U. S. SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
Form 10-QSB
/X/ QUARTERLY REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the quarterly period ended September 30, 2004
Or
/_/ TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the transition period from _________ to ____________
Commission File No. 333-93475
CORNERSTONE MINISTRIES INVESTMENTS, INC.
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(Exact name of small business issuer as specified in its charter)
Georgia 58-2232313
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(State or other jurisdiction (IRS Employer Identification Number)
of incorporation or organization)
2450 Atlanta Highway, Suite 904, Cumming, GA 30040
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(Address of principal executive office) (Zip Code)
Issuer's telephone number, including area code: (678)-455-1100
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Former name, address and former fiscal year, if changed since last report.
Check whether the issuer (1) filed all reports required to be filed by the
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 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 past 90 days.
Yes X No__
-
As of September 30, 2004, there were issued and outstanding 853,123 shares of
the common stock of the issuer.
Transitional Small Business Disclosure Format (Check one): Yes [ ] No [X]
1
Cornerstone Ministries Investments, Inc.
Index
Page
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Form 10-QSB Title Page 1
Index 2
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Accountant's Review Report F-1
Balance Sheets as of September 30, 2004 and 2003 F-2
Statements of Operations for the Three and
Nine Months ended September 30, 2004 and 2003 F-3
Statements of Changes in Shareholders' Equity
for the Nine Months ended September 30, 2004 and 2003 F-4
Statements of Cash Flows
for the Nine Months ended September 30, 2004 and 2003 F-5
Notes to Financial Statements F-6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operation 3
Item 3. Controls and Procedures 9
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 9
Item 2. Changes in Securities and Use of Proceeds 9
Item 3. Defaults on Senior Securities 9
Item 4. Submission of Matters to a Vote of Security Holders 9
Item 5. Other Information 9
Item 6. Exhibits and Reports on Form 8-K 9
Signatures 9
Certifications 10
2
ROBERT N. CLEMONS, CPA, PA
PO BOX 1670
DELAND, FLORIDA 32721-1670
To The Board of Directors
Cornerstone Ministries Investments, Inc.
We have reviewed the accompanying balance sheets of Cornerstone Ministries
Investments, Inc. as of September 30, 2004 and 2003 and the related statements
of operations, changes in shareholder's equity, and cash flows for the
three-month and nine-month periods then ended. These interim financial
statements are the responsibility of the Company's management.
We conducted our review in accordance with the standards of the Public Company
Accounting Oversight Board (United States). A review of interim financial
information consists principally of applying analytical procedures and making
inquiries of persons responsible for financial and accounting matters. It is
substantially less in scope than an audit in accordance with the standards of
the Public Company Accounting Oversight Board, the objective of which is the
expression of an opinion regarding the financial statements taken as a whole.
Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to the accompanying interim financial statements for them to be in
conformity with U.S. generally accepted accounting principles.
The financial statements for the year ended December 31, 2003, including the
balance sheet as of December 31, 2003 was audited by us and we expressed an
unqualified opinion on them in our report dated March 18, 2004, but we have not
performed any auditing procedures since that date.
/s/ Robert N. Clemons, CPA, PA
DeLand, Florida
October 27, 2004
F-1
CORNERSTONE MINISTRIES INVESTMENTS, INC.
BALANCE SHEETS
As of September 30, 2004, September 30, 2003 and December 31, 2003
(Unaudited)
(Consolidated - See Note 18)
Unaudited Unaudited Audited
9/30/2004 9/30/2003 12/31/2003
------------ ------------ ------------
ASSETS
Cash and cash equivalents $ 9,257,555 $ 5,566,854 $ 4,389,851
Loans in process 194,755 881,996 118,504
Real estate loans, net 50,443,720 46,894,107 47,877,277
Real estate joint venture investments, net 59,470,960 32,461,754 34,846,223
Bond holdings and accrued interest 3,985,667 5,197,333 4,001,333
Property and equipment, net 828,241 887,381 873,101
Refundable income taxes 5,673 286,953 42,617
Goodwill 450,997 450,997 450,997
Unamortized debt issue costs 2,621,638 1,853,470 1,772,631
Real estate held for investment 340,000 340,000 340,000
Other assets 57,957 118,746 15,813
------------ ------------ ------------
TOTAL ASSETS $127,657,163 $ 94,939,591 $ 94,728,347
============ ============ ============
LIABILITIES
Investor certificates and accrued interest $115,051,868 $ 84,122,059 $ 84,562,645
Mortgage participations and accrued interest 6,212,142 6,512,197 6,132,809
Accounts and other payables 115,894 235,762 267,806
Loan guarantee obligation 104,000 -- --
Common dividends payable -- -- 169,087
Building mortgages 608,540 182,450 180,194
Capital lease obligation 9,453 14,915 13,632
Deferred taxes payable 150,729 292,545 171,443
------------ ------------ ------------
TOTAL LIABILITIES 122,252,626 91,359,928 91,497,616
------------ ------------ ------------
SHAREHOLDERS' EQUITY
Series A Convertible Preferred Stock, no par
value; 235,000 shares authorized, no
shares issued and outstanding -- -- --
Common Stock, $0.01 par value; 10 million shares authorized;
853,123, 531,532 and 531,532 shares issued and outstanding 8,531 5,315 5,315
Paid in capital 5,337,749 3,297,435 3,297,435
Retained earnings 58,257 350,161 1,229
Treasury stock -- (73,248) (73,248)
------------ ------------ ------------
TOTAL SHAREHOLDERS' EQUITY 5,404,537 3,579,663 3,230,731
------------ ------------ ------------
TOTAL LIABILITIES AND
SHAREHOLDERS' EQUITY $127,657,163 $ 94,939,591 $ 94,728,347
============ ============ ============
<FN>
SEE ACCOMPANYING NOTES AND ACCOUNTANT'S REVIEW REPORT F-2
</FN>
CORNERSTONE MINISTRIES INVESTMENTS, INC.
STATEMENTS OF OPERATIONS
For the three and nine months ended September 30, 2004 and 2003
(Unaudited)
(Consolidated - (Consolidated -
See Note 18) See Note 18)
3 Mo. Ended 3 Mo. Ended 9 Mo. Ended 9 Mo. Ended
9/30/2004 9/30/2003 9/30/2004 9/30/2003
----------- ----------- ----------- -----------
REVENUES
Real estate loan and joint venture interest and fees $ 3,165,898 $ 2,711,757 $ 8,764,245 $ 6,619,794
Loan participation and other income 135,706 1,306,658 346,674 1,480,891
----------- ----------- ----------- -----------
TOTAL REVENUES 3,301,604 4,018,415 9,110,919 8,100,685
----------- ----------- ----------- -----------
EXPENSES
Investor interest expense 2,502,518 1,930,656 6,627,673 5,285,031
Loan loss expense 20,000 -- 50,000 --
Marketing expenses 274,995 161,370 735,709 448,595
Salaries, payroll taxes, and benefits 269,575 225,504 898,671 696,719
Operating expenses 198,284 287,151 588,332 743,537
----------- ----------- ----------- -----------
TOTAL EXPENSES 3,265,372 2,604,681 8,900,385 7,173,882
----------- ----------- ----------- -----------
Income Before Provision For Income Taxes 36,232 1,413,734 210,534 926,803
Income Tax (Benefit) Provision (13,123) 489,829 (1,560) 268,078
----------- ----------- ----------- -----------
NET INCOME $ 49,355 $ 923,905 $ 212,094 $ 658,725
=========== =========== =========== ===========
Basic and Diluted Earnings
per Common Share $ 0.06 $ 1.78 $ 0.31 $ 1.26
<FN>
SEE ACCOMPANYING NOTES AND ACCOUNTANT'S REVIEW REPORT F-3
</FN>
CORNERSTONE MINISTRIES INVESTMENTS, INC.
STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
For the nine months ended September 30, 2004 and 2003
(Unaudited)
The statement for the nine months ended September 30, 2003 was part of a
consolidated financial statement - see Note 18.
