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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
|X| Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarter ended September 30, 2002
|_| Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
Commission file number 1-9819
DYNEX CAPITAL, INC.
(Exact name of registrant as specified in its charter)
Virginia 52-1549373
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
4551 Cox Road, Suite 300, Glen Allen, Virginia 23060
(Address of principal executive offices) (Zip Code)
(804) 217-5800
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past ninety days.
|_|Yes |X|No
As of October 31, 2002, the registrant had 10,873,903 shares of common stock
outstanding with a par value of $.01 per share, which is the registrant's only
class of common stock.
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DYNEX CAPITAL, INC.
FORM 10-Q
INDEX
Page
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets at September 30, 2002
and December 31, 2001 (unaudited)...............................................................1
Condensed Consolidated Statements of Operations for the three and nine months
ended September 30, 2002 and 2001 (as restated) (unaudited) ....................................2
Condensed Consolidated Statements of Cash Flows for
the nine months ended September 30, 2002 and 2001 (as restated) (unaudited) ....................3
Notes to Unaudited Condensed Consolidated Financial Statements..................................4
Item 2. Management`s Discussion and Analysis of
Financial Condition and Results of Operations...................................................9
Item 3. Quantitative and Qualitative Disclosures about Market Risk.....................................20
PART II. OTHER INFORMATION
Item 1. Legal Proceedings .............................................................................22
Item 2. Changes in Securities and Use of Proceeds......................................................22
Item 3. Defaults Upon Senior Securities................................................................22
Item 4. Submission of Matters to a Vote of Security Holders............................................22
Item 5. Other Information..............................................................................22
Item 6. Exhibits and Reports on Form 8-K...............................................................23
SIGNATURE ..........................................................................................................24
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
DYNEX CAPITAL, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)
(amounts in thousands except share data)
September 30, December 31,
2002 2001
-------------------- ---------------------
ASSETS
Investments:
Collateral for collateralized bonds $ 2,247,276 $ 2,473,203
Other investments 56,516 63,553
Securities 7,307 5,508
Loans 12,454 7,315
------------------ ------------------
2,323,553 2,549,579
Cash 6,416 11,463
Other assets 7,651 8,817
-------------------- ---------------------
$ 2,337,620 $ 2,569,859
==================== =====================
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES
Non-recourse debt - collateralized bonds $ 2,098,202 $ 2,264,213
Recourse debt 94 58,134
-------------------- ---------------------
2,098,296 2,322,347
Accrued expenses and other liabilities 5,182 5,402
-------------------- ---------------------
2,103,478 2,327,749
-------------------- ---------------------
Commitments and contingencies (Note 10) - -
SHAREHOLDERS' EQUITY
Preferred stock, par value $.01 per share,
50,000,000 shares authorized:
9.75% Cumulative Convertible Series A,
992,038 shares issued and outstanding
($30,773 and $29,322 aggregate liquidation preference, respectively) 22,658 22,658
9.55% Cumulative Convertible Series B,
1,378,707 shares issued and outstanding
($43,456 and $41,443 aggregate liquidation preference, respectively) 32,273 32,275
9.73% Cumulative Convertible Series C,
1,383,532 shares issued and outstanding
($53,625 and $51,101 aggregate liquidation preference, respectively) 39,655 39,655
Common stock, par value $.01 per share,
100,000,000 shares authorized
10,873,903 and 10,873,853 shares issued and outstanding, respectively 109 109
Additional paid-in capital 364,743 364,740
Accumulated other comprehensive loss (19,612) (14,825)
Accumulated deficit (205,684) (202,502)
-------------------- ---------------------
234,142 242,110
-------------------- ---------------------
$ 2,337,620 $ 2,569,859
================================================================================= ==================== =====================
See notes to unaudited condensed consolidated financial statements.
DYNEX CAPITAL, INC.
CONDENSED CONSOLIDATED STATEMENTS
OF OPERATIONS (UNAUDITED)
(amounts in thousands except share and per share data)
Three Months Ended September 30 Nine Months Ended September 30
------------------------------- ------------------------------
2002 2001 2002 2001
---- ---- ---- ----
(As Restated, (As Restated,
See Note 13) See Note 13)
Interest income:
Collateral for collateralized bonds $ 41,878 $ 50,766 $ 129,066 $ 168,358
Other investments 45 1,375 100 4,767
Securities 289 157 746 831
Loans 109 98 318 431
---------------- ---------------- ---------------- ----------------
42,321 52,396 130,230 174,387
Interest and related expense:
Non-recourse debt 31,278 39,192 95,040 132,863
Recourse debt 162 1,316 2,134 5,739
Other 41 62 462 531
---------------- ---------------- ---------------- ----------------
31,481 40,570 97,636 139,133
---------------- ---------------- ---------------- ----------------
Net interest margin before provision for losses 10,840 11,826 32,594 35,254
Provision for losses (5,408) (12,464) (16,292) (22,075)
---------------- ---------------- ---------------- ----------------
Net interest margin 5,432 (638) 16,302 13,179
Net (loss) gain on sales, impairment charges and
litigation (2,718) (2,434) (9,151) 1,544
Trading losses (4,035) (1,161) (3,307) (2,881)
Other income 293 59 688 39
---------------- ---------------- ---------------- ----------------
(1,028) (4,174) 4,532 11,881
General and administrative expenses (2,226) (2,300) (6,744) (6,777)
---------------- ---------------- ---------------- ----------------
(Loss) income before extraordinary items (3,254) (6,474) (2,212) 5,104
Extraordinary items - gain (loss) on
extinguishment of debt 392 (1,009) 230 1,835
---------------- ---------------- ---------------- ----------------
Net (loss) income (2,862) (7,483) (1,982) 6,939
Preferred stock (charges) benefit (2,397) (2,825) (7,189) 4,440
---------------- ---------------- ---------------- ----------------
Net (loss) income applicable to common shareholders $ (5,259) $ (10,308) $ (9,171) $ 11,379
================ ================ ================ ================
(Loss) income per common share before extraordinary item:
Basic and Diluted $ (0.52) $ (0.81) $ (0.86) $ 0.83
================ ================ ================ ================
Net (loss) income per common share:
Basic and Diluted $ (0.48) $ (0.90) $ (0.84) $ 0.99
================ ================ ================ ================
Weighted average number of common shares
outstanding; basic and diluted 10,873,903 11,446,149 10,873,866 11,446,187
================ ================ ================ ================
See notes to unaudited condensed consolidated financial statements.
DYNEX CAPITAL, INC.
CONDENSED CONSOLIDATED STATEMENTS
OF CASH FLOWS (UNAUDITED) Nine Months Ended
(amounts in thousands) September 30,
-------------------------------------------------
2002 2001
---------------------- -----------------------
(As Restated,
See Note 13)
Operating activities:
Net (loss) income $ (1,982) $ 6,939
Adjustments to reconcile net (loss) income to net cash provided by
operating activities:
Provision for losses 16,292 22,075
Net loss (gain) on sales, impairment charges and litigation 9,151 (1,544)
Payment (made) received from litigation settlement, net of legal fees (863) 7,111
Extraordinary items - gain on extinguishment of debt (230) (1,835)
Amortization and depreciation 6,794 9,272
(Increase) decrease in accrued interest receivable (32) 2,786
Increase in accrued interest payable (2,652) (958)
Net change in restricted cash - 14,361
Net change in other assets and other liabilities (198) (7,288)
---------------------- -----------------------
Net cash provided by operating activities 26,280 50,919
---------------------- -----------------------
Investing activities:
Collateral for collateralized bonds:
Investments purchased (155,470) -
Proceeds from principal payments on collateral 338,084 473,917
Net increase in funds held by trustee (118) (206)
Net (increase) decrease in loans (5,358) 16,601
Purchase of other investments - (2,838)
Payments received on other investments 8,948 4,210
Proceeds from sales of other investments - 233
Purchase of securities (4,195) -
Payments received on securities 2,896 1,873
Proceeds from sales of securities - 3,893
Proceeds from sale of loan production operations - 9,500
Capital expenditures (120) (212)
---------------------- -----------------------
Net cash provided by investing activities 184,667 506,971
---------------------- -----------------------
Financing activities:
Collateralized bonds:
Proceeds from issuance of bonds 605,272 507,641
Principal payments on bonds (762,177) (979,959)
Repayment of senior notes (57,890) (67,334)
Capital stock transactions - (10,963)
Dividends paid (1,199) (1,614)
---------------------- -----------------------
---------------------- -----------------------
Net cash used for financing activities (215,994) (552,229)
---------------------- -----------------------
Net (decrease) increase in cash (713) 5,661
Cash at beginning of period 11,463 3,485
---------------------- -----------------------
Cash at end of period $ 6,416 $ 9,146
====================== =======================
Supplement disclosures of cash flow information:
Cash paid for interest $ 100,080 $ 140,180
Cash reclassified from restricted to unrestricted $ 4,334 $ -
See notes to unaudited condensed consolidated financial statements.
DYNEX CAPITAL, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2002
(amounts in thousands except share and per share data)
NOTE 1 - BASIS OF PRESENTATION
The accompanying condensed consolidated financial statements have been prepared
in accordance with the instructions to Form 10-Q and do not include all of the
information and notes required by accounting principles generally accepted in
the United States of America, hereinafter referred to as "generally accepted
accounting principles," for complete financial statements. The condensed
consolidated financial statements include the accounts of Dynex Capital, Inc.
and its qualified REIT subsidiaries and taxable REIT subsidiary ("Dynex" or the
"Company"). All significant inter-company balances and transactions have been
eliminated in consolidation of Dynex.
In the opinion of management, all significant adjustments, consisting of normal
recurring adjustments, considered necessary for a fair presentation of the
condensed consolidated financial statements have been included. The financial
statements presented are unaudited. Operating results for the three and nine
months ended September 30, 2002 are not necessarily indicative of the results
that may be expected for the year ending December 31, 2002.
The preparation of financial statements, in conformity with accounting
principles generally accepted in the United States of America, 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 revenue and
expenses during the reported period. Actual results could differ from those
estimates. The primary estimates inherent in the accompanying consolidated
financial statements are discussed below.
The Company uses estimates in establishing fair value for its financial
instruments as discussed in Note 2.
The Company also has credit risk on certain investments in its portfolio. An
allowance for losses has been estimated and established for current expected
losses based on management's judgment. The allowance for losses is evaluated and
adjusted periodically by management based on the actual and projected timing and
amount of probable credit losses, as well as industry loss experience.
