during the three months
ended September 30, 2001. For the three months ending September 30, 2000, common
stock dividends of $3.5 million were paid.
11
Net Interest Income. The Company reported interest income, net of servicing fee
expense, for the three months ended September 30, 2001 of $16.0 million, a
decrease of $1.7 million from the $17.7 million reported for the three month
period ended September 30, 2000. This decrease in interest income is attributed
to a lower average yield on the residential mortgage loan portfolio. The lower
yield of 6.31% on residential mortgage loans during the three month period ended
September 30, 2001 as compared to the 6.98% yield for the same period in 2000 is
primarily due to the repricing of variable rate loans at lower rates during 2001
and the purchase of new loans at lower current market rates. The average
outstanding balance of residential mortgage loans during the three month period
ended September 30, 2001 was $5.7 million higher than during the same period in
2000. Interest income, net of servicing fee expense, during the three months
ended September 30, 2001 is comprised of $15.7 million ($16.6 million gross
interest less $900,000 servicing fee expense) from residential mortgage loans
and $217,000 from short-term investments, representing an average yield after
servicing fees on residential mortgage loans of 6.31% and on earning assets of
6.22%, based on average outstanding asset balances of $998.2 million and
$1,025.6 million, respectively. Interest income, net of servicing fee expense,
during the three months ended September 30, 2000 is comprised of $17.3 million
($18.2 million gross interest less $915,000 servicing fee expense) from
residential mortgage loans and $364,000 from short-term investments,
representing an average yield after servicing fees on residential mortgage loans
of 6.98% and on earning assets of 6.96%, based on average outstanding asset
balances of $992.5 million and $1,015.4 million, respectively.
The computation of the average yield on residential mortgage loans and on
earning assets is based on daily average outstanding asset balances that include
nonaccruing loans and the amount of principal payments collected by FNMC but not
yet remitted to the Company, which is included in due from affiliates on the
balance sheets.
Provision for Loan Losses. The Company recorded no provision for loan losses in
either of the three month periods ended September 30, 2001 and 2000. The
determination to record no provision for loan losses during these periods is the
result of management's evaluation of the adequacy of the allowance for loan
losses based on, among other things, the Bank's and the Company's past loan loss
experience, known and inherent risks in the residential mortgage loan portfolio,
adverse situations that have occurred but are not yet known and that may affect
the borrower's ability to repay, the estimated value of the underlying
collateral, and economic conditions.
RESIDENTIAL MORTGAGE LOANS
The Company reinvests principal collections in additional residential mortgage
loans purchased from either the Bank or its affiliates on a periodic basis.
It is the Company's policy to place a loan on nonaccrual when a borrower is 90
days or more delinquent. There were no accruing loans contractually past due 90
days or more at September 30, 2001 or December 31, 2000.
The following table reflects residential mortgage loans with past due principal
and interest payments as of September 30, 2001 and December 31, 2000:
September 30, 2001 December 31, 2000
------------------ -----------------
Principal Balance Percent Principal Balance Percent
(in thousands) Of Total Loans (in thousands) of Total Loans
-------------- -------------- -------------- --------------
Loans Loans
30 to 59 days past due $2,240 0.24% $1,775 0.18%
60 to 89 days past due 1,125 0.12 1,162 0.12
90 days or more past due 2,421 0.25 1,628 0.17
------ ---- ------ ----
$5,786 0.61% $4,565 0.47%
====== ==== ====== ====
ALLOWANCE FOR LOAN LOSSES
As of September 30, 2001, the Company has allocated $302,000 of its allowance
for loan losses against specific problem loans, with the remaining $7.4 million
available to absorb potential loan losses from the entire residential mortgage
loan portfolio. The Company deems its allowance for loan losses as of September
30, 2001 to be adequate. Although the Company believes that it has sufficient
allowances to absorb losses which currently exist in the portfolio, the amount
is
12
subject to continuing review based on quality indicators, industry and
geographic concentrations, changes in business conditions, and other external
factors such as competition, legal and regulatory requirements. The Company will
continue to periodically reassess the adequacy of the allowance for loan losses.