RETAINED
COMMON STOCK: PAID-IN PREFERRED EARNINGS TREASURY STOCK: TOTAL
SHARES AMOUNT CAPITAL STOCK (DEFICIT) SHARES STOCK EQUITY
-------- --------- ------------ ----------- ---------- ---------- ---------- -----------
BALANCE, DECEMBER 31, 2002 530,947 $ 5,309 $ 3,293,641 $ -- $(139,479) $ -- $3,159,471
Net income 658,725 658,725
Common stock issued 585 6 3,794 3,800
Dividend declared (169,085) (169,085)
Treasury stock acquired (11,269) (73,248) (73,248)
-------- --------- ------------ ----------- ---------- ---------- ---------- -----------
BALANCE, SEPT. 30, 2003 531,532 $ 5,315 $ 3,297,435 $ -- $ 350,161 (11,269) $ (73,248) $3,579,663
======== ========= ============ =========== ========== ========== ========== ===========
BALANCE, DECEMBER 31, 2003 531,532 $ 5,315 $ 3,297,435 $ -- $ 1,229 (11,269) $ (73,248) $3,230,731
Net income 212,094 212,094
Common stock issued 321,591 3,216 2,087,125 2,090,341
Common stock issuance costs (46,811) (46,811)
Dividend declared (155,066) (155,066)
Treasury stock sold 11,269 73,248 73,248
-------- --------- ------------ ----------- ---------- ---------- ---------- -----------
BALANCE, SEPT. 30, 2004 853,123 $ 8,531 $ 5,337,749 $ -- $ 58,257 -- $ -- $5,404,537
======== ========= ============ =========== ========== ========== ========== ===========
<FN>
SEE ACCOMPANYING NOTES AND ACCOUNTANT'S REVIEW REPORT F-4
</FN>
CORNERSTONE MINISTRIES INVESTMENTS, INC.
STATEMENTS OF CASH FLOWS
For the nine months ended September 30, 2004 and 2003
(Unaudited)
(Consolidated -
See Note 18)
2004 2003
------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 212,094 $ 658,725
Adjustments to reconcile net income to
cash from operations-
Depreciation and amortization 640,656 378,938
Loss on sale of fixed assets 2,534 --
Changes in-
Loans in process (76,251) (522,976)
Accrued bond interest, net 15,666 (21,921)
Accrued real estate loan/joint venture interest and deferred loan fees (3,205,309) (928,472)
Allowance for loan losses 50,000 --
Refundable income taxes 36,944 (286,953)
Deferred taxes (20,714) 566,778
Investor and mortgage participation interest payable 2,726,187 1,687,786
Accounts and other payables (47,912) (46,358)
Other assets (42,144) (80,558)
------------ ------------
NET CASH PROVIDED BY OPERATIONS 291,751 1,404,989
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Real estate loans made (9,100,510) (13,763,820)
Real estate loan principal payments received 7,504,692 7,059,214
Real estate joint venture investments made (22,443,378) (12,521,106)
Real estate joint venture payments received 3,325 5,553,021
Bonds purchased -- (2,500,000)
Bonds redeemed or sold -- 58,750
Proceeds from sale of fixed assets 1,400 --
Property and equipment purchased (9,915) (589,413)
------------ ------------
NET CASH USED BY INVESTING ACTIVITIES (24,044,386) (16,703,354)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Investor certificates sold 31,100,364 18,163,253
Investor certificates redeemed (3,336,245) (3,449,495)
Mortgage participation agreements sold 78,250 6,255,330
Debt issue costs paid (1,438,822) (1,187,624)
Building mortgage proceeds 440,000 --
Building mortgage principal payments (11,654) (6,776)
Capital lease principal payments (4,179) (2,795)
Common stock issued, net of issuance costs 2,043,530 3,800
Dividends paid (324,153) (337,725)
Treasury stock sold (acquired) 73,248 (73,248)
------------ ------------
NET CASH PROVIDED BY FINANCING ACTIVITIES 28,620,339 19,364,720
------------ ------------
Net change in cash and cash equivalents 4,867,704 4,066,355
Cash and cash equivalents at beginning of period 4,389,851 1,500,499
------------ ------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 9,257,555 $ 5,566,854
============ ============
Supplemental Information-
Interest paid during the period $ 3,916,963 $ 3,604,215
Income taxes paid during the period $ 62,500 $ --
Non-cash transactions-
Investor certificates matured or redeemed early and re-invested $ 3,309,314 $ 3,793,364
Loan interest financed and included in loan principal $ 1,186,383 $ 446,471
Fixed asset lease financing $ -- $ 17,710
<FN>
SEE ACCOMPANYING NOTES AND ACCOUNTANT'S REVIEW REPORT F-5
</FN>
CORNERSTONE MINISTRIES INVESTMENTS, INC.
NOTES TO FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The accompanying financial statements include the accounts of Cornerstone
Ministries Investments, Inc (the "Company"). Previously, the Company's financial
statements included the accounts of two wholly-owned subsidiaries, Wellstone
Communities, Inc. and Wellstone Financial Group, LLC. In June 2004, the Company
dissolved both subsidiaries. See Note 18 for additional disclosures.
The Company originates and purchases mortgage loans made to faith-based
organizations. The Company offers specialized programs for churches and for
non-profit sponsors of senior housing and affordable housing programs. The
Company also invests in other real estate projects for the purpose of selling at
a profit, or leasing. Substantially all of the Company's loans and investments
are in projects located in the Southeast and Southwestern United States.
Cash and cash equivalents include bank accounts and investments with original
maturities of 90 days or less.
Real estate loans and senior housing loans classified as real estate joint
venture investments include unpaid principal and accrued interest balances net
of deferred loan fees and unearned discounts, less an allowance for loan losses.
Interest income is recognized monthly on the accrual basis in accordance with
loan terms. Interest income is recognized on the cash basis for loans with a
recorded impairment loss (other than restructured loans) and the possibility of
future loss is considered remote. If the possibility of future loss is not
remote, then interest income is not recognized and interest payments are
credited to outstanding loan principal. Loan origination fees are deferred and
amortized as a yield adjustment over the lives of the related loans using the
interest method. Amortization of deferred loan fees is discontinued when a loan
is placed on non-accrual status. Interest income and loan fees recognized from
real estate loans and senior housing loans classified as real estate joint
venture investments are reported as "real estate loan and joint venture interest
and fees" in the accompanying Statements of Operations.
The Company receives monthly interest payments on its real estate loans and
senior housing loans (classified as real estate joint venture investments)
except when the terms of a loan allow a borrower to finance interest payments.
Interest is financed in the following circumstances:
o Family housing loans may finance interest while the project is in the
development and pre-sales phase, which normally lasts 12 to 24 months
depending on the size of the project. The Company receives the financed
interest as the borrower sells homes in the development.
o Church construction loans may finance interest while the church building
is under construction. This takes three to nine months, depending on the
size of the building. When the building is operational, the financed
interest from the construction phase is included in the loan's principal
amount and the Company begins receiving monthly interest payments from the
borrower.
o Senior housing loans may finance interest during the
construction/renovation stage of the borrower's operations. This takes two
to six months if there is an existing building and 12 to 24 months if the
financed property is raw land and a new building is being constructed.
When the facility is operational, the financed interest from the
construction/renovation stage is included in the loan's principal amount
and the Company begins receiving monthly interest payments from the
borrower.
Senior housing loans are classified as real estate joint venture investments if
the Company participates in a property's residual profits and all of the
following exist at the inception of the loan:
o The borrower has title but not a substantial equity investment in the
property.
o The Company does not have recourse to substantial tangible, saleable assets
of the borrower other than the underlying collateral of the loan and there
is no irrevocable letter of credit for a substantial amount of the loan.
o There is no take-out commitment for the full amount of the loan from a
creditworthy, independent third-party.
o The facility does not have lease commitments which will provide sufficient
cash flow to service normal principal and interest loan amortization.
The Company normally provides all or substantially all of the funding (directly
or through loan guarantees) for the acquisition and development of these
facilities, which are owned by non-profit entities. The Company participates in
residual profits through loan participation agreements, which enable the Company
to earn income from the borrower when the property in which the Company provided
financing is sold or refinanced with another lender.
F-6
The participation is between 25% and 33% of the borrower's gain. Loan
participation income is recognized when the borrower's sale or refinancing is
completed and the Company receives payment from the borrower.