Provisions made to increase the allowance related to credit risk are presented
as provision for losses in the accompanying consolidated statements of
operations. The Company's actual credit losses may differ from those estimates
used to establish the allowance.
Certain reclassifications have been made to the financial statements for 2001 to
conform to the presentation for 2002.
NOTE 2 - FAIR VALUE
The Company estimates fair value for its financial instruments. Estimates of
fair value for financial instruments may be based on market prices provided by
certain dealers. Estimates of fair value for certain other financial instruments
are determined by calculating the present value of the projected cash flows of
the instruments using estimated market discount rates, prepayment rates and
credit loss assumptions. Collateral for collateralized bonds make up a
significant portion of the Company's investments. A portion of the collateral
for collateralized bonds are debt securities which are classified as
available-for-sale. The estimate of fair value for collateral for collateralized
bonds is determined by calculating the present value of the projected cash flows
of the instruments, using discount rates, prepayment rate assumptions and credit
loss assumptions established by management. The discount rate used in the
determination of fair value of the collateral for collateralized bonds was 16%
at September 30, 2002 and December 31, 2001. Prepayment rate assumptions at
September 30, 2002, and December 31, 2001, were generally at a "constant
prepayment rate," or CPR ranging from 30%-70% for 2002 and 35%-60% for 2001, for
collateral for collateralized bonds consisting of single-family mortgage
securities, and a CPR equivalent ranging from 10%-12% for 2002 and 2001 for
collateral for collateralized bonds consisting of manufactured housing
securities. CPR assumptions are based in part on the actual prepayment rates
experienced for the prior six-month period and in part on management's estimate
of future prepayment activity based on the current level of interest rates and
prepayment rates being experienced on similar loans in the marketplace. Credit
loss assumptions are based in part on the actual credit losses experienced for
the prior six-month period and in part on management's estimate of future credit
losses based on the losses experienced on similar loans in the marketplace.
Estimates of fair value for other financial instruments are based primarily on
management's judgment. Since the fair value of Dynex's financial instruments is
based on estimates, actual gains and losses recognized may differ from those
estimates recorded in the consolidated financial statements.
NOTE 3 - NET (LOSS) INCOME PER COMMON SHARE
Net (loss) income per common share is presented on both a basic and diluted
basis. Diluted net (loss) income per common share assumes the conversion of the
convertible preferred stock into common stock, using the if-converted method and
stock appreciation rights to the extent that there are rights outstanding, using
the treasury stock method, but only if these items are dilutive. As a result of
the two-for-one split in May 1997 and the one-for-four reverse split in July
2000 of Dynex's common stock, the preferred stock is convertible into one share
of common stock for two shares of preferred stock.
The following table reconciles the numerator and denominator for both basic and
diluted net (loss) income per common share for the three and nine months ended
September 30, 2002 and 2001.
- ----------------------------------------------------------------------------------------------------------------------------
Three Months Ended September 30, Nine Months Ended September 30,
--------------------------------------------------------------------------------------------
2002 2001 2002 2001
---------------------- ---------------------------------------------- ----------------------
Weighted- Weighted- Weighted- Weighted-
Average Average Average Average
(Loss) Number (Loss) Number (Loss) Number (Loss) Number
Income Of Shares Income Of Shares Income Of Shares Income Of Shares
---------- ----------- ----------- ---------------------- ----------- ---------- -----------
(Loss) income before
extraordinary items $(3,254) $ (6,474) $(2,212) $ 5,104
Extraordinary items - gain
(loss) on extinguishment of 392 (1,009) 230 1,835
debt
---------- ----------- ---------- ----------
Net (Loss) income (2,862) (7,483) (1,982) 6,939
Preferred stock (charges) (2,397) (2,825) (7,189) 4,440
benefit
------------ ----------- ---------- ----------
Net (loss) income applicable to
common shareholders $(5,259) 10,873,903 $(10,308) 11,446,149 $(9,171) 10,873,866 $11,379 11,446,167
========== =========== =========== ====================== =========== ========== ===========
(Loss) income per share before
extraordinary items:
Basic and diluted $ (0.52) $ (0.81) $ (0.86) $ 0.83
=========== ============ =========== ===========
Net (loss) income per share:
Basic and diluted $ (0.48) $ (0.90) $ (0.84) $ 0.99
=========== ============ =========== ===========
Dividends and potentially dilutive
common shares assuming conversion
of preferred stock:
Series A $ (580) 496,019 $ (648) 553,486 $(1,741) 496,019 $(2,132) 553,486
Series B (807) 689,354 (906) 774,363 (2,419) 689,354 (3,949) 774,363
Series C (1,010) 691,766 (1,157) 792,599 (3,029) 691,766 (3,389) 792,599
---------- ----------- ----------- ---------------------- ----------- ---------- -----------
$(2,397) 1,877,139 $ (2,711) 2,120,448 $(7,189) 1,877,139 $(9,470) 2,120,448
========== =========== =========== ====================== =========== ========== ===========
- ----------------------------------------------------------------------------------------------------------------------------
NOTE 4 - COLLATERAL FOR COLLATERALIZED BONDS
Collateral for collateralized bonds represents collateral pledged to support the
repayment of non-recourse collateralized bonds issued by the Company. Collateral
for collateralized bonds consists of loans and debt securities backed by
adjustable-rate and fixed-rate single-family mortgage loans, fixed-rate mortgage
loans on multifamily and commercial properties and manufactured housing
installment loans secured by a UCC filing. Loans are reported at amortized cost
with established provisions for estimated losses. Debt securities are available
for sale and are, therefore, marked to market according to Statement of
Financial Accounting Standards (SFAS) No. 115 "Accounting for Certain
Investments in Debt and Equity Securities." All principal and interest (less
servicing-related fees) on the collateral is remitted to a trustee and is
available for payment on the associated collateralized bonds.
The following table summarizes the components of collateral for collateralized
bonds as of September 30, 2002 and December 31, 2001. Debt securities pledged as
collateral for collateralized bonds are considered available for sale, and are
therefore recorded at fair value.
- ------------------------------------- ----------------------------------- -----------------------------------
September 30, 2002 December 31, 2001
----------------------------------- -----------------------------------
Loans, at amortized cost $ 1,911,724 $ 2,027,619
Debt securities, at fair value 356,569 467,038
-------------------------- -------------------------
2,268,293 2,494,657
Reserve for loan losses (21,017) (21,454)
-------------------------- -------------------------
$ 2,247,276 $ 2,473,203
- ------------------------------------- ----------------------------------- -----------------------------------
The following table summarizes the amortized cost basis, gross unrealized gains
and losses and estimated fair value of debt securities pledged as collateral for
collateralized bonds as of September 30, 2002:
- -------------------------------------------- --------------- --------------- --------------- ---------------
Gross Gross
Amortized unrealized unrealized Estimated
cost gains losses fair value
- -------------------------------------------- --------------- --------------- --------------- ---------------
Debt securities $ 358,638 $ 38 $ (2,107) $ 356,569
- -------------------------------------------- --------------- --------------- --------------- ---------------
NOTE 5 - OTHER INVESTMENTS
Other investments at September 30, 2002 and December 31, 2001 consist
substantially of delinquent property tax receivables and related real estate
owned. Delinquent property tax receivables have been classified as non-accrual,
and all cash collections on such receivables reduce the principal balance of the
Company's investment in the receivables. During the three and nine months ended
September 30, 2002, the Company collected $3,797 and $13,085, respectively and
reduced the carrying value of the investment accordingly. The Company also
amortized $1,347 and $4,188, respectively, of discount on the carrying value of
the delinquent property tax receivables as a reduction of accumulated other
comprehensive loss. At September 30, 2002 the redemptive value of the delinquent
property tax receivable portfolio was $128,288.
The following table summarizes the Company's investment in delinquent property
tax receivables and real estate owned at September 30, 2002 and December 31,
2001:
- ------------------------------------------------------------------------ ---------------------- -- -----------------------
September 30, December 31,
2002 2001
---------------------- -----------------------
Amortized cost basis of receivables, before discount $ 64,450 $ 75,785
Discount recorded as adjustment to other comprehensive loss (13,936) (18,451)
---------------------- -----------------------
Amortized cost basis of receivables, net 50,514 57,334
Real estate owned 5,847 5,948
Other 155 271
- ------------------------------------------------------------------------ ---------------------- -- -----------------------
$ 56,516 $ 63,553
- ------------------------------------------------------------------------ ---------------------- -- -----------------------
NOTE 6 - LOANS
The following table summarizes the Company's carrying basis in unsecuritized
loans at September 30, 2002 and December 31, 2001, respectively:
- -----------------------------------------------------------------------------------------------------------
September 30, December 31,
2002 2001
- -----------------------------------------------------------------------------------------------------------
Multifamily and commercial loans $ 2,765 $ 2,791
Consumer installment contracts 1,916 3,601
Single-family mortgage loans 7,724 906
-------------------- ----------------
12,405 7,298
Net premium and allowance for losses 49 17
-------------------- -------------------
Total loans $ 12,454 $ 7,315
- -----------------------------------------------------------------------------------------------------------
Of the above amounts, loans with a carrying amount of $10,641 and $3,712,
respectively, are classified as held for sale at September 30, 2002 and December
31, 2001.
NOTE 7 - ALLOWANCE FOR LOSSES
The Company reserves for credit risk where it has exposure to losses on various
investments in its investment portfolio. The following table summarizes the
aggregate activity for the allowance for losses of principal on investments for
the nine months ended September 30, 2002 and 2001:
- ------------------------------------- ---------------------------------------
Nine Months Ended September 30,
2002 2001
- ------------------------------------- ---------------------------------------
Allowance at beginning of year $ 21,508 $ 26,903
Provision for losses 16,292 22,075
Credit losses, net of recoveries (16,679) (19,732)
--------------------- -----------------
Allowance at end of year $ 21,121 $ 29,246
- ------------------------------------- --------------------- -----------------
NOTE 8 - RECENT ACCOUNTING PRONOUNCEMENTS
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations." SFAS No. 143 addresses financial accounting and
reporting for obligations associated with the retirement of tangible long-lived
assets and the associated asset retirement costs. SFAS No. 143 is effective for
fiscal years beginning after June 15, 2002. The adoption of SFAS No. 143 is not
expected to have a significant impact on the financial position, results of
operations or cash flows of the Company.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment of
Long-Lived Assets" which supercedes SFAS No. 121, "Accounting for the Impairment
of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" and the
accounting and reporting provisions 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" (APB 30) for the disposal of a segment of business.
This statement is effective for fiscal years beginning after December 15, 2001.