The following table reflects the activity in the Company's allowance for loan
losses for the nine months ended September 30, 2001 and 2000 (in thousands):
2001 2000
---- ----
Balance - January 1 $ 7,641 $ 7,883
Provision for loan losses -- --
Recoveries (charge-offs), net 13 (80)
------- -------
Balance - September 30 $ 7,654 $ 7,803
======= =======
The Company's allowance coverage ratio (allowance for loan losses to loans) at
September 30, 2001 and December 31, 2000 was 0.80% and 0.78%, respectively.
INTEREST RATE RISK
The Company's income consists primarily of interest payments on residential
mortgage loans. The Company anticipates that most of its residential mortgage
loans will bear interest at adjustable rates. If there is a decline in interest
rates (as measured by the indices upon which the interest rates of the
residential mortgage loans are based), then the Company will experience a
decrease in income available to be distributed to its stockholders. In such an
interest rate environment the Company may experience an increase in prepayments
on its residential mortgage loans and may find it more difficult to purchase
additional residential mortgage loans bearing rates sufficient to support
payment of the dividends on the Series A Preferred Shares. In addition, certain
residential mortgage loan products which the Company holds will allow borrowers
in such an interest rate environment to convert an adjustable rate mortgage to a
fixed rate mortgage, thus "locking in" a lower fixed interest rate. Because the
dividend rate on the Series A Preferred Shares is fixed, there can be no
assurance that an interest rate environment in which there is a significant
decline in interest rates would not adversely affect the Company's ability to
pay such dividends.
Residential mortgage loans which have interest rates that adjust monthly based
upon the FHLB Eleventh District Cost of Funds limit payment changes to no more
than 7.5% of the payment amount per year. This may lead to monthly payments
which are less than the amount necessary to amortize the loan to maturity at the
interest rate in effect for any particular month. In the event that the monthly
payment is not sufficient to pay interest accruing on the loan during the month,
this deficiency is added to the loan's principal balance (i.e., negative
amortization). The total outstanding principal balance for a particular loan is
generally not allowed to exceed 125% of the original loan amount as a result of
negative amortization. Every five years and at any time the loan reaches its
maximum amount, the loan payment is recalculated to the payment sufficient to
repay the unpaid balance in full at the maturity date. Approximately $126.9
million and $172.2 million of the residential mortgage loans held by the Company
at September 30, 2001 and December 31, 2000, respectively, had the potential to
negatively amortize, while approximately $10.1 million and $18.9 million of the
residential mortgage loans had negatively amortized such that the current
principal balance of the loan exceeded the original principal balance at
September 30, 2001 and December 31, 2000, respectively. The current principal
balance exceeded the original principal balance on those loans by approximately
$340,000 and $712,000 as of September 30, 2001 and December 31, 2000,
respectively. If there is an increase in interest rates on such residential
mortgage loans (as measured by the indices upon which the interest rates of the
residential mortgage loans are based), where such increase in the interest rate
does not coincide with a corresponding adjustment of the borrower's monthly
payment, the Company may experience a decrease in cash available to be
distributed to its common stockholder.
SIGNIFICANT CONCENTRATION OF CREDIT RISK
Certain geographic regions of the United States from time to time may experience
natural disasters or weaker regional economic conditions and housing markets
and, consequently, may experience higher rates of loss and delinquency on
residential mortgage loans generally. Any concentration of the residential
mortgage loans in such a region may present risks in addition to those generally
present with respect to residential mortgage loans.
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The Company's exposure to geographic concentrations directly affects the credit
risk of the residential mortgage loans within the portfolio. The following table
shows the residential mortgage loan portfolio by geographical area as of
September 30, 2001:
Book Value
(in thousands) Percent
-------------- -------
California $ 797,347 83.0%
Florida 22,388 2.3
New York 16,294 1.7
Nevada 14,913 1.6
Texas 14,742 1.5
Colorado 14,386 1.5
Hawaii 9,856 1.0
Washington 9,632 1.0
Other states (31 states and Washington, D.C.;
no state has more than 1%) $ 61,161 6.4
--------- ----
$ 960,719 100%
========= ====
The 83.0% of the Company's total residential mortgage loan portfolio comprised
of loans secured by residential real estate properties located in California may
be subject to a greater risk of default than other comparable residential
mortgage loans in the event of natural hazards or other adverse conditions in
California that may affect the ability of residential property owners in
California to make payments of principal and interest on underlying mortgages.