Loans in process are amounts advanced or expended on behalf of borrowers prior
to completion of the loan documentation. Interest is not accrued on these
amounts until the loan documentation is complete and the borrower acknowledges
the debt and associated interest. Substantially all of these expenditures are
converted to loans within one year or less.
Unamortized debt issue costs include the costs and commissions associated with
issuing Investor Certificates and Mortgage Participation Agreements. These costs
are amortized on a straight-line basis over the term of the associated debt,
principally five years.
The allowance for loan losses for real estate loans and senior housing loans
classified as real estate joint venture investments is maintained at a level
which, in management's judgment, is adequate to absorb credit losses inherent in
the loan portfolio. The amount of the allowance is determined in accordance with
SFAS No. 5 (collective loan losses) and SFAS No. 114 (specific impaired loan
losses). A collective loan loss is recognized when the characteristics of a
group of loans indicate that it is probable that a loss exists even though the
loss cannot be identified with a specific loan. The collective loan loss
allowance amount is based on observable data that management believes is
reflective of the underlying credit losses inherent in the portfolio. The
components of this evaluation include trends in the Company's historical loss
experience, changes in credit risk and credit quality, credit concentrations,
economic conditions, collateral values, and other risks inherent in the
portfolio. Specific impaired loan loss allowances are made when it is determined
that a loan is impaired and the loan's carrying amount exceeds the present value
of estimated future cash flows, or, if the loan is considered collateral
dependant, the loan's collateral value. A loan is considered impaired if it is
probable that the Company will be unable to collect all amounts due according to
the contractual terms of the loan agreement. Although management uses available
information to recognize losses on loans, because of uncertainties associated
with local economic conditions, collateral values, and future cash flows on
impaired loans, it is reasonably possible that a material change could occur in
the allowance for loan losses in the near term. However, the amount of the
change that is reasonably possible cannot be estimated. The allowance is
increased by a provision for loan loss and reduced by charge-offs, net of
recoveries. Changes in the allowance relating to specific impaired loans are
charged or credited to loan loss expense. Loans are charged-off to the extent
the loan's carrying amount exceeds the net realizable value of the collateral,
with the charge-off occurring when it is likely that the loan is uncollectible
and foreclosure will occur.
Bond holdings consist of tax-free local government securities and church bonds.
The Company accounts for these investments using SFAS No. 115, "Accounting for
Certain Investments in Debt and Equity Securities", and classifies the bonds as
"available for sale" securities. The bonds are recorded at cost and adjusted for
unrealized holding gains and losses. Temporary unrealized holding gains and
losses are reported, net of deferred taxes, as a separate component of
shareholder's equity until realized. If an unrealized holding loss is judged to
be other than temporary, the cost basis of the security is written down to fair
value and included in earnings.
Property and equipment are valued at cost when purchased. Depreciation is
provided on the straight-line method over the estimated useful lives of the
assets, which are three to five years for furnishings and equipment, and 40
years for office buildings.
Real estate held for investment includes land which the Company owns and intends
to hold as an investment for more than one year. The assets are carried at the
lesser of cost or fair value as required by SFAS No. 144, "Accounting for
Impairment or Disposal of Long-Lived Assets". Impairment losses are recognized
when the carrying amount of a long-lived asset is determined not to be
recoverable and the carrying amount exceeds fair value. Profit from real estate
sales is recognized when the collectibility of the sales price is reasonably
assured and the Company is not obligated to perform significant activities after
the sale to earn the profit. If either of these conditions exists, all or part
of the profit is deferred and recognized using the installment sale method or
cost recovery method as prescribed by SFAS No. 66, "Accounting for Sales of Real
Estate".
Interest on Investor Certificates is accrued from the date of issuance.
Certificate holders choose, at the time of purchase, to have interest paid
semi-annually or upon redemption. Investors holding five year certificates in
F-7
multiples of $10,000 may receive interest monthly. Unpaid interest is compounded
semi-annually. Interest on Mortgage Participation Agreements is accrued from the
date of issuance and is paid monthly.
Mortgage Participation Agreements are accounted for as secured borrowings with
pledges of collateral because the agreements do not meet the definition of a
sale of a financial asset under SFAS No. 140, "Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities".
The Company is guarantor on certain loans secured by senior housing facilities
which are owned by non-profit entities. Loan guarantees that originated prior to
January 1, 2003 have no obligation recognized in the financial statements. For
loan guarantees that were originated or modified on or after January 1, 2003, a
loan guarantee obligation is recognized based on the loan guarantee's estimated
fair value. The Company charges the loan guarantee's fair value to the
respective borrower as compensation for the Company's risk and payment is
expected within 30 days of the loan guarantee's origination or modification
date. Unpaid amounts are classified as "Loan guarantee receivables" in the
accompanying balance sheets. Loan guarantee obligations are analyzed at the end
of each fiscal year and if the fair value of a loan guarantee has declined, the
carrying amount of the loan guarantee obligation is reduced and credited to
earnings.
Income taxes are provided for the tax effects of transactions reported in the
financial statements and consist of taxes currently due plus deferred taxes
related primarily to the difference between the methods of accounting for
depreciation, amortization, start-up costs, allowance for loan losses, and
installment sales for financial and tax-reporting purposes. The deferred taxes
represent the estimated future tax consequences of those differences, which will
be either taxable or deductible when the assets and liabilities are recovered or
settled. Accelerated depreciation methods and shorter asset lives are used for
tax reporting, and straight-line depreciation is used for financial statement
reporting. The Company calculates deferred taxes under the provisions of SFAS
No. 109 which provides for deferred tax assets and liabilities to be carried on
the balance sheet at current tax rates.
Basic earnings (loss) per common share are calculated by dividing net income or
net loss by the weighted average number of common shares outstanding during the
year. Diluted earnings per common share are calculated by adjusting weighted
average outstanding shares, assuming conversion of all potentially dilutive
shares of Series A Convertible Preferred Stock.
Management uses estimates and assumptions in preparing these financial
statements in accordance with generally accepted accounting principles. The
estimates and assumptions affect the reported amounts of assets and liabilities,
the disclosure of contingent assets and liabilities, and the reported revenues
and expenses. Actual results could vary from the estimates that are used.
Certain report classifications used in prior year financial statements have been
reclassified to conform to current year presentation.
New Accounting Pronouncements:
In January 2003, the FASB issued Interpretation No. 46 (FIN 46), Consolidation
of Variable Interest Entities, an interpretation of ARB (Accounting Research
Bulletin) No. 51. This interpretation requires the consolidation of entities in
which an enterprise absorbs a majority of the entities expected losses, receives
a majority of the expected residual gains, or both, as a result of ownership,
contractual or other financial interests in the entity. In October 2003, the
FASB delayed the effective date of FIN 46 for variable interest entities (VIE's)
or potential VIE's created before February 2003. In December, the FASB issued a
revised version of FIN 46, which delayed the effective date of FIN 46 for all
VIE's until March 2004. FIN 46 and its various interpretations are not expected
to have a material impact on the Company's financial position or results of
operations.
In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based
Compensation - Transition and Disclosure. This standard, which amends the
transition and disclosure issues associated with SFAS No. 123, became effective
for the years ending after December 31, 2002. The requirements of this standard
do not impact the Company's financial position or results of operations.
F-8
During the last three years, the FASB has issued a number of accounting
pronouncements with various effective dates: SFAS No. 141, Business
Combinations; SFAS No. 142, Goodwill and Other Intangible Assets; SFAS No. 143,
Accounting for Asset Retirement Obligations; SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets; SFAS No. 145, Rescission of SFAS
No. 4, 44, and 64, Amendment of SFAS No. 13, and Technical Corrections; SFAS No.
146, Accounting for Costs Associated with Exit or Disposal Activities; SFAS No.
147, Acquisition of Certain Financial Institutions - an Amendment of SFAS No. 72
and 144 and FASB Interpretation No. 9; SFAS No. 149, Amendment of SFAS No. 133
on Derivative Instruments and Hedging Activities; SFAS No. 150, Accounting for
Certain Financial Instruments with Characteristics of both Liabilities and
Equity; and Interpretation No. 45, Guarantor's Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of
Others. These pronouncements do not have a material effect of the Company's
financial statements.