SFAS No. 144 retains many of the provisions of SFAS No. 121, but addresses
certain implementation issues associated with that Statement. The adoption of
SFAS No. 144 as of January 1, 2002 did not have a significant impact on the
financial position, results of operations or cash flows of the Company.
In April 2002, the FASB issued SFAS No. 145, "Recission of FASB Statements No.
4, 44 and 64, Amendment of FASB Statement No. 13 and Technical Corrections".
Effective January 1, 2003, SFAS No. 145 requires gains and losses from the
extinguishment or repurchase of debt to be classified as extraordinary items
only if they meet the criteria for such classification in APB 30. Until January
1, 2003, gains and losses from the extinguishment or repurchase of debt must be
classified as extraordinary items, as Dynex has done. After January 1, 2003, any
gain or loss resulting from the extinguishment or repurchase of debt classified
as an extraordinary item in a prior period that does not meet the criteria for
such classification under APB 30 must be reclassified. The Company is in the
process of evaluating this SFAS but believes it will not have a significant
impact on the financial position, results of operations or cash flows of the
Company. The Company anticipates future gains or losses from early
extinguishment of debt will be classified in operational income.
In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." Effective January 1, 2003, SFAS No. 146
requires companies to recognize costs associated with exit or disposal
activities when they are incurred rather than at the date of a commitment to an
exit or disposal plan. This SFAS applies to activities that are initiated after
December 31, 2002. The Company has not yet assessed the impact of this statement
on its financial position or results of operations.
In October 2002, the FASB issued SFAS No. 147, "Acquisitions of Certain
Financial Institutions," which amends SFAS No. 72, "Accounting for Certain
Acquisitions of Banking or Thrift Institutions," SFAS No. 144, "Accounting for
the Impairment or Disposal of Long-Lived Assets," and FASB Interpretation No. 9,
"Applying APB Opinions No. 16 and 17 When a Savings and Loan Association or a
Similar Institution is Acquired in a Business Combination Accounted for by the
Purchase Method." With the exception of transactions between two or more mutual
enterprises, this Statement removes acquisitions of financial institutions from
the scope of both SFAS No. 72 and Interpretation 9 and requires that those
transactions be accounted for in accordance with SFAS No. 141, "Business
Combinations," and SFAS No. 142, "Goodwill and Other Intangible Assets." In
addition, the carrying amount of an unidentifiable intangible asset shall
continue to be amortized as required in SFAS No. 72, unless the transaction to
which that asset arose was a business combination. In that case, the carrying
amount of that asset is to be reclassified to goodwill as of the later of the
date of acquisition or the date SFAS No. 142 is applied in its entirety. Thus,
those intangible assets are subject to the same undiscounted cash flow
recoverability test and impairment loss recognition and measurement provisions
that SFAS No. 144 requires for other long-lived assets that are held and used.
Also, this Statement amends SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets," to include in its scope long-term
customer-relationship intangible assets of financial institutions. The effective
date for this provision is on October 1, 2002, with earlier application
permitted. Management does not expect the adoption of SFAS No. 147 to have an
impact on the financial position, results of operations, or cash flows of the
Company.
NOTE 9 - PREFERRED STOCK
As of September 30, 2002 and December 31, 2001, the total liquidation preference
on the Preferred Stock was $127,854 and $121,867, respectively, and the total
amount of dividends in arrears on Preferred Stock were $28,761 and $22,771,
respectively. Individually, the amount of dividends in arrears on the Series A,
the Series B and the Series C were $6,964 ($7.02 per Series A share), $9,678
($7.02 per Series B share) and $12,119 ($8.76 per Series C share) at September
30, 2002 and $5,513 ($5.56 per Series A share), $7,663 ($5.56 per Series B
share) and $9,595 ($6.94 per Series C share) at December 31, 2001.
NOTE 10 - COMMITMENTS AND CONTINGENCIES
GLS Capital, Inc. ("GLS"), a subsidiary of the Company, together with the County
of Allegheny, Pennsylvania ("Allegheny County"), were defendants in a lawsuit in
the Commonwealth Court of Pennsylvania (the "Commonwealth Court") wherein the
plaintiffs challenged the right of Allegheny County and GLS to collect certain
interest, costs and expenses related to delinquent property tax receivables in
Allegheny County. This lawsuit was related to the purchase by GLS of delinquent
property tax receivables from Allegheny County in 1997, 1998, and 1999 for
approximately $58,300. On July 5, 2001, the Commonwealth Court ruling addressed,
among other things, (i) the right of the Company to charge to the delinquent
taxpayer a rate of interest of 12% versus 10% on the collection of its
delinquent property tax receivables, (ii) the charging of attorney's fees to the
delinquent taxpayer for the collection of such tax receivables, and (iii) the
charging to the delinquent taxpayer of certain other fees and costs. The
Commonwealth Court remanded for further consideration to the Court of Common
Pleas items (i) and (iii), and ruled that neither Allegheny County nor GLS had
the right to charge attorney's fees to the delinquent taxpayer related to the
collection of such tax receivables, reversing the Court of Common Pleas
decision. The Pennsylvania Supreme Court has accepted the Application for
Extraordinary Jurisdiction filed by Allegheny County and GLS. No damages have
been claimed in the action; however, the decision may impact the ultimate amount
recoverable on the delinquent property tax receivables, including attorney fees
incurred in the collection process.
The Company is also subject to other lawsuits or claims which have arisen
in the ordinary course of its business, some of which seek damages in amounts
which could be material to the financial statements. Although no assurance can
be given with respect to the ultimate outcome of any such litigation or claim,
the Company believes the resolution of such lawsuits or claims will not have a
material effect on the Company's consolidated balance sheet, but could
materially affect consolidated results of operations in a given year.
NOTE 11 - DERIVATIVE FINANCIAL INSTRUMENTS
In June 2002, the Company entered into an interest rate swap which matures on
June 28, 2005, to mitigate its interest rate risk exposure on $100,000 in
notional value of its variable rate collateralized bonds, which finance a like
amount of fixed rate assets. Under the agreement, the Company will pay interest
at a fixed rate of 3.73% on the notional amount and will receive interest based
on one month LIBOR on the same amount. This contract has been treated as a cash
flow hedge with gains and losses associated with the change in the value of the
hedge being reported as a component of comprehensive income. During the nine
months ended September 30, 2002, the Company recognized $3,578 in comprehensive
loss on this position.
In June 2002, the Company entered into a $100,000 notional short position on
5-Year Treasury Notes futures contracts expiring in September 2002. The Company
entered into this position to, in effect, mitigate its exposure to rising
interest rates on a like amount of floating-rate liabilities. These instruments
fail to meet the hedge criteria of SFAS No. 133, and therefore are accounted for
on a trading basis. In August 2002, the Company terminated these contracts at a
loss of $3,307.
In October 2002, the Company sold short a string of 90-day Eurodollar futures
contracts, synthetically creating a three-year amortizing swap with an initial
notional balance of approximately $80,000 to mitigate its exposure to rising
interest rates on a portion of its variable rate collateralized bonds, which
finance a like amount of fixed rate assets. This contract will be treated as a
cash flow hedge with gains and losses associated with the change in the value of
the hedge being reported as a component of comprehensive income.
NOTE 12 - NET (LOSS) GAIN ON SALES, IMPAIRMENT CHARGES
AND LITIGATION
The following table sets forth the composition of net (loss) gain on sales,
impairment charges and litigation for the nine months ended September 30, 2002
and 2001.
- ------------------------------------------------------------------------
Nine months ended September 30,
----------------------------------------------
2002 2001
--------------------- --------------------
Impairment charges $ (9,520) $ (5,349)
Litigation recoveries - 7,111
Other 369 (218)
- ------------------------------------------------------------------------
$ (9,151) $ 1,544
- ------------------------------------------------------------------------
Impairment charges included $1,882 for the adjustment to the lower of cost or
market for certain delinquent single-family mortgage loans not included in the
securitization completed in April. Such loans were included in securities called
by the Company, the balances of which were included in the securitization.
Impairment charges also include other-than-temporary impairment of debt
securities of $6,872 and $5,349 for 2002 and 2001, respectively, related to debt
securities pledged as collateral for collateralized bonds. The impairment
charges are principally related to debt securities secured by manufactured
housing loans.
NOTE 13 - RESTATEMENT OF FINANCIAL STATEMENTS
Subsequent to the issuance of its financial statements for the three and nine
month periods ended September 30, 2001, the Company determined that the assets
previously reported as debt securities subject to the requirements of SFAS
No.115, "Accounting for Certain Investments in Debt and Equity Securities" were,
in fact, collateralized borrowings, where the collateral being pledged as
securities were loans that should have been accounted for under the requirements
of SFAS No. 5, "Accounting for Contingencies" or SFAS No. 114, "Accounting by
Creditors for Impairment of a Loan." As a result, the accompanying condensed
consolidated financial statements for the three and nine month periods ended
September 30, 2001 have been restated from the amounts previously reported to
correct the accounting for these investments.
A summary of the significant effects of the restatement is as follows:
- --------------------------------------------- -------------------------------------- --- -------------------------------------
Three Months Ended Nine Months Ended
September 30, 2001 September 30, 2001
(As Previously (As Previously
Reported) (As Restatted) Reported) (As Restated)
----------------- ----------------- ---------------- ----------------
Provision for losses $ (14,247) $ (12,464) $ (27,424) $ (22,075)
Net interest margin (2,422) (638) 7,830 13,179
Net (loss) gain on sales, write-downs,
impairment charges, and litigation $ (650) $ (2,434) $ 6,893 $ 1,544
- --------------------------------------------- ----------------- -- ----------------- --- ---------------- --- ----------------
The restatement had no effect on (loss) income before extraordinary items, net
(loss) income, or related per share amounts.
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
As discussed in Note 13 to the condensed consolidated financial statements
included in Item 1, the Company has restated its financial statements for the
three and nine month periods ended September 30, 2001. The following management
discussion and analysis takes into account the effects of the restatement.
The Company is a financial services company, which invests in a portfolio of
securities and investments backed principally by single family mortgage loans,
commercial mortgage loans, manufactured housing installment loans and delinquent
property tax receivables. These loans were funded primarily by the Company's
loan production operations or purchased in bulk in the market. Historically, the
Company's loan production operations have included single-family mortgage
lending, commercial mortgage lending and manufactured housing lending. Through
its specialty finance business, the Company also has provided for the purchase
and management of delinquent property tax receivables. The Company no longer
originates loans. Loans funded through the Company's production operations have
generally been pooled and pledged (i.e. securitized) as collateral for
non-recourse bonds ("collateralized bonds"), which provided long-term financing
for such loans while limiting credit, interest rate and liquidity risk. The
Company has elected to be treated as a real estate investment trust ("REIT") for
federal income tax purposes under the Internal Revenue Code of 1986, as amended,
and, as such, must distribute substantially all of its taxable income to
shareholders. Provided that the Company meets all of the prescribed Internal
Revenue Code requirements for a REIT, the Company will generally not be subject
to federal income tax.