There is evidence of deterioration in some real estate markets, especially in
northern California. As of September 30, 2001, 42% of the Company's total
residential mortgage loan portfolio was comprised of loans secured by properties
located in northern California.
LIQUIDITY RISK MANAGEMENT
The objective of liquidity management is to ensure the availability of
sufficient cash flows to meet all of the Company's financial commitments and to
capitalize on opportunities for the Company's business expansion. In managing
liquidity, the Company takes into account various legal limitations placed on a
Real Estate Investment Trust ("REIT"). See " --Other Matters."
The Company's principal liquidity needs are to maintain the current portfolio
size through the acquisition of additional residential mortgage loans and to pay
dividends on the Series A Preferred Shares. The acquisition of additional
residential mortgage loans is funded with the proceeds obtained from repayment
of principal balances by individual mortgagees. The payment of dividends on the
Series A Preferred Shares will be made from legally available funds, principally
arising from the operating activities of the Company. The Company's cash flows
from operating activities principally consist of the collection of interest on
the residential mortgage loans. The Company does not have and does not
anticipate having any material capital expenditures.
In order to remain qualified as a REIT, the Company must distribute annually at
least 90% of its REIT taxable income, as provided for under the Internal Revenue
Code ("IRC"), to its common and preferred stockholders. Prior to 2001, the
Company was required to distribute 95% of its REIT taxable income. The Company
currently expects to distribute dividends annually to satisfy these REIT
requirements.
The Company anticipates that cash and cash equivalents on hand and the cash flow
from the residential mortgage loans will provide adequate liquidity for its
operating, investing and financing needs.
As presented in the accompanying statement of cash flows, the primary sources of
funds during the nine months ended September 30, 2001 were $54.3 million
provided by operating activities and $259.4 million provided by mortgage loan
principal repayments. The primary uses of funds were $263.6 million in purchases
of mortgage loans and $34.2 million in preferred stock dividends paid.
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OTHER MATTERS
As of September 30, 2001, the Company was in full compliance with the REIT tax
rules and believes that it will continue to qualify as a REIT under the
provisions of the IRC. The Company calculates:
a. its Qualified REIT Assets, as defined in the Code, to be 97% of its total
assets, as compared to the Federal tax requirements that at least 75% of
its total assets must be Qualified REIT assets; and
b. that 99% of its revenue qualifies for the 75% source of income test and
100% of its revenue qualifies for the 95% source of income test under the
REIT rules.
The Company also met all REIT requirements regarding the ownership of its stock
and anticipates meeting the annual distribution requirements.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There have been no material changes in reported market risks faced by the
Company since the Company's report in Item 7A of its Form 10-K for the year
ended December 31, 2000.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is not the subject of any material litigation. None of the Company,
the Bank or any of its affiliates is currently involved in nor, to the Company's
knowledge, is currently threatened with, any material litigation with respect to
the residential mortgage loans included in the portfolio other than routine
litigation arising in the ordinary course of business, most of which is covered
by liability insurance.
ITEM 6. EXHIBITS AND CURRENT REPORTS ON FORM 8-K
(a) Exhibits:
3.1 Amended and Restated Charter of the Registrant (Incorporated
by reference to Exhibit 3.1 to the Registrant's Quarterly
Report on Form 10-Q for the quarter ended March 31, 1997).
3.1 By-laws of the Registrant, as amended (Incorporated by
reference to Exhibit 3(b) to Amendment No. 2 to the
Registrant's Registration Statement on Form S-11 (File No.
333-11609)).
(b) Reports on Form 8-K:
No Current Reports on Form 8-K were filed during the quarter ended
September 30, 2001.
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SIGNATURE
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.
California Federal Preferred Capital Corporation
/s/ Richard H. Terzian
-------------------------------------------------------------
By: Richard H. Terzian
Executive Vice President, Chief Financial Officer and Director
(Signing on behalf of the Registrant and as the Principal
Financial Officer)
November 9, 2001
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