NOTE 2 - PROPERTY AND EQUIPMENT
At September 30, property and equipment is composed of:
2004 2003
--------- ---------
Office Condominiums $ 795,034 $ 792,659
Office Computers, Furnishings,
Software & Equipment 122,037 118,141
Vehicles 30,351 37,730
Capital lease - phone system 17,710 17,710
Less: Accumulated Depreciation (136,891) (78,859)
--------- ---------
Property and equipment, net $ 828,241 $ 887,381
Depreciation expense-
Current Quarter $ 18,558 $ 15,704
Year-to-Date $ 50,840 $ 40,079
NOTE 3 - COMMITMENTS AND RELATED PARTY TRANSACTIONS
Leases:
During 2003, the Company entered into a capital lease for a new telephone system
at the Company's headquarters. The lease was recorded at the asset's fair value
and is being amortized over three years using the straight-line method. Interest
expense is calculated based on the implied interest rate in the lease. The lease
payment, including principal, interest and sales tax, is $672 per month.
Amortization expense was $1,476 and $1,476 for the three months, and $4,427 and
$3,444 for the nine months ended September 30, 2004 and 2003, respectively.
Interest expense was $432 and $652 for the three months, and $1,469 and $1,598
for the nine months ended September 30, 2004 and 2003, respectively. Future
yearly minimum lease payments as of September 30, 2004:
Year Amount
- ---- ------
2004 $ 1,883
2005 7,531
2006 1,256
-------
Total 10,670
Less interest portion (1,217)
-------
Capital lease obligation $ 9,453
Loan Commitments:
The Company makes loan commitments in connection with certain real estate loans
and joint venture investments that include funding for project development,
building construction, renovations, lease-up operations, financed interest and
other amounts that the borrower may draw upon in accordance with the loan
agreement. As of September 30, 2004, the Company has $9,185,140 in approved,
unused loan commitments for real estate loans and $6,461,334 for real estate
joint venture investments. In addition, the Company has new loan commitments
awaiting Loan Committee approval totaling $11,325,000.
F-9
Related Party Transactions:
Cornerstone Capital Advisors, Inc. - Management and Advisory Service Agreement
Effective July 1, 2003, the Company entered into a Management and Advisory
Services Agreement with Cornerstone Capital Advisors, Inc. ("CCA") to provide
loan management, administration, and accounting; investor relations; marketing;
computer and management information systems administration; record maintenance;
executive management; and bookkeeping and accounting after June 30, 2003. The
agreement is for renewable one-year terms and it may be terminated by either
party upon 60 days' written notice. The Company does not have any employees of
its own and CCA is subject to the supervision of the Company's board of
directors. Two of the Company's directors serve on CCA's board of directors.
From July 1, 2003 until July 31, 2004, the agreement obligated the Company to
reimburse actual expenses incurred by CCA. Also, CCA was eligible to earn
incentive compensation of up to 10% of the actual expenses billed to the Company
for the prior 12 months. The base for the incentive compensation includes being
current on all bond interest and other obligations, and that the common stock
shareholders have received dividends equal to an annual rate of at least 10% on
the price paid in a public offering for all the time the shares were
outstanding. Factors above the base and the exact amount of incentive
compensation were determined by the Board of Director's judgment on the extent
to which CCA's services contributed to the results.
Effective August 1, 2004, the original agreement was modified so that the
Company will pay CCA as follows:
o Management Fee - equal to 10% of the Company's revenues from all sources
other than loan fees, loan participations and revenue received from CCA
plus 30% of loan participation revenue. This fee is payable monthly.
o Loan Origination Fee - equal to 30% of the total loan fee charged by the
Company to its borrowers. The fee is generally paid from loan proceeds and
reduces deferred loan fees.
For the three and nine months ended September 30, 2004 and 2003, the Company
paid CCA as follows:
Three Months Nine Months
----------------------- ----------------------
2004 2003 2004 2003
---------- ---------- ---------- ---------
Management Fees $ 324,988 $ 157,114 $ 984,481 $ 157,114
Loan Origination Fees 433,500 -0- 433,500 -0-
Incentive Compensation Fees -0- -0- -0- -0-
---------- ---------- ---------- ---------
$ 758,488 $ 157,114 $1,417,981 $ 157,114
Cornerstone Capital Advisors, Inc. - Office Lease
Effective August 1, 2004, the Company and CCA entered into a lease agreement
whereby CCA is leasing the Company's corporate office building and
office/computer equipment in Cumming, GA. The lease payment is $5,000 per month.
The initial lease term ends on August 31, 2005, after which time the lease
converts to a month-to-month lease unless CCA notifies the Company of its intent
not to renew within 30 days from the end of the initial lease term. The
Company's cost basis in the office building and office/computer equipment is
approximately $626,000. For the three and nine months ended September 30, 2004,
the Company received $10,000 from CCA under the lease agreement.
Cornerstone Direct Public Offerings, LLC
The Company contracts with Cornerstone Direct Public Offerings, LLC ("CDPO") to
provide legal and administrative services for the filing of SB-2 Registration
Statements with the Securities and Exchange Commission. Two of the Company's
directors serve on the board of directors of CDPO's majority owner, Cornerstone
Group Holdings, Inc. The service fee is $75,000 per filing payable in
installments during the filing process.
During 2003, the Company and Wellstone Communities, Inc. (a formerly 100%-owned
subsidiary) each entered into a service agreement with CDPO for the filing of
SB-2 Registration Statements. The $150,000 fee for these two agreements was paid
in the third and fourth quarters of 2003. In January, 2004, the Company amended
its service agreement and paid an additional $25,000 to CDPO for cost over-runs
related to the length of time needed for their registration statement to become
effective.
F-10
In July, 2004, the Company entered into a service agreement with CDPO for the
filing of a new SB-2 Registration Statement. $50,000 was paid to CDPO in the
third quarter of 2004. The Company expects to pay the remaining $25,000 service
fee to CDPO during the fourth quarter of 2004.
See Note 12 for additional disclosures on the Company's registration statements
and Note 18 for additional disclosures on Wellstone Communities, Inc.'s
registration statement.
NOTE 4 - REAL ESTATE LOANS
At September 30, the Company had Real Estate Loans on church and other
non-profit properties as follows:
2004 2003
------------ ------------
Family housing development loans $ 31,648,258 $ 24,033,592
Church mortgage loans 9,481,638 13,977,012
Senior housing mortgage loans 9,286,352 9,093,501
------------ ------------
Total principal 50,416,248 47,104,105
Accrued Interest 560,959 247,600
Unearned Loan Fees (108,487) (457,598)
Allowance for loan losses (425,000) -0-
------------ ------------
Total Real Estate Loans $ 50,443,720 $ 46,894,107
These loans mature as follow: 2004 - $15,825,147; 2005 - $31,634,089; 2006 - $0;
2007 - $0; 2008 - $0; beyond 2008 - $2,957,012. Loan maturity may be accelerated
in accordance with loan terms, generally upon certain events of default such as
non-payment of scheduled payments or bankruptcy.
On September 30, 2004, the Company had significant credit risk concentrations in
the following states:
Georgia $26,619,380
Florida $ 9,531,034
Texas $ 9,398,511
Based on the terms of the loans, the Company allows borrowers with loans related
to certain family housing and church properties to finance interest payments
while the properties are in the development and construction phase of
operations. For the nine months ended September 30, the net interest payments
financed were:
2004 2003
--------- ---------
Current year interest financed $ 868,926 $ 558,259
Previous years' financed interest received (27,706) (456,861)
--------- ---------
Net financed interest $ 841,220 $ 101,398
Impaired loan disclosures for the nine months ended September 30 are as follows:
2004 2003
---------- ----------
Number of impaired loans 2 2
Carrying amount at September 30 $1,933,751 $ 627,875
Weighted average investment - year-to-date $1,880,867 $ 632,274
Impaired loan interest income - current quarter $ 45,443 $ 5,539
Impaired loan interest income - year-to-date $ 135,118 $ 15,203
No allowance for specific impaired loan loss has been recorded because the
carrying amount of the impaired loans as of September 30, 2004 and 2003 was less
than the present value of the loan's expected future cash flows.