The Company owns the right to call adjustable-rate and fixed-rate mortgage
pass-through securities previously issued and sold by the Company once the
outstanding balance of such securities reaches a call trigger, generally either
10% or less of the original amount issued or a specified date. At September 30,
2002, the aggregate callable balance of such securities at the time of the
projected call is approximately $131.8 million, relating to 10 securities. The
Company may or may not elect to call one or more of these securities when
eligible to call. During the first nine months of 2002, the Company initiated
the call of seventeen securities with a balance of $164 million. The Company
expects to call one additional security in 2002 with a call balance of
approximately $2.4 million and may call additional securities in the future.
During the third quarter, the Company repaid the remaining amount outstanding on
the July 2002 Senior Notes, effectively eliminating its recourse debt
outstanding and is now free from operating and investing restrictions previously
imposed by the Notes. The Company's investment portfolio continues to generate
reasonable cash flow, and the Company has been evaluating various new business
alternatives to re-deploy this cash flow in an effort to improve shareholder
value, including the possible acquisition of a depository institution. While the
Board has not yet concluded its evaluation as to a new business strategy for the
Company, the Board has determined that it should evaluate alternatives with
respect to the preferred stock as part of the process. In particular, the Board
is assessing whether various alternatives related to the preferred stock would
be beneficial to the Company's shareholders when considering the associated
risks and potential returns in light of other strategic alternatives. With
respect to the possible acquisition of a depository institution as previously
disclosed, it is the Board's view that it would likely seek some resolution of
the preferred stock dividends in arrears before the Company would move forward
with an acquisition, although no assurance can be given that any resolution
could be attained.
FINANCIAL CONDITION
- -------------------------------------------------- -------------------------- ---------------------------
(amounts in thousands except per share September 30, 2002 December 31, 2001
information)
- -------------------------------------------------- -------------------------- ---------------------------
Investments:
Collateral for collateralized bonds $ 2,247,276 $ 2,473,203
Other investments 56,516 63,553
Securities 7,307 5,508
Loans 12,454 7,315
Non-recourse debt - collateralized bonds 2,098,202 2,264,213
Recourse debt 94 58,134
Shareholders' equity 234,142 242,110
Book value per common share $ 9.77 $ 11.06
- -------------------------------------------------- -------------------------- ---------------------------
Collateral for collateralized bonds. Collateral for collateralized bonds
consists of loans and securities backed by adjustable-rate and fixed-rate
mortgage loans secured by first liens on single family housing, fixed-rate loans
secured by first liens on multifamily and commercial properties, and
manufactured housing installment loans secured by either a UCC filing or a motor
vehicle title. As of September 30, 2002, the Company had 22 series of
collateralized bonds outstanding. The collateral for collateralized bonds
decreased to $2.25 billion at September 30, 2002 compared to $2.47 billion at
December 31, 2001. This decrease of $225.9 million is primarily the result of
$338.1 million in paydowns on the collateral, $22.3 million of losses on
collateral, additional reserves for losses of $0.4 million and market value
adjustments of $5.4 million offset by the addition of $154.9 million of new
collateral.
Non-recourse debt. Collateralized bonds issued by the Company are recourse only
to the assets pledged as collateral, and are otherwise non-recourse to the
Company. Collateralized bonds decreased from $2.3 billion at December 31, 2001
to $2.1 billion at September 30, 2002. This decrease was primarily a result of
principal payments received on the associated collateral pledged which were used
to pay down the collateralized bonds in accordance with the respective
indentures.
Recourse debt. Recourse debt decreased to $0.1 million at September 30, 2002
from $58.1 million at December 31, 2001. The July 2002 Senior Notes were
redeemed on July 15, 2002.
Shareholders' equity. Shareholders' equity decreased to $234.1 million at
September 30, 2002 from $242.1 million at December 31, 2001. This decrease is
attributable to the net loss for the nine month period of $1.9 million, a $1.2
million preferred dividend declaration and payment, and an increase of $4.8
million in the accumulated other comprehensive loss. The increase in accumulated
other comprehensive loss resulted principally from the decline in the
mark-to-market on debt securities of $5.1 million and the mark-to-market losses
of $3.6 million on the three-year interest-rate swap entered into in June. These
increases were offset by the amortization of $4.5 million of accumulated other
comprehensive loss recorded in 2001 as an adjustment to the carrying value of
delinquent property tax receivables in accordance with SFAS No. 115.
Book value per common share. Book value per common share decreased from $11.06
at December 31, 2001 to $9.77 at September 30, 2002 as a result of the decline
in shareholders' equity as set forth above, and the increase in preferred
dividends in arrears. At September 30, 2002 preferred dividends in arrears was
$28.7 million versus $22.8 million at December 31, 2001. Assuming that the
Company's collateral for collateralized bonds were carried at fair value using a
16% discount rate, on a pro forma basis the Company's book value per common
share would be $5.47 at September 30, 2002, versus $4.71 at December 31, 2001.
RESULTS OF OPERATIONS
- ------------------------------------------ --- ------------------------------------- --- --------------------------------------
(amounts in thousands except per share Three months ended September 30, Nine months ended September 30,
information)
- ------------------------------------------ ------------------------------------- --------------------------------------
2002 2001 2002 2001
- ------------------------------------------ ---------------- ---------------- ----------------- -----------------
Net interest margin $ 5,432 $ (638) $ 16,302 $ 13,179
Net (loss) gain on sales, impairment
charges and litigation (2,718) (2,434) (9,151) 1,544
Trading losses (4,035) (1,161) (3,307) (2,881)
General and administrative expenses 2,226 2,300 6,744 6,777
Extraordinary items - gain (loss) on
extinguishment of debt 392 (1,009) 230 1,835
Net (loss) income (2,862) (7,483) (1,982) 6,939
Preferred stock (charges) benefits (2,397) (2,825) (7,189) 4,440
Net (loss) income applicable to common
shareholders (5,259) (10,308) (9,171) 11,379
Basic and diluted (loss) income per
common share before extraordinary gain
$ (0.52) $ (0.81) $ (0.86) $ 0.83
Basic and diluted net (loss) income per
common share $ (0.48) $ (0.90) $ (0.84) $ 0.99
Dividends declared per share:
Common $ - $ - $ - $ -
Preferred:
Series A $ 0.2925 $ 0.2925 $ 0.2925 $ 0.2925
Series B $ 0.2925 $ 0.2925 $ 0.2925 $ 0.2925
Series C $ 0.3651 $ 0.3649 $ 0.3951 $ 0.3649
- ------------------------------------------ --- ---------------- --- ---------------- --- ----------------- -- -----------------
Three and Nine Months Ended September 30, 2002 Compared to Three and Nine Months
Ended September 30, 2001. Net (loss) income and net (loss) income per common
share decreased during the nine months ended September 30, 2002 as compared to
the same period in 2001. This decrease is primarily the result of several
positive, non-recurring items in 2001, which include a favorable settlement of
litigation and an extraordinary gain related to the early extinguishment of
$38.9 million of the Company's July 2002 Senior Notes. Results for 2002 were
negatively impacted by an increase in impairment charges for
other-than-temporary impairment of certain debt securities. Net (loss) income
applicable to common shareholders for the nine months ended September 30, 2001
reflect the discount to book value of the purchase price of the Company's Series
A, Series B, and Series C Preferred Stock tendered pursuant to a tender offer
completed on June 8, 2001, and the associated cumulative dividend in arrears on
those tendered shares, which were cancelled. Net loss decreased during the three
months ended September 2002 as compared to the same period in 2001. This
decrease is primarily the result of additional provision for losses related to
the performance of the Company's manufactured housing loan portfolio during the
third quarter of 2001 partially offset by higher trading losses during the third
quarter of 2002. The trading loss for 2002 relates to a short position in the
5-year Treasury futures contract which was terminated during the third quarter
2002.
Net interest margin for the three and nine months ended September 30, 2002
increased to $5.4 million and $16.3 million from ($0.6) million and $13.2
million, respectively for the same period in 2001. This increase was primarily
the result of higher provision for losses in 2001, as stated above, and an
increase in the net interest spread, as discussed further below. Net interest
margin was negatively impacted during the three and nine months ended September
30, 2002 by a decline in interest earning assets versus the three and nine
months ended September 30, 2001 as discussed further below.
Net (loss) gain on sales, impairment charges and litigation declined by $10.7
million, from a gain of $1.5 million during the nine months ended September 30,
2001, to a loss of $9.2 million during the nine months ended September 30, 2002.
This decrease was primarily a result of a $7.1 million, positive, non-recurring
favorable settlement of litigation during 2001 coupled with a loss of $1.9
million in 2002 on a valuation adjustment on loans which were not included in
the SASCO 2002-9 securitization completed in April 2002, but were retained and
reported at the lower of cost or market. Net (loss) gain on sales, impairment
charges and litigation increased by $0.3 million during the three months ended
September 2002 as compared to the same period in 2001. This increase was the
result of additional impairment charges on non-performing single family loans
and losses on sales of real estate owned properties partially offset by a
decrease in impairment charges on debt securities during the third quarter 2002.
The following table summarizes the average balances of interest-earning assets
and their average effective yields, along with the average interest-bearing
liabilities and the related average effective interest rates, for each of the
periods presented.
Average Balances and Effective Interest Rates
- --------------------------------------------------------------------------------------------------------------------------
Three Months Ended September 30, Nine Months Ended September 30,
---------------------------------------------------------------------------------------------------
2002 2001 2002 2001
---------------------------------------------------------------------------------------------------
(amounts in thousands) Average Effective Average Effective Average Effective Average Effective
Balance Rate Balance Rate Balance Rate Balance Rate
---------------------------------------------------------------------------------------------------
Interest-earning
assets: (1)
Collateral for
collateralized bonds $2,286,126 7.33% $2,723,166 7.46% $2,344,647 7.34% $2,901,545 7.74%
(2) (3)
Securities 3,499 33.07 6,339 9.89 4,221 23.58 9,856 10.25
Other investments 69,892 (0.04) 35,534 14.69 74,147 (0.16) 35,837 15.14
Loans 11,319 3.74 3,386 11.36 9,630 4.26 4,432 12.74
Cash 15,069 1.53 7,642 3.62 21,235 1.51 21,687 5.11
---------------------------------------------------------------------------------------------------
Total
interest-earning $2,385,905 7.10% $2,776,067 7.55% $2,453,880 7.08% $2,973,357 7.82%
assets
===================================================================================================
Interest-bearing
liabilities:
Non-recourse debt (3) $2,139,624 5.71% $2,528,163 6.11% $2,189,094 5.67% $2,649,423 6.60%
Recourse debt -
secured by
collateralized bonds - - 8,364 5.41 - - 21,123 6.37
------------------------------------------------------------------------------------------------------------------------
2,139,624 5.71 2,536,527 6.11 2,189,094 5.67 2,670,546 6.60
Other recourse debt -
secured 7,463 8.62 58,712 8.15 34,816 8.15 75,611 8.29
---------------------------------------------------------------------------------------------------
Total
interest-bearing $2,147,087 5.72% $2,595,239 6.15% $2,223,910 5.70% $2,746,157 6.64%
liabilities
===================================================================================================
Net interest spread on
all investments (3) 1.38% 1.40% 1.37% 1.18%
============ ============ =========== ============
Net yield on average
interest-earning 1.95% 1.80% 1.91% 1.69%
assets (3)
============ ============ =========== ============
- --------------------------------------------------------------------------------------------------------------------------
<FN>
(1) Average balances exclude adjustments made in accordance with Statement of
Financial Accounting Standards No. 115, "Accounting for Certain Investments
in Debt and Equity Securities" to record available-for-sale securities at
fair value.
(2) Average balances exclude funds held by trustees of $500 and $579 for the
three months ended September 30, 2002 and 2001, respectively, and $545 and
$502 for the nine months ended September 30, 2002 and 2001, respectively.
(3) Effective rates are calculated excluding non-interest related
collateralized bond expenses. If included, the effective rate on
interest-bearing liabilities would be 5.87% and 6.25% for the three months
ended September 30, 2002 and 2001, respectively, and 5.85% and 6.76% for
the nine months ended September 30, 2002 and 2001, respectively, while the
net yield on average interest-earning assets would be 0.91% and 0.18% for
the three months ended September 30, 2002 and 2001, respectively, and 0.89%
and 0.68% for the nine months ended September 30, 2002 and 2001,
respectively.
</FN>
The net interest spread decreased 2 basis points, to 138 basis points for the
three months ended September 30, 2002 from 140 basis points for the same period
in 2001 (each basis point is 0.01%). The net interest spread for the nine months
ended September 30, 2002 improved relative to the same period in 2001, to 137
basis points from 118 basis points. The improvement in the Company's net
interest spread can be attributed to a decline in the cost of interest-bearing
liabilities from the respective 2001 period, which have declined as a result in
the decline of One-Month LIBOR due to the reduction in short-term interest rates
by the Federal Reserve. The majority of the Company's variable-rate
interest-bearing liabilities are indexed relative to One-Month LIBOR.
Interest-bearing liability costs declined 43 basis points and 94 basis points
for the three and nine-month periods ended September 30, 2002, respectively,
compared to the same period in 2001. For the three month period ended September
30, 2002, there has been a lesser decline in the effective interest-earning
yield on the collateral for collateralized bonds due to the `reset' lag and
`floors' (the loans generally adjust or `reset' every six or twelve months and
are generally limited to maximum adjustments upwards or downwards of 1% each six
months) on the approximate $555 million in single-family and manufactured
housing ARM loans that comprise a portion of the collateral for collateralized
bonds. The Company would expect its net interest spread on its interest-earning
assets for the balance of 2002 to decrease as rates on adjustable collateral
loans continue to adjust downward while rates on collateralized bonds remain
flat unless the Federal Funds target rate is adjusted downward by the Federal
Reserve during the balance of the year. The average One-Month LIBOR rate
declined to 1.82% and 1.84% for the three and nine month periods ended September
30, 2002, respectively from 3.55% and 4.45% for the three and nine month periods
ended September 30, 2001, respectively.
From September 30, 2001 to September 30, 2002, average interest-earning assets
declined $375 million, or approximately 14%. A large portion of such reduction
relates to paydowns on the Company's adjustable-rate single-family mortgage
loans. The Company's portfolio as of September 30, 2002 consists of $555.1
million of adjustable-rate assets and $1.7 billion of fixed-rate assets. The
yields for the three months ended September 30, 2002 for the adjustable-rate and
fixed-rate assets was approximately 6.68% and 8.31%, respectively. The Company
currently finances approximately $280 million of the fixed-rate assets with
non-recourse LIBOR based floating-rate liabilities. The average cost of such
floating-rate liabilities was an estimated 2.55% for the three months ended
September 30, 2002. The Company, through the use of an interest-rate swap,
converted $100 million of such floating-rate liabilities into fixed rate, in
effect locking the spread in for that portion of fixed rate assets financed with
floating rate liabilities. Under the swap, the Company pays a fixed rate of
3.73% and receives one-month LIBOR. In October 2002, the Company created an
amortizing synthetic swap through the short sale of a string of Eurodollar
futures contracts, with an initial effective notional balance of approximately
$80 million, amortizing over a three-year period.
Interest Income and Interest-Earning Assets. At September 30, 2002, $1.7 billion
of the investment portfolio consists of loans which pay a fixed-rate of
interest. Also at September 30, 2002, approximately $555.1 million of the
investment portfolio is comprised of loans or securities that have coupon rates
which adjust over time (subject to certain periodic and lifetime limitations) in
conjunction with changes in short-term interest rates. Approximately 73% of the
ARM loans underlying the ARM securities and collateral for collateralized bonds
are indexed to and reset based upon the level of six-month LIBOR; approximately
15% of the ARM loans are indexed to and reset based upon the level of the
one-year Constant Maturity Treasury (CMT) index. The following table presents a
breakdown, by principal balance, of the Company's collateral for collateralized
bonds and ARM and fixed mortgage securities by type of underlying loan. This
table excludes derivative and residual securities, other investments and loans
held for sale.
Investment Portfolio Composition (1)
($ in millions)
- ---------------------------- ------------------ ----------------- ------------------ ------------------- ------------------
Other Indices
LIBOR Based ARM CMT Based ARM Based ARM Loans Fixed-Rate Loans
Loans Loans Total
- ---------------------------- ------------------ ----------------- ------------------ ------------------- ------------------
2001, Quarter 4 $ 472.4 $ 144.6 $ 73.6 $ 1,765.8 $ 2,456.4
2002, Quarter 1 410.2 100.2 65.7 1,725.1 2,301.2
2002, Quarter 2 452.6 90.1 63.8 1,740.2 2,346.7
2002, Quarter 3 414.4 80.8 59.9 1,698.4 2,253.5
- ---------------------------- ------------------ ----------------- ------------------ ------------------- ------------------
(1) Includes only the principal amount of collateral for collateralized
bonds, ARM securities and fixed-rate mortgage securities.
The average asset yield is reduced for the amortization of premiums, net of
discounts on the investment portfolio. As indicated in the table below, net
premium on the collateral for collateralized bonds, ARM securities, fixed-rate
mortgage securities at September 30, 2001, was $16.7 million, or approximately
0.75% of the aggregate balance of collateral for collateralized bonds, ARM
securities and fixed-rate securities. The $16.7 million net premium consists of
gross collateral premiums of $40.5 million, less gross collateral discounts of
$23.8 million. Of the $40.5 million in gross premiums on collateral, $29.5
million relates to the premium on multifamily and commercial mortgage loans with
a principal balance of $790.0 million at September 30, 2002, and that have
average prepayment lockouts or yield maintenance to 2008. The net premium on
such multifamily and commercial loans is $24.0 million. Amortization expense as
a percentage of principal pay-downs has increased from 1.59% for the three
months ended September 30, 2001 to 1.84% for the same period in 2002. The
principal prepayment rate for the Company (indicated in the table below as "CPR
Annualized Rate") was approximately 21% for the three months ended September 30,
2002. CPR or "constant prepayment rate" is a measure of the annual prepayment
rate on a pool of loans.
Premium Basis and Amortization
($ in millions)
- --------------------------------------------------------------------------------------------------------------------------
Amortization
CPR Annualized Expense as a %
Amortization Rate Principal of Principal
Net Premium Expense Paydowns Paydowns
- --------------------------------------------------------------------------------------------------------------------------
2001, Quarter 4 $ 22.4 $ 1.8 24% $ 122.0 1.46%
2002, Quarter 1 20.0 2.4 26% 150.9 1.59%
2002, Quarter 2 18.3 1.5 17% 99.4 1.51%
2002, Quarter 3 16.7 1.6 21% 87.0 1.84%
- --------------------------------------------------------------------------------------------------------------------------
Credit Exposures. The Company invests in collateralized bonds or pass-through
securitization structures. Generally these securitization structures use
over-collateralization, subordination, third-party guarantees, reserve funds,
bond insurance, mortgage pool insurance or any combination of the foregoing as a
form of credit enhancement. The Company generally has retained a limited portion
of the direct credit risk in these securities. In most instances, the Company
retained the "first-loss" credit risk on pools of loans that it has securitized.
The following table summarizes the aggregate principal amount of collateral for
collateralized bonds and ARM and fixed-rate mortgage pass-through securities
outstanding; the direct credit exposure retained by the Company (represented by
the amount of over-collateralization pledged and subordinated securities owned
by the Company), net of the credit reserves and discounts maintained by the
Company for such exposure; and the actual credit losses incurred for each year.
The table includes any subordinated security retained by the Company.
The table excludes other forms of credit enhancement from which the Company
benefits, and based upon the performance of the underlying loans, may provide
additional protection against losses. These additional protections include loss
reimbursement guarantees with a remaining balance of $30.2 and a remaining
deductible aggregating $1.5 million on $100 million of securitized single family
mortgage loans which are subject to such reimbursement agreements; guarantees
aggregating $28.7 million on $304.5 million of securitized commercial mortgage
loans, whereby losses on such loans would need to exceed the respective
guarantee amount before the Company would incur credit losses; and $305.7
million of securitized single family mortgage loans which are subject to various
mortgage pool insurance policies whereby losses would need to exceed the
remaining stop loss of at least 42% on such policies before the Company would
incur losses.