NOTE 5 - REAL ESTATE JOINT VENTURE INVESTMENTS
As of September 30, certain of the Company's mortgage loans on senior housing
facilities are classified as real estate joint venture investments, as follows:
F-11
Location 2004 2003
------------ ------------
McKinney, TX $ 3,981,794 $ 3,033,191
Edmund, OK 13,098,142 -0-
St. Petersburg, FL 4,402,891 3,609,620
Lewisville, TX 10,656,804 10,091,529
Garland, TX 6,385,256 5,471,827
Chattanooga, TN 4,883,131 3,448,256
Winter Haven, FL 5,551,751 -0-
San Antonio, TX 11,551,897 8,314,718
------------ ------------
Total principal outstanding 60,511,666 33,969,141
Accrued interest 494,783 254,483
Unearned loan fees (1,535,489) (1,761,870)
Allowance for loan losses -0- -0-
------------ ------------
Real estate joint venture investments, net $ 59,470,960 $ 32,461,754
The loans mature as follows: 2004 - $4,179,891; 2005 - $56,331,775. Loan
maturity may be accelerated in accordance with loan terms, generally upon
certain events of default such as non-payment of scheduled payments or
bankruptcy.
The Company participates in the residual profits of these properties through
loan participation agreements, which enable the Company to receive income from a
borrower when a property in which the Company provided financing is sold or
refinanced with another lender. The participation percentage for each property
varies between 25% and 33% of the borrower's gain.
All loans accrue interest at 10% per year and except as noted below,
`interest-only' payments are received monthly. The original loan terms are for
one year with two, one year extensions at the Company's option. The Company
charges a 10% loan origination fee which is financed and included in the loan's
principal balance.
In accordance with loan terms, the Company allows certain borrowers to finance
interest payments while their facilities are in the construction or renovation
phase of operations. For the nine months ended September 30, the net interest
payments financed were as follows:
2004 2003
-------- --------
Current year interest financed $345,163 $345,073
Previous years' financed interest received -0- -0-
-------- --------
Net financed interest $345,163 $345,073
The Company analyzes the underlying operations and collateral of each facility
in which there is an outstanding loan by requiring independent appraisals every
12 to 24 months, reviewing loan balances and comparing them to the established
loan budgets, and by analyzing income and cash flow statements that are
submitted by the borrowers. If it is determined that it is probable that the
Company will be unable to collect all amounts due according to the contractual
terms of a loan, the loan is considered impaired and a loan loss will be
recognized to the extent the collateral's fair value is less than the current
loan carrying amount. No real estate joint venture investments were considered
impaired as of September 30, 2004 and 2003.
NOTE 6 - ALLOWANCE FOR LOAN LOSSES
For the nine months ended September 30, 2004, a summary of changes in the
allowance for loan losses by loan type:
Real Estate
Family Senior Joint Venture
Church Housing Housing Investments Total
---------- --------- ---------- ---------- ---------
Balance - beginning of year $ -0- $ 375,000 $ -0- $ -0- $ 375,000
Loan loss expense -0- 50,000 -0- -0- 50,000
Charge-offs -0- -0- -0- -0- -0-
Recoveries -0- -0- -0- -0- -0-
---------- --------- ---------- ---------- ---------
Balance - end of quarter $ -0- $ 425,000 $ -0- $ -0- $ 425,000
F-12
Components of allowance for loan losses at September 30, 2004:
Collective loan losses-
Historical experience $ -0-
Current credit risk assessment 425,000
--------
Total collective loan losses 425,000
Specific impaired loan losses -0-
---------
Total allowance for loan losses $ 425,000
Prior to 2003, the Company had no allowance for loan loss activity. In the
fourth quarter of 2003, as part of the Company's regular loan grading and risk
assessment process, it was determined that the family housing loan portfolio's
credit risk had increased over historical levels. This increase was caused by
slower than expected new home sales. The slow down in new home sales is due to
slower than expected growth in the U.S. economy. This increase in credit risk
resulted in a $375,000 charge to loan loss expense in the fourth quarter of
2003. For the three and nine month periods ended September 30, 2004, the Company
charged an additional $20,000 and $50,000, respectively to loan loss expense.
These charges were due to an increase in the family housing loan portfolio's
outstanding loan principal. The Company has never incurred a loan charge-off;
therefore, there is no collective loan loss allowance related to the Company's
historical experience.
NOTE 7 - GOODWILL
The Company uses SFAS 142 "Goodwill and Other Intangible Assets". Goodwill
associated with the Company's acquisition of Presbyterian Investor's Fund, Inc.
during the fourth quarter of 2000, is carried at $450,997 and is not subject to
further amortization. Goodwill is tested for impairment at the end of each year
using the present value of expected future cash flows to determine its fair
value. At December 31, 2003 and 2002, goodwill's fair value exceeded its
carrying value; therefore, no provision for impairment loss has been recorded.
No goodwill was acquired or sold in either of the quarters presented in these
financial statements.
NOTE 8 - UNAMORTIZED DEBT ISSUE COSTS
Unamortized debt issue costs consist of legal, accounting, and filing costs
incurred to register the Company's debt securities and commissions paid or
accrued on the sale of debt securities. These costs are amortized on a
straight-line basis over the period the associated debt is outstanding,
generally five years. At September 30, 2004, unamortized debt issue costs
consist of:
Costs incurred to register debt securities $ 664,055
Commissions paid on the sale of debt securities 3,599,848
Less: Accumulated Amortization (1,642,265)
-----------
$2,621,638
Amortization expense was $223,454 and $135,535 for the three months, and
$589,815 and $338,859 for the nine months ended September 30, 2004 and 2003,
respectively, and is included in marketing expenses in the accompanying
Statements of Operations.
Estimated amortization expense for the next five years:
10/2004 - 9/2005 $793,213 10/2007 - 9/2008 $336,632
10/2005 - 9/2006 $676,260 10/2008 - 9/2009 $194,501
10/2006 - 9/2007 $621,032
NOTE 9 - BOND HOLDINGS
Bond holdings at September 30 consist of- 2004 2003
---------- ----------
St. Lucie Co., FL Subordinated Revenue Bonds:
Maturity 7/1/2036 $2,325,000 $2,325,000
Maturity 10/1/2036 2,700,000 2,700,000
Undivided 50% interest sold to investor (2,512,500) (2,512,500)
---------- ----------
Net investment in St.Lucie Co., FL bonds 2,512,500 2,512,500
---------- ----------
Largo, FL Subordinated Revenue bonds:
Matures 10/1/2033 2,500,000 2,500,000
Undivided interest sold to investors (1,225,000) -0-
---------- ----------
Net investment in Largo, FL bonds 1,275,000 2,500,000
---------- ----------
Cost and fair value of bond holdings 3,787,500 5,012,500
Accrued interest receivable 198,167 184,833
---------- ----------
$3,985,667 $5,197,333
F-13
The bonds are not traded on an exchange; however, management estimates, based on
discounted expected cash flows, that the fair value of the individual securities
approximates their original cost. Accordingly, no unrealized holding gains or
losses have been recorded in 2004 or 2003.
Proceeds from the maturity of bonds were $0 and $58,750 for the nine months
ended September 30, 2004 and 2003, respectively. No realized gains or losses
were recognized in either year. The Company uses the specific identification
method to determine realized gains and losses.
Tax-free interest income was $82,500 and $60,334 for the three months, and
$248,056 and $175,372 for the nine months ended September 30, 2004 and 2003,
respectively.
NOTE 10 - INCOME TAXES
The net deferred tax (liability) asset in the accompanying Balance Sheets
includes the following components as of September 30:
2004 2003
--------- ---------
Deferred tax assets $ 217,033 $ 69,219
Deferred tax liabilities (367,762) (361,764)
--------- ---------
Net deferred tax (liability) asset ($150,729) ($292,545)
The deferred tax liabilities result from the use of accelerated depreciation
methods for property and equipment and from using the installment method for tax
accounting. The deferred tax assets result from tax versus financial reporting
differences in accounting for allowance for loan losses and from differences in
the amortization of debt issue and start-up costs. The Company estimates that
future taxable income will be sufficient to realize the deferred tax assets;
therefore, no valuation allowance was provided for as of September 30, 2004 and
2003.
During the third quarter of 2003, the Company's request with the Department of
the Treasury to change its tax accounting method for loan fees to approximate
its book treatment under SFAS Nos. 65 and 91 was approved. As a result of this
change, the Company was able to amend and request refunds from its 2000 and 2001
federal and state tax returns totaling $286,953. $244,336 of the requested
refunds was received in the fourth quarter of 2003 and the remaining $42,617 was
received in the second quarter of 2004. In addition, the amended tax returns
created a $481,154 federal net operating loss carryforward and an $82,025 state
net operating loss carryforward that the Company used to reduce its 2003 income
tax liability.
Components of the income tax provision (benefit) for the three and nine months
ended September 30:
Three Months Nine Months
------------------------ ------------------------
2004 2003 2004 2003
--------- --------- --------- ---------
Current: Federal ($ 4,689) ($310,296) $ 8,987 ($274,206)
State 2,538 (30,863) 10,167 (24,494)
Deferred: Federal (9,911) 738,428 (18,741) 513,850
State (1,061) 92,560 (1,973) 52,928
--------- --------- --------- ---------
($ 13,123) $ 489,829 ($ 1,560) $ 268,078
Reconciliation of the Company's income tax provision (benefit) rate to statutory
federal rates for the three and nine months ended September 30:
Three Months Nine Months
---------------- -----------------
2004 2003 2004 2003
------ ------ ------ ------
Statutory federal rate 35.0% 35.0% 35.0% 35.0%
Effect of graduated federal rates (1.0%) (1.0%) (1.0%) (1.0%)
State taxes, net of federal benefit 3.7% (3.7%) 3.7% 3.7%
Effect of tax-free bond interest income (77.4%) (1.5%) (40.0%) (6.4%)
Other, net 3.5% (1.6%) 1.6% (2.4%)
------ ------ ------ ------
Effective tax provision (benefit) rate (36.2%) 34.6% (0.7%) 28.9%
F-14
NOTE 11 - CASH CONCENTRATION
A cash concentration risk arises when the Company has more cash in a financial
institution than is covered by federal deposit insurance. At September 30, 2004,
the Company's cash in excess of insured limits was $8,799,307.
NOTE 12 - INVESTOR CERTIFICATES
The Company has three types of certificates outstanding:
Access certificates have no stated maturity and are due on demand. The minimum
investment amount is $100. The interest rate is determined by the Board of
Directors each quarter. The directors may change the rate between quarters if
market conditions warrant such a change. The current interest rate is 4%.
Graduated certificates can be redeemed yearly and have a five year maximum
maturity. The minimum investment amount is $500. The interest rate increases
based on the length of time that the certificate is outstanding. For
certificates sold prior to 2004 the rate starts at 7% and increases .5% for each
year the certificate is outstanding with a 9% maximum rate. Certificates (Series
E) sold in 2004 have an initial interest rate of 6.25% and increase .5% for each
year the certificate is outstanding with an 8.25% maximum rate.
Five year certificates have a five year maturity and a $500 minimum investment.
The interest rate is 9% for certificates sold prior to 2004 and 8.25% for
certificates (Series E) sold in 2004.
The certificates are not collateralized and no sinking fund is required to fund
redemptions at maturity. All of the certificates have been registered with the
Securities and Exchange Commission under the Securities Act of 1933. Five year
schedule of principal maturities for certificates outstanding at September 30:
Years to Maturity 2004 2003
- ----------------- ------------ ------------
On demand & 1 year $ 12,102,147 $ 10,744,701
2 10,803,667 10,291,648
3 27,329,873 22,713,141
4 26,425,074 17,765,879
5 30,983,200 18,198,729
------------ ------------
Total Principal $107,643,961 $ 79,714,098
At September 30, 2004 and 2003, accrued interest payable was $7,407,907 and
$4,407,961, respectively. Interest rates for certificates outstanding at
September 30, 2004 are:
4.0% - $2,027,030 8.0% - $ 3,218,818
6.25% - $3,521,003 8.25% - $30,983,200
7.0% - $ 327,953 9.0% - $64,558,614
7.5% - $3,007,343
On April 29, 2003 the Company filed a Form SB-2 Registration Statement under the
Securities Act of 1933 with the Securities and Exchange Commission to sell up to
$40,000,000 of its Series E Certificates of Indebtedness along with $11,375,000
of its Common Stock. The Registration Statement was approved by the Securities
and Exchange Commission on March 26, 2004. Since the approval date, the Company
has issued $34,514,203 in new Investor Certificates and $2,090,341 in Common
Stock (321,591 shares).
On August 27, 2004 the Company filed a Form SB-2 Registration Statement under
the Securities Act of 1933 with the Securities and Exchange Commission to sell
up to $20,000,000 of Series F Certificates of Indebtedness along with $9,750,000
of its Common Stock. The Securities and Exchange Commission notified the Company
that it would not complete a full review of the new registration statement and
that they would declare the new registration statement effective on November 1,
2004. The Company has not finalized its plans as to when the sale of new
certificates and shares will begin.
NOTE 13 - MORTGAGE PARTICIPATION AGREEMENTS
In the second quarter of 2003, the Company began selling Mortgage Participation
("MP") Agreements. The MP Agreements have not been registered and therefore, are
only available to accredited investors. The agreements are collateralized by
specific senior housing loans owned by the Company and entitle the investor to a
proportionate share of the interest earned on the collateral. Interest is paid
monthly to the MP investor after the Company receives interest payments on the
F-15
related collateralized loans. The agreements have no stated maturity date.
Principal payments are made when the Company receives principal payments on the
collateralized loans. Losses that the Company may incur on the collateralized
loans are shared pro-rata with the MP Agreement holders. The Company has the
right but not the obligation to redeem the MP Agreements at any time. The MP
Agreement investors do not have the right to sell or repledge their interest in
the underlying collateral. Interest expense for the MP Agreements was $154,063
and $134,688 for the three months and $461,880 and $161,748 for the nine months
ended September 30, 2004.
MP Agreement principal and interest outstanding and related collateral as of
September 30, 2004:
MP Amount Total Collateral
Outstanding Carrying Amount
----------- ---------------
Lewisville, TX senior housing loan; matures 10/1/05
with a one year extension at the Company's option $3,766,000 $10,694,727
Garland, TX senior housing loan; matures 12/1/04
with a one year extension at the Company's option 2,396,500 $ 6,303,158
----------
Total principal outstanding 6,162,500
Accrued interest payable 49,642
----------
$6,212,142
The loans which collateralize the MP agreements are classified as real estate
joint venture investments in the accompanying Balance Sheets. The total carrying
amount is equal to the loan's outstanding principal, plus accrued interest, less
deferred loan fees.
NOTE 14 - LOAN GUARANTEES
The Company is guarantor on four loans secured by senior housing facilities
owned by unrelated non-profit entities. Certain real estate joint venture
investments and real estate acquisition and development loans in which the
borrower chooses to secure outside financing may require a Company guarantee as
a condition of the extension of the loan by the financial institution. The
guarantee is solely limited to amounts drawn under credit facilities and only
covers outstanding principal and accrued interest and terminates upon maturity
and principal repayment. Only upon an uncured payment default and upon demand by
the financial institution would the Company be required to perform under its
guarantee obligations. The Company's recourse would be limited to repossession
of the underlying collateral and subsequent resale of the facilities. As of
September 30, 2004, all loans which had a guarantee were current based on their
loan terms. Loan guarantees as of September 30, 2004:
Renewal/ Current Loan
Origination Maturity Maximum Principal Guarantee
Location Date Date Guarantee Outstanding Obligation
- -------- --------- -------- ----------- ----------- ----------
Fort Pierce, FL 5/31/04 4/15/05 $ 6,000,000 $ 6,000,000 $ 60,000
Fort Pierce, FL 8/15/04 2/15/05 4,445,000 4,445,000 44,000
Palm Bay, FL 12/31/02 12/31/05 13,800,000 12,360,965 -0-
St. Petersburg, FL 12/18/01 12/18/04 7,347,300 7,154,690 -0-
----------- ----------- ---------
$31,592,300 $29,960,655 $ 104,000
NOTE 15 - PROFIT SHARING PLAN
During 2001, the Company established a profit sharing plan for its employees.