Credit Reserves and Actual Credit Losses
($ in millions)
- ---------------------------------------------------------------------------------------------------------------------
Credit Exposure, Net of Credit
Outstanding Loan Credit Exposure, Net Actual Credit Reserves to Outstanding Loan
Principal Balance of Credit Reserves Losses Balance
- ----------------------------------------------------------------------------------------------------------------------
2001, Quarter 4 $ 2,588.4 $ 153.5 $ 7.1 5.93%
2002, Quarter 1 2,423.0 141.8 6.0 5.85%
2002, Quarter 2 2,437.8 114.6 8.4 4.70%
2002, Quarter 3 2,340.5 110.2 5.9 4.71%
- ----------------------------------------------------------------------------------------------------------------------
The following table summarizes single family mortgage loan, manufactured housing
loan and commercial mortgage loan delinquencies as a percentage of the
outstanding collateral balance for those securities in which the Company has
retained a portion of the direct credit risk. The delinquencies as a percentage
of the outstanding collateral balance have increased to 2.48% at September 30,
2002 from 1.75% at September 30, 2001 primarily due to two commercial loans
which have become delinquent and increased delinquencies on single family loans.
Delinquencies have declined from the second quarter 2002 of 2.78%. The Company
monitors and evaluates its exposure to credit losses and has established
reserves based upon anticipated losses, general economic conditions and trends
in the investment portfolio.
Delinquency Statistics (1)
- -------------------------------------------------------------------------------------------------------------------------
90 days and over delinquent
60 to 90 days delinquent (2) Total
- -------------------------------------------------------------------------------------------------------------------------
2001, Quarter 4 0.28% 1.99% 2.27%
2002, Quarter 1 0.76% 1.83% 2.59%
2002, Quarter 2 0.59% 2.19% 2.78%
2002, Quarter 3 0.34% 2.14% 2.48%
- -------------------------------------------------------------------------------------------------------------------------
(1) Excludes other investments and loans held for sale or securitization. (2)
Includes foreclosures, repossessions and REO.
General and Administrative Expense
The following tables present a breakdown of general and administrative expense
by category and business unit.
- --------------------------------- ------------------------------ ------------------------------- ------------------------------
Servicing Corporate/Investment Total
Portfolio Management
- --------------------------------- ------------------------------ ------------------------------- ------------------------------
2001, Quarter 1 $ 786.3 $ 1,056.9 $ 1,843.2
2001, Quarter 2 935.8 1,698.3 2,634.1
2001, Quarter 3 966.1 1,333.4 2,299.5
2001, Quarter 4 1,029.9 2,719.2 3,749.1
2002, Quarter 1 893.5 1,000.6 1,894.1
2002, Quarter 2 1,036.8 1,587.5 2,624.3
2002, Quarter 3 1,122.2 1,103.7 2,225.9
- --------------------------------- ------------------------------ ------------------------------- ------------------------------
Supplemental Information For Collateralized Bond Securities
Below is a summary as of September 30, 2002, by each series where the fair value
exceeds $0.5 million of the Company's net investment in collateralized bond
securities. The tables that follow are meant to show the Company's net economic
investment in each of the securities presented below, and is not meant to
present the Company's investment in collateral for collateralized bonds or
collateralized bonds in accordance with generally accepted accounting principles
applicable to the Company's transactions. The Company master services four of
its collateralized bond securities. Structured Asset Securitization Corporation
(SASCO) 2002-09 is master-serviced by Wells Fargo Bank. CCA One Series 2 and
Series 3 are master-serviced by Bank of New York. Monthly payment reports for
those securities master-serviced by the Company may be found on the Company's
website at www.dynexcapital.com.
- ---------------------------------------------------------------------------------------------------------------------------
(amounts in thousands) Principal balance
Principal balance of collateralized Principal Amortized
Collateralized bond of collateral bonds outstanding balance of basis of net
Series (1) Collateral Type pledged to third parties net investment investment
- ---------------------------------------------------------------------------------------------------------------------------
MERIT Series 11A Debt securities backed by
Single-family loans and
Manufactured housing loans $ 348,766 $ 312,845 $ 35,921 $ 39,167
MERIT Series 12-1 Manufactured housing loans 260,735 234,853 25,882 23,564
MERIT Series 13 Manufactured housing loans 315,189 278,939 36,250 31,766
SASCO 2002-9 Single family loans 518,244 511,322 6,922 14,849
MCA One Series 1 Commercial mortgage loans 83,022 78,279 4,743 (400)
CCA One Series 2 Commercial mortgage loans 296,194 274,091 22,103 8,234
CCA One Series 3 Commercial mortgage loans 410,947 364,413 46,534 54,736
- ---------------------------------------------------------------------------------------------------------------------------
$ 2,233,097 $ 2,054,742 $ 178,355 $ 171,916
- ---------------------------------------------------------------------------------------------------------------------------
(1) MERIT stands for MERIT Securities Corporation; MCA stands for Multifamily
Capital Access One, Inc. (now known as Commercial Capital Access One,
Inc.); and CCA stands for Commercial Capital Access One, Inc. Each such
entity is a wholly owned limited purpose subsidiary of the Company. SASCO
stands for Structured Asset Securitization Corporation.
The following table summarizes the fair value of the Company's net investment in
collateralized bond securities, the various assumptions made in estimating value
and the cash flow received from such net investment during the nine months ended
September 30, 2002.
- ----------------------------------------------------------------------------------------------------------------------------
Fair Value Assumptions ($ in thousands)
------------------------------------------------------------------------
Cash flows
Collateralized Weighted-average Projected cash flow Fair value of received
Bond Series prepayment speeds Losses termination date net in 2002,
investment (1) net (2)
- ----------------------------------------------------------------------------------------------------------------------------
MERIT Series 11A 35%-45% CPR on SF 3.9% annually on Anticipated final maturity $ 37,068 $ 19,817
securities; 12% CPR MH securities in 2025
on MH securities
MERIT Series 12-1 11% CPR 3.8% annually on Anticipated final maturity 1,905 807
MH Loans in 2027
MERIT Series 13 12% CPR 4.6% annually Anticipated final maturity 2,130 919
in 2026
SASCO 2002-9 (5) 30% CPR 0.20% annually Anticipated call date in 28,397 4,618
2005
MCA One Series 1 (3) Losses of $2,096 Anticipated final maturity 1,728 491
in 2004, $1,500 in in 2018
2006 and $1,000 in
2008
CCA One Series 2 (4) 0.60% annually Anticipated call date in 9,768 1,292
beginning in 2003 2012
CCA One Series 3 (4) 0.60% annually Anticipated call date in 21,164 2,009
beginning in 2003 2009
- ----------------------------------------------------------------------------------------------------------------------------
$ 102,160 $29,953
- ----------------------------------------------------------------------------------------------------------------------------
(1) Calculated as the net present value of expected future cash flows,
discounted at 16%. Expected cash flows were based on the level of interest
rates as of September 30, 2002, and incorporates the resetting of the
interest rates on the adjustable rate assets to a level consistent with the
respective index level as of September 30, 2002. Increases or decreases in
interest rates and index levels from September 30, 2002 would impact the
calculation of fair value, as would differences in actual prepayment speeds
and credit losses versus the assumptions set forth above.
(2) Cash flows received by the Company during the nine months ended September
30, 2002, equal to the excess of the cash flows received on the collateral
pledged, over the cash flow requirements of the collateralized bond
security
(3) Computed at 0% CPR through September 2008, then 20% CPR thereafter (4)
Computed at 0% CPR until the respective call date (5) SASCO 2002-9 was
completed on April 25, 2002.
The following table compares the fair value of these investments at various
discount rates, but otherwise using the same assumptions as set forth for the
two immediately preceding tables:
- -----------------------------------------------------------------------------------------------------------------------------
Fair Value of Net Investment
- -----------------------------------------------------------------------------------------------------------------------------
Collateralized Bond Series 12% 16% 20% 25%
- ------------------------------------- --------------------- --------------------- -------------------- ---------------------
MERIT Series 11A $ 40,792 $ 37,068 $ 33,900 $ 30,585
MERIT Series 12-1 1,794 1,905 1,953 1,956
MERIT Series 13 2,004 2,130 2,186 2,194
SASCO 2002-9 30,161 28,397 26,762 24,886
MCA One Series 1 2,046 1,728 1,482 1,248
CCA One Series 2 12,102 9,768 8,059 6,523
CCA One Series 3 25,661 21,164 17,603 14,159
- ------------------------------------- --------------------- --------------------- --------------------- ---------------------
$ 114,560 $ 102,160 $ 91,945 $ 81,551
- ------------------------------------- --------------------- --------------------- --------------------- ---------------------
LIQUIDITY AND CAPITAL RESOURCES
The Company has historically financed its operations from a variety of sources.
These sources have included cash flow generated from the investment portfolio,
including net interest income and principal payments and prepayments. In
addition, while the Company was operating its loan production operations, the
Company generated cash flow from common stock offerings including through the
dividend reinvestment plan, short-term warehouse lines of credit with commercial
and investment banks, repurchase agreements and the capital markets via the
asset-backed securities market (which provides long-term non-recourse funding of
the investment portfolio via the issuance of collateralized bonds). Since 1999,
the Company has focused on substantially reducing its recourse debt and
minimizing its capital requirements. Effective July 15, 2002, with the repayment
in full of the July 2002 Senior Notes, the Company has essentially repaid all
remaining outstanding recourse debt. Furthermore, the Company's investment
portfolio continues to provide positive cash flow, which can be utilized by the
Company for reinvestment or other purposes. Should the Company's future
operations require access to sources of capital such as lines of credit and
repurchase agreements, the Company believes that it would be able to access such
sources.
Non-recourse Debt. Dynex, through limited-purpose finance subsidiaries, has
issued non-recourse debt in the form of collateralized bonds to fund the
majority of its investment portfolio. The obligations under the collateralized
bonds are payable solely from the collateral for collateralized bonds and are
otherwise non-recourse to Dynex. The maturity of each class of collateralized
bonds is directly affected by the rate of principal prepayments on the related
collateral. Each series is also subject to redemption according to specific
terms of the respective indentures, generally on the earlier of a specified date
or when the remaining balance of the bonds equals 35% or less of the original
principal balance of the bonds. At September 30, 2002, Dynex had $2.1 billion of
collateralized bonds outstanding.
Recourse Debt. On July 15, 2002, the Company satisfied and discharged the entire
indebtedness on the Senior Notes. Collateral pledged to secure the Senior Notes
was released and the Company was released from all associated operating and
distribution restrictions. Remaining recourse debt is comprised of $94,000 of
capitalized leases for office furniture and equipment.
Table 1
Non-GAAP Net Balance Sheet (1)
($ in thousands)
September 30,
2002
-----------------
ASSETS
Investments:
Collateral for collateralized bonds $ 2,247,276
Less: Collateralized bonds issued (2,098,405)
-----------------
Net investment in collateralized bond securities 148,871
Other investments 56,516
Securities 7,307
Loans 12,454
-----------------
225,148
Cash 6,416
Other assets 7,854
-----------------
$ 239,418
=================
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Notes payable $ 94
Other liabilities 5,182
-----------------
5,276
-----------------
Shareholders' Equity:
Preferred stock, par value $.01 per share 94,586
Common stock, par value $.01 per share 109
Additional paid-in capital 364,743
Accumulated other comprehensive loss (19,612)
Accumulated deficit (205,684)
-----------------
234,142
-----------------
$ 239,418
=================
(1) This presents the balance sheet where the collateralized bonds are "netted"
against the collateral for collateralized bonds. This presentation does not
comply with generally accepted accounting principles applicable to the
Company's transactions. Management has included this table to illustrate
the Company's net investment in the collateralized bonds, which represents
its economic interest in the collateralized bond securities.
FORWARD-LOOKING STATEMENTS
Certain written statements in this Form 10-Q made by the Company, that are not
historical fact constitute "forward-looking statements" within the meaning of
Section 27A of the Securities Act of 1933, as amended, and Section 21E of the
Securities Exchange Act of 1934, as amended. Such forward-looking statements may
involve factors that could cause the actual results of the Company to differ
materially from historical results or from any results expressed or implied by
such forward-looking statements. The Company cautions the public not to place
undue reliance on forward-looking statements, which may be based on assumptions
and anticipated events that do not materialize. The Company does not undertake,
and the Securities Litigation Reform Act specifically relieves the Company from,
any obligation to update any forward-looking statements.
Factors that may cause actual results to differ from historical results or from
any results expressed or implied by forward-looking statements include the
following:
Economic Conditions. The Company is affected by general economic conditions. The
risk of defaults and credit losses could increase during an economic slowdown or
recession. This could have an adverse effect on the performance of the Company's
securitized loan pools and on the Company's overall financial performance.
Capital Resources. Cash flows from our portfolio are subject to fluctuation due
to changes in interest rates, repayment rates and default rates and related
losses.
Interest Rate Fluctuations. The Company's income depends on its ability to earn
greater interest on its investments than the interest cost to finance these
investments. Interest rates in the markets served by the Company generally rise
or fall with interest rates as a whole. A majority of the loans currently
pledged as collateral for collateralized bonds by the Company are fixed-rate.
The Company currently finances these fixed-rate assets through non-recourse
debt, approximately $280 million of which is variable rate. Through the use of
interest rate swaps and synthetic swaps, the Company has reduced this exposure
by approximately $180 million. In addition, a significant amount of the
investments held by the Company is adjustable-rate collateral for collateralized
bonds. These investments are financed through non-recourse long-term
collateralized bonds. The net interest spread for these investments could
decrease materially during a period of rapidly rising short-term interest rates,
since the investments generally have interest rates which reset on a delayed
basis and have periodic interest rate caps, whereas the related borrowing have
no delayed resets or such interest rate caps.
Defaults. Defaults by borrowers on loans securitized by the Company and where it
has retained credit risk may have an adverse impact on the Company's financial
performance, if actual credit losses differ materially from estimates made by
the Company. The allowance for losses is calculated on the basis of historical
experience and management's best estimates. Actual default rates or loss
severity may differ from the Company's estimate as a result of economic
conditions. In particular, the default rate and loss severity on the Company's
portfolio of manufactured housing loans has been higher than initially
estimated. Actual defaults on ARM loans may increase during a rising interest
rate environment. The Company believes that its reserves are adequate for such
risks on loans that were delinquent as of September 30, 2002.
Third-party Servicers. Third-party servicers service the majority of the
Company's investment portfolio. To the extent that these servicers are
financially impaired, the performance of the Company's investment portfolio may
deteriorate, and defaults and credit losses may be greater than estimated.
Prepayments. Prepayments by borrowers on loans securitized by the Company may
have an adverse impact on the Company's financial performance. Prepayments are
expected to increase during a declining interest rate or flat yield curve
environment. The Company's exposure to rapid prepayments is primarily (i) the
faster amortization of premium on the investments and, to the extent applicable,
amortization of bond discount, and (ii) the replacement of investments in its
portfolio with lower yield securities.
Depository Institution Strategy. The Company intends to explore the formation or
acquisition of a depository institution. However, the pursuit of this strategy
is subject to the outcome of the Company's investigation. No business plan has
been prepared for such strategy. Therefore, any forward-looking statement made
is subject to the outcome of a variety of factors that are unknown at this time.
Competition. The financial services industry is a highly competitive market.
Increased competition in the market has adversely affected the Company, and may
continue to do so.
Regulatory Changes. The Company's businesses as of September 30, 2002 are not
subject to any material federal or state regulation or licensing requirements.
However, changes in existing laws and regulations or in the interpretation
thereof, or the introduction of new laws and regulations, could adversely affect
the Company and the performance of the Company's securitized loan pools or its
ability to collect on its delinquent property tax receivables.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Market risk generally represents the risk of loss that may result from the
potential change in the value of a financial instrument due to fluctuations in
interest and foreign exchange rates and in equity and commodity prices. Market
risk is inherent to both derivative and non-derivative financial instruments,
and accordingly, the scope of the Company's market risk management extends
beyond derivatives to include all market risk sensitive financial instruments.
As a financial services company, net interest margin comprises the primary
component of the Company's earnings. Additionally, cash flow from the investment
portfolio represents the primary component of the Company's incoming cash flow.
The Company is subject to risk resulting from interest rate fluctuations to the
extent that there is a gap between the amount of the Company's interest-earning
assets and the amount of interest-bearing liabilities that are prepaid, mature
or re-price within specified periods.
The Company monitors the aggregate cash flow, projected net yield and market
value of its investment portfolio under various interest rate and prepayment
assumptions. While certain investments may perform poorly in an increasing or
decreasing interest rate environment, other investments may perform well, and
others may only be minimally impacted.
The Company focuses on the sensitivity of its cash flow, and measures such
sensitivity to changes in interest rates. Changes in interest rates are defined
as instantaneous, parallel, and sustained interest rate movements in 100 basis
point increments. The Company estimates its net interest margin cash flow for
the next twenty-four months assuming no changes in interest rates from those at
period end. Once the base case has been estimated, cash flows are projected for
each of the defined interest rate scenarios. Those scenario results are then
compared against the base case to determine the estimated change to cash flow.
The following table summarizes the Company's net interest margin cash flow
sensitivity analysis as of September 30, 2002. This analysis represents
management's estimate of the percentage change in net interest margin cash flow
given a parallel shift in interest rates, as discussed above. Other investments
are excluded from this analysis because they are not interest rate sensitive.
The "Base" case represents the interest rate environment as it existed as of
September 30, 2002. At September 30, 2002, one-month LIBOR was 1.81% and
six-month LIBOR was 1.71%. The analysis is heavily dependent upon the
assumptions used in the model. The effect of changes in future interest rates,
the shape of the yield curve or the mix of assets and liabilities may cause
actual results to differ significantly from the modeled results. In addition,
certain financial instruments provide a degree of "optionality." The most
significant option affecting the Company's portfolio is the borrowers' option to
prepay the loans. The model applies prepayment rate assumptions representing
management's estimate of prepayment activity on a projected basis for each
collateral pool in the investment portfolio. The model applies the same
prepayment rate assumptions for all five cases indicated below. The extent to
which borrowers utilize the ability to exercise their option may cause actual
results to significantly differ from the analysis. Furthermore, the projected
results assume no additions or subtractions to the Company's portfolio, and no
change to the Company's liability structure. Historically, there have been
significant changes in the Company's assets and liabilities, and there are
likely to be such changes in the future.
- ------------------------------ ---------- ---------------------------
% Change in Net
Basis Point Interest Margin
Increase (Decrease) Cash Flow From
in Interest Rates Base Case
- ------------------------------ ---------------------------
+200 (13.3)%
+100 (6.8)%
Base -
-100 8.9%
-200 19.6%
- ------------------------------ ---------- ---------------------------
Approximately $555 million of the Company's investment portfolio as of September
30, 2002 is comprised of loans or securities that have coupon rates which adjust
over time (subject to certain periodic and lifetime limitations) in conjunction
with changes in short-term interest rates. Approximately 73% and 15% of the ARM
loans underlying the Company's ARM securities and collateral for collateralized
bonds are indexed to and reset based upon the level of six-month LIBOR and
one-year CMT, respectively.
Generally, during a period of rising short-term interest rates, the Company's
net interest spread earned on its investment portfolio will decrease. The
decrease of the net interest spread results from (i) the lag in resets of the
ARM loans underlying the ARM securities and collateral for collateralized bonds
relative to the rate resets on the associated borrowings and (ii) rate resets on
the ARM loans which are generally limited to 1% every six months or 2% every
twelve months and subject to lifetime caps, while the associated borrowings have
no such limitation. As short-term interest rates stabilize and the ARM loans
reset, the net interest margin may be restored to its former level as the yields
on the ARM loans adjust to market conditions. Conversely, net interest margin
may increase following a fall in short-term interest rates. This increase may be
temporary as the yields on the ARM loans adjust to the new market conditions
after a lag period. In each case, however, the Company expects that the increase
or decrease in the net interest spread due to changes in the short-term interest
rates to be temporary. The net interest spread may also be increased or
decreased by the proceeds or costs of interest rate swap, cap or floor
agreements, to the extent that the Company has entered into such agreements.
The remaining portion of the Company's investment portfolio as of September 30,
2002, approximately $1.7 billion, is comprised of loans or securities that have
coupon rates that are fixed. The Company has substantially limited its interest
rate risk on such investments through (i) the issuance of fixed-rate
collateralized bonds which approximated $1.2 billion as of September 30, 2002,
and (ii) shareholders' equity, which was $234.1 million. Overall, the Company's
interest rate risk is primarily related both to the rate of change in short term
interest rates, and to the level of short-term interest rates.