The plan allows for entry into the plan after one year of service, and immediate
vesting of contributed amounts. All contributions are to be made at the
discretion of the Company after approval by the Board of Directors. No
additional contributions are expected as all of the Company's employees were
hired by Cornerstone Capital Advisors in 2003.
F-16
NOTE 16 - BUILDING MORTGAGES
2004 2003
---- ----
Fidelity Bank - collateralized by rental office space $173,073 $182,450
Interest rate equal to "prime + 1.5%", currently 6%; monthly
principal & interest payment of $1,723; matures March 1, 2006,
at which time a balloon payment of $158,824 is due.
Fidelity Bank - collateralized by corporate office building 435,467 -0-
------- --------
Interest rate equal to "prime + 1.5%", currently 6%; monthly
principal & interest payment of $3,617; matures Sept. 1, 2009,
at which time a balloon payment of $338,876 is due.
Total principal outstanding at September 30: $608,540 $182,450
Estimated annual principal payments: 2004 - $6,927; 2005 - $28,766; 2006 -
$178,887; 2007 - $20,319; 2008 - $21,572; 2009 - $352,069.
NOTE 17 - SERIES A CONVERTIBLE PREFERRED STOCK
In 2001, the Company amended its Articles of Incorporation to provide for the
issuance of up to 235,000 shares of Series A Convertible Preferred Stock. The
shares do not accrue dividends unless such dividends are declared by the Board
of Directors. The shares entitle the preferred shareholder to have one vote per
share, presently equal to the voting rights of Common shareholders. Each share
is convertible, after 3 years, into shares of Common Stock based on an
adjustable formula.
During 2001, as part of the Company's formation and initial capitalization of
Wellstone Financial Group, LLC ("WFG"), 500 preferred shares with a value of
$500,000 were issued to WFG in return for a 100% ownership interest in WFG. In
June 2004, WFG was dissolved and all of the outstanding Series A Convertible
Preferred Stock was redeemed from WFG in exchange for the Company's ownership
interest in WFG. See Note 18 for additional disclosures on this transaction.
NOTE 18 - DISSOLUTION OF SUBSIDIARIES
In June 2004, the Company's Board of Directors approved an agreement to dissolve
Wellstone Financial Group, LLC ("WFG"), a 100%-owned subsidiary. In exchange for
the Company's ownership interest in WFG, the Company redeemed all of the
Company's Series A Preferred Stock owned by WFG. The fair value of the Preferred
Stock and the Company's ownership interest in WFG were both estimated at
$500,000; therefore, no cash was exchanged. As of June 30, 2004, WFG is no
longer included in the Company's financial statements. The transaction had no
effect on the Company's assets, liabilities, net income and earning per share of
common stock. WFG was dissolved because the Company has been unable to retain
the type of specialized employees necessary to develop WFG's operations into a
long-term profitable venture.
In June 2004, the Company's Board of Directors approved an agreement to dissolve
Wellstone Communities, Inc. ("WCI"), a 100%-owned subsidiary. The Company
received all of WCI's assets in exchange for its 136,250 shares of WCI Common
Stock. The fair value of this transaction was $1,265,268. WCI's assets included
$1,046,340 in cash and a real estate mortgage loan with a carrying amount of
$218,928. The transaction had no effect on the Company's assets, liabilities,
net income, and earnings per common share. WCI filed a Form SB-2 Registration
Statement in 2003 and planned to issue preferred stock to expand its specialized
loan operations and possibly purchase a bank. The Company determined that it was
not feasible to go forward with the registration statement given the proposed
financial structure; therefore, WCI was dissolved.
NOTE 19 - EARNINGS PER SHARE
Basic earnings per share for the three and nine month periods ended September
30:
Three Months Nine Months
------------ -----------
2004 Net Income $ 49,355 $212,094
- ----
Average Common Shares Outstanding 846,114 678,455
Earnings per Common Share $ 0.06 $ 0.31
2003 Net Income $923,905 $658,725
- ----
Average Common Shares Outstanding 520,260 522,240
Earnings per Common Share $ 1.78 $ 1.26
F-17
Diluted earnings per share are the same as basic earnings per share because
there are no shares of Series A Convertible Preferred Stock outstanding. Other
than the Series A Convertible Preferred Stock, there are no other potentially
dilutive securities, stock options or warrants outstanding.
NOTE 20 - MAJOR CUSTOMERS
The Company received more than 10% of its total revenue for the three and nine
months ended September 30, 2004 from the following customers:
Three Months Nine Months
------------------ -------------------
Amount % Amount % Description of Revenue Received
---------- ----- ---------- ----- -------------------------------
Senior Housing Services, Inc. $1,454,662 44.1% $4,120,293 45.2% Interest and fees from real estate joint
venture investments
Wellstone Housing Corp. 591,481 17.9% 1,643,028 18.0% Interest and fees from family housing
development loans
Sage Living Centers, Inc. 502,159 15.2% 1,020,578 11.2% Interest and fees from real estate
---------- ---- ---------- ---- loans and joint venture investments
$2,548,302 77.2% $6,783,899 74.4%
The major customers are not related parties. Neither organization directly or
indirectly controls, is controlled by, or is under common control of the
Company. There is no common ownership interest, officers, or directors and the
Company does not have the power to direct or significantly influence the
management or operating policies of these customers.
NOTE 21 - FINANCIAL INSTRUMENTS
The following methods and assumptions were used to estimate the fair value of
each class of financial instruments:
Cash and cash equivalents - Fair value approximates their carrying amount due to
the initial maturities of the instruments being three months or less.
Bond holdings - These bonds are not traded on an exchange; therefore, fair value
is estimated based on the present value of expected future cash flows, which
approximates their carrying amount.
Investor certificates and mortgage participations - Fair value is estimated
based on the present value of expected future cash flows, which approximates
their carrying amount.
Building mortgage and capital lease obligation - Fair value approximates
carrying value since stated rates are similar to rates currently available to
the Company for debt with similar terms and remaining maturities.
The estimated fair values of the Company's financial instruments at September
30, 2004:
Carrying Amount Fair Value
--------------- ----------
Financial assets:
Cash and cash equivalents $ 9,257,555 $ 9,257,555
Bond holdings $ 3,787,500 $ 3,787,500
Financial liabilities:
Investor certificates $107,643,961 $107,643,961
Mortgage participations $ 6,162,500 $ 6,162,500
Building mortgages $ 608,540 $ 608,540
Capital lease obligation $ 9,453 $ 9,453
Loan guarantee obligations $ 104,000 $ 104,000
F-18
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operation.
Selected financial data.
Please read the following selected financial data in conjunction with the rest
of this "Management's Discussion and Analysis or Plan of Operation" and with our
financial statements and related notes in this filing.
Nine months ended
September 30,
------------------------------
2004 2003
----------- -----------
Revenues $ 9,110,919 $ 8,100,685
----------- -----------
Investor interest expense 6,627,673 5,285,031
Loan loss expense 50,000 -0-
Marketing expenses 735,709 448,595
Salaries, payroll taxes, benefits 898,671 696,719
Operating expenses 588,332 743,537
----------- -----------
Total expenses 8,900,385 7,173,882
----------- -----------
Operating income 210,534 926,803
Income tax provision (benefit) (1,560) 268,078
----------- -----------
Net income $ 212,094 $ 658,725
Overview of operations.
We have always focused on serving only faith-based organizations, mostly
churches and their related schools. We also offer specialized programs for
church and other non-profit sponsors of senior housing and affordable/moderate
income housing programs. Nearly all of our earnings in the past came from
financing church facilities. During the last quarter of 2000, we began to
realize revenues from investment in senior and affordable/moderate income
housing projects. We generate revenue from:
o interest on loans
o origination and renewal fees on loans
o loan participation income
o interest on securities
o consulting fees
We currently charge a 5% to 10% fee on new loans, based upon expected terms, and
renewal fees of as much as 5% of the outstanding balance of the renewing loan.
Our interest rate on all new loans is currently from 9% to 10%. Some loans are
participating loans, which enable us to receive income from the borrower when
the borrower sells or refinances (with another lender) the property in which we
provided the financing. The participation percentage varies between 25% and 33%
of the borrower's gain.
Participating loans (all related to senior housing facilities) are classified as
real estate joint venture investments if all of the following exist at the
inception of the loan:
o The borrower does not have a substantial equity investment in the property.
o The Company does not have recourse to substantial tangible, saleable assets
of the borrower other than the underlying collateral of the loan and there
is no irrevocable letter of credit for a substantial amount of the loan.
o There is no take-out commitment for the full amount of the loan from a
creditworthy, independent third-party.
o The facility does not have lease commitments which will provide sufficient
cash flow to service normal principal and interest loan amortization.
Comparison of Periods Ended September 30, 2003 and September 30, 2004
General. Assets increased from $94,939,591 at September 30, 2003 to $127,657,163
at September 30, 2004 for an increase of $32,717,572 or 34%. This increase is a
result of the sale of Investor Certificates and Mortgage Participations, net of
redemptions of $30,929,809 and new common stock issuances of $2,043,530. With
the additional net cash from these items and from cash already on hand, we
invested in real estate loans and joint venture investments, net of principal
payments received, of $30,558,819. Total revenue decreased for the three months
ended September 30, 2004 by $716,811 or 18% from $4,018,415 in 2003 to
$3,301,604 in 2004. Total revenue increased for the nine months ended September
30, 2004 by $1,010,234 or 12% from $8,100,685 in 2003 to $9,110,919 in 2004. Net
income for the three and nine months ended September 30, 2004 was $49,355 and
$212,094 compared to $923,905 and $658,725 for the same periods ended September
30, 2003.
Total real estate loans and joint venture investments outstanding on September
30, 2004 was $109,914,680 compared to $79,355,861 on September 30, 2003 for an
increase of $30,558,819 or 39%. This increase is due to sales of Investor
Certificates and Mortgage Participation Agreements and the subsequent
origination or refinancing of real estate loans and joint venture investments,
as follows:
3
New real estate loan originations $ 1,378,506
Increase in existing loans, net of principal received 2,171,107
New real estate joint venture investments made 18,649,894
Increase in existing real estate joint venture investments 8,359,312
-----------
$30,558,819
All other assets composed primarily of cash, bond holdings, property and
equipment, and unamortized debt issue costs were $17,742,483 as of September 30,
2004.
Our cash balance increased $3,690,701 from $5,566,854 on September 30, 2003 to
$9,257,555 on September 30, 2004. This increase is due to the large amount of
Investor Certificates sold from May to September of 2004. There is normally a
lag of two to four months between the receipt of cash from these sales and the
investment in new real estate loans and joint venture investments. We expect our
cash on hand to decrease from its current level before the end of the current
year as we are able to find suitable real estate loans and joint venture
investments to invest our cash.
Principal and interest payable on Investor Certificates and Mortgage
Participation ("MP") Agreements increased $30,629,754 or 34% from $90,634,256 as
of September 30, 2003 to $121,264,010 as of September 30, 2004. In 2003, the
Company filed a registration statement with the Securities and Exchange
Commission to sell up to $40,000,000 in additional Investor Certificates and
$11,375,000 in Common Stock. The registration statement was approved on March
26, 2004 which allowed us to start selling new Investor Certificates in the
second quarter of 2004 and continue the substantial increase in outstanding
certificates and the subsequent investment in new real estate loans and joint
venture investments.
On May 31 and August 15, 2004, two loans that we guaranteed on a senior housing
facility in Fort Pierce, FL were modified and the maturity dates were extended.
These modifications triggered the recognition of a loan guarantee obligation on
our balance sheet. The loan guarantee obligation is carried at the guarantee's
estimated fair value of $104,000. We billed the loan guarantee obligation to the
borrower as compensation for our risk and received payment during the third
quarter of 2004. We have one additional loan guarantee that may be modified and
extended prior to the end of the current fiscal year. If this occurs, we will
recognize an additional loan guarantee obligation and we will bill this
obligation to the respective borrower as compensation for the risk that we have
taken on related to the guarantees. Please see Note 14 of the "Notes to
Financial Statements" for additional information related to loan guarantees.
Real estate loan and joint venture interest and fees earned. Interest income and
fees from real estate loans and joint venture investments for the three and nine
months ended September 30 is as follows:
2004 2003 Increase %
---------- ---------- ---------- -------
Three months ended $3,165,898 $2,711,757 $ 454,141 17%
Nine months ended $8,764,245 $6,619,794 $2,144,451 32%
The increases were due to the following:
Three months Nine months
------------ -----------
Increase in average outstanding principal $ 492,056 $ 1,316,517
(Three months: $101,418,710 - 2004; $81,460,370 - 2003)
(Nine months: $91,891,257 - 2004; $74,001,974 - 2003)
Increase in weighted average interest rate 78,023 211,341
(Three months: 9.91% - 2004; 9.53% - 2003)
(Nine months: 9.86% - 2004; 9.49% - 2003)
Change in loan fees recognized (115,938) 616,593
----------- -----------
$ 454,141 $ 2,144,451
The increase in average outstanding principal is due to the addition of 4 new
real estate loans and joint venture investments with outstanding principal of
$20,028,400.
Loan participation and other income. For the three and nine months ended
September 30, 2004, loan participation and other income increased (decreased) as
follows:
Three Months Ended Nine Months Ended
--------------------------------------- ---------------------------------------
2004 2003 Change 2004 2003 Change
----------- ----------- ----------- ----------- ----------- -----------
Investment income $ 120,815 $ 79,340 $ 41,475 $ 317,071 $ 239,137 $ 77,934
Loan participation & other 14,891 1,227,318 (1,212,427) 29,603 1,241,754 (1,212,151)
----------- ----------- ----------- ----------- ----------- -----------
Total $ 135,706 $ 1,306,658 ($1,170,952) $ 346,674 $ 1,480,891 ($1,134,217)
The Company's investment income is from the purchase of tax-free bonds used as
permanent financing for projects the Company funded during their development and
initial operations and from interest income on the Company's excess cash.
4
The increase in investment income is due to the September, 2003 purchase of new
tax-free bonds, which increased the balance in our bond holdings portfolio.
Loan participation and other income decreased in both periods due to a
$1,220,277 loan participation gain recorded in September, 2003. We have received
no loan participation revenue in 2004.
Investor interest expense. Investor interest expense for the three months ended
September 30, 2004 was $2,502,518, an increase of $571,862 or 30% compared to
2003. Investor interest expense for the nine months ended September 30, 2004 was
$6,627,673, an increase of $1,342,642 or 25% compared to 2003.
The increases are due to:
Three Months Nine Months
------------ -----------
Increase in average outstanding certificate principal, including $ 550,477 $1,032,806
interest payable subject to compounding
(Three Months: $106,559,739 - 2004; $81,992,771 - 2003)
(Nine Months: $93,218,234 - 2004; $78,358,925 - 2003)
Change in weighted average interest percentage 2,050 9,704
(Three Months: 8.82% - 2004; 8.81% - 2003)
(Nine Months: 8.82% - 2004; 8.80% - 2003)
Increase in average outstanding Mortgage Participation principal
(Three Months: $6,162,500 - 2004; $5,345,187 - 2003)
(Nine Months: $6,158,400 - 2004; $2,162,565 - 2003) 19,335 300,132
---------- ----------
$ 571,862 $1,342,642
Loan loss expense and allowance for loan losses. In the fourth quarter of 2003,
as part of our regular loan grading and risk assessment process, we charged
$375,000 to loan loss expense and increased our allowance for real estate loan
losses to $375,000 from $0 as of December 31, 2002. For the three and nine
months ended September 30, 2004, we charged an additional $20,000 and $50,000,
respectively to loan loss expense. Prior to the fourth quarter of 2003, we had
never recognized an allowance for loan loss. Even though we have not incurred a
loan write-off, we increased our loan loss allowance in the fourth quarter of
2003 because of an increase in our family housing development loan portfolio's
relative credit risk. The increased credit risk was caused by slower than
expected new home sales in the fourth quarter of 2003, which is a result of
slower than expected growth in the U.S. economy. The loan loss expense in 2004
was due to an increase in the family housing development loan portfolio's
outstanding principal.
The allowance for loan loss increases that we made in 2003 and 2004 are
classified as collective loan loss allowances. A collective loan loss allowance
is recognized when the characteristics of a group of loans indicate that it is
probable that a loss exists even