In addition, the Company has entered into an interest rate swap to mitigate its
interest rate risk exposure on $100 million in notional value of its variable
rate bonds. The swap agreement has been constructed such that the Company will
pay interest at a fixed rate of 3.73% on the notional amount and will receive
interest based on one month LIBOR on the same notional amount. The impact on
cash flows from the interest rate swap has been included in the table above for
each of the respective interest-rate scenarios. An additional approximate $80
million of floating-rate liabilities are being converted to a fixed rate through
a synthetic swap created by the short sale of a string of Eurodollar futures
contract in October, 2002. The synthetic swap has an estimated duration of 1.5
years.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
GLS Capital, Inc. ("GLS"), a subsidiary of the Company, together with the County
of Allegheny, Pennsylvania ("Allegheny County"), were defendants in a lawsuit in
the Commonwealth Court of Pennsylvania (the "Commonwealth Court") wherein the
plaintiffs challenged the right of Allegheny County and GLS to collect certain
interest, costs and expenses related to delinquent property tax receivables in
Allegheny County. This lawsuit was related to the purchase by GLS of delinquent
property tax receivables from Allegheny County in 1997, 1998, and 1999 for
approximately $58.3 million. In July 2001, the Commonwealth Court ruling
addressed, among other things, (i) the right of the Company to charge to the
delinquent taxpayer a rate of interest of 12% versus 10% on the collection of
its delinquent property tax receivables, (ii) the charging of attorney's fees to
the delinquent taxpayer for the collection of such tax receivables, and (iii)
the charging to the delinquent taxpayer of certain other fees and costs. The
Commonwealth Court remanded for further consideration to the Court of Common
Pleas items (i) and (iii), and ruled that neither Allegheny County nor GLS had
the right to charge attorney's fees to the delinquent taxpayer related to the
collection of such tax receivables, reversing the Court of Common Pleas
decision. The Pennsylvania Supreme Court has accepted the Application for
Extraordinary Jurisdiction filed by Allegheny County and GLS. No damages have
been claimed in the action; however, the decision may impact the ultimate amount
recoverable on the delinquent property tax receivables, including attorney fees
incurred in the collection process.
The Company is also subject to other lawsuits or claims which have arisen in the
ordinary course of its business, some of which seek damages in amounts which
could be material to the financial statements. Although no assurance can be
given with respect to the ultimate outcome of any such litigation or claim, the
Company believes the resolution of such lawsuits or claims will not have a
material effect on the Company's consolidated balance sheet, but could
materially affect consolidated results of operations in a given year.
Item 2. Changes in Securities and Use of Proceeds
None
Item 3. Defaults Upon Senior Securities
Not applicable
Item 4. Controls And Procedures
(a) Evaluation of disclosure controls and procedures.
As required by Rule 13a-15 under the Exchange Act, within 90 days prior to the
filing date of this quarterly report (the "Evaluation Date"), the Company
carried out an evaluation of the effectiveness of the design and operation of
the Company's disclosure controls and procedures. This evaluation was carried
out under the supervision and with the participation of the Company's
management. Based upon that evaluation, the Company's management concluded that
the Company's disclosure controls and procedures are effective. Disclosure
controls and procedures are controls and other procedures that are designed to
ensure that information required to be disclosed in the Company's reports filed
or submitted under the Exchange Act is recorded, processed, summarized and
reported within the time periods specified in the SEC's rules and forms.
Disclosure controls and procedures include, without limitation, controls and
procedures designed to ensure that information required to be disclosed in the
Company's reports filed under the Exchange Act is accumulated and communicated
to management, including the Company's management, as appropriate, to allow
timely decisions regarding required disclosures.
(b) Changes in internal controls.
There were no significant changes in the Company's internal controls or in other
factors that could significantly affect the Company's internal controls
subsequent to the Evaluation Date, nor any significant deficiencies or material
weaknesses in such internal controls requiring corrective actions.
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
3.1 Articles of Incorporation of the Registrant, as amended,
effective as of February 4, 1988. (Incorporated herein by
reference to the Company's Amendment No. 1 to the
Registration Statement on Form S-3 (No. 333-10783) filed
March 21, 1997.)
3.2 Amended Bylaws of the Registrant (Incorporated by reference
to the Company's Annual Report on Form 10-K for the year
ended December 31, 1992, as amended.)
3.3 Amendment to the Articles of Incorporation, effective
December 29, 1989 (Incorporated herein by reference to the
Company's Amendment No. 1 to the Registration Statement on
Form S-3 (No. 333-10783) filed March 21, 1997.)
3.4 Amendment to Articles of Incorporation, effective June 27,
1995 (Incorporated herein by reference to the Company's
Current Report on Form 8-K (File No. 1-9819), dated
June 26, 1995.)
3.5 Amendment to Articles of Incorporation, effective
October 23, 1995, (Incorporated herein by reference to the
Company's Current Report on Form 8-K (File No. 1-9819),
dated October 19, 1995.)
3.6 Amendment to the Articles of Incorporation,
effective October 9, 1996, (Incorporated herein
by reference to the Registrant's Current Report
on Form 8-K, filed October 15, 1996.)
3.7 Amendment to the Articles of Incorporation,
effective October 10, 1996, (Incorporated herein
by reference to the Registrant's Current Report
on Form 8-K, filed October 15, 1996.)
3.8 Amendment to the Articles of Incorporation, effective
October 19, 1992. (Incorporated herein by reference to the
Company's Amendment No. 1 to the Registration Statement on
Form S-3 (No. 333-10783) filed March 21, 1997.)
3.9 Amendment to the Articles of Incorporation, effective
August 17, 1992. (Incorporated herein by reference to the
Company's Amendment No. 1 to the Registration Statement on
Form S-3 (No. 333-10783) filed March 21, 1997.)
3.10 Amendment to Articles of Incorporation, effective April 25,
1997. (Incorporated herein by reference to the Company's
Quarterly Report on Form 10-Q for the quarter ended
March 31, 1997.)
3.11 Amendment to Articles of Incorporation, effective May 5,
1997. (Incorporated herein by reference to the Company's
Quarterly Report on Form 10-Q for the quarter ended
March 31, 1997.)
3.12 Amendments to the Bylaws of the Company.
99.1 Certification of Principal Executive Officer pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
99.2 Certification of Chief Financial Officer pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
(b) Reports on Form 8-K
Current report on Form 8-K as filed with the Commission on
August 20, 2002, regarding Certification of Chief Financial
Officer pursuant to Section 906 of the Sarbanes-Oxley Act of
2002 Item 9 Regulation FD disclosure for in connection with
the Quarterly Report of Dynex Capital, Inc. on Form 10-Q for
the quarter ended June 30, 2002.
Current report on Form 8-K as filed with the Commission on
September 19, 2002, regarding Certification of Chief Financial
Officer pursuant to Section 906 of the Sarbanes-Oxley Act of
2002 Item 9 Regulation FD disclosure for in connection with
the Annual Report of Dynex Capital, Inc. on Form 10-K/A for
the fiscal year ended December 31, 2001.
Current report on Form 8-K as filed with the Commission on
October 7, 2002, regarding Certification of Chief Financial
Officer pursuant to Section 906 of the Sarbanes-Oxley Act of
2002 Item 9 Regulation FD disclosure for in connection with
the Quarterly Report of Dynex Capital, Inc. on Form 10-Q/A for
the quarter ended March 31, 2002.
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.
DYNEX CAPITAL, INC.
By: /s/ Stephen J. Benedetti
---------------------------------------
Stephen J. Benedetti
Executive Vice President
(authorized officer of registrant,
principal accounting officer)
Dated: November 14, 2002
CERTIFICATION
PURSUANT TO 17 CFR 240.13a-14
PROMULGATED UNDER
SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
I, Stephen L. Benedetti, Jr., certify that:
1. I have reviewed this quarterly report on Form 10-Q of Dynex
Capital, Inc.;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material
fact necessary to make the statements made, in light of the
circumstances under which such statements were made, not
misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other
financial information included in this quarterly report, fairly
present in all material respects the financial condition, results
of operations and cash flows of the registrant as of, and for, the
periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible
for establishing and maintaining disclosure controls and
procedures (as defined in Exchange Act Rules 13a-14 and 15d-14)
for the registrant and we have:
(a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
(b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this quarterly report (the "Evaluation Date"); and
(c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed,
based on our most recent evaluation, to the registrant's auditors
and the audit committee of registrant's board of directors (or
persons performing the equivalent function):
(a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
(b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in
this quarterly report whether or not there were significant
changes in internal controls or in other factors that could
significantly affect internal controls subsequent to the date of
our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.
Date: November 14, 2002 /s/ Stephen L. Benedetti, Jr.
-----------------------------
Stephen L. Benedetti, Jr.
Principal Executive Officer
CERTIFICATION
PURSUANT TO 17 CFR 240.13a-14
PROMULGATED UNDER
SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
I, Stephen L. Benedetti, Jr., certify that:
1. I have reviewed this quarterly report on Form 10-Q of Dynex
Capital, Inc.;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material
fact necessary to make the statements made, in light of the
circumstances under which such statements were made, not
misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other
financial information included in this quarterly report, fairly
present in all material respects the financial condition, results
of operations and cash flows of the registrant as of, and for, the
periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible
for establishing and maintaining disclosure controls and
procedures (as defined in Exchange Act Rules 13a-14 and 15d-14)
for the registrant and we have:
(a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
(b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this quarterly report (the "Evaluation Date"); and
(c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed,
based on our most recent evaluation, to the registrant's auditors
and the audit committee of registrant's board of directors (or
persons performing the equivalent function):
(a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
(b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in
this quarterly report whether or not there were significant
changes in internal controls or in other factors that could
significantly affect internal controls subsequent to the date of
our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.
Date: November 14, 2002
/s/ Stephen L. Benedetti, Jr.
Stephen L. Benedetti, Jr.
Chief Financial Officer
Exhibit 99.1
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of Dynex Capital, Inc. (the
"Company") on Form 10-Q for the quarter ending September 30, 2002, as filed with
the Securities and Exchange Commission on the date hereof (the "Report"), I,
Stephen J. Benedetti, the Principal Executive Officer of the Company, certify,
pursuant to and for purposes of 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002, that to my knowledge:
(1) The Report fully complies with the requirements of Section 13(a) or
15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all
material respects, the financial condition and results of
operations of the Company.
/s/ Stephen J. Benedetti
Stephen J. Benedetti
Principal Executive Officer
November 14, 2002
Exhibit 99.2
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of Dynex Capital, Inc. (the
"Company") on Form 10-Q for the quarter ending September 30, 2002, as filed with
the Securities and Exchange Commission on the date hereof (the "Report"), I,
Stephen J. Benedetti, the Chief Financial Officer of the Company, certify,
pursuant to and for purposes of 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002, that to my knowledge:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d)
of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material
respects, the financial condition and results of operations of the Company.
/s/ Stephen J. Benedetti
Stephen J. Benedetti
Chief Financial Officer
November 14, 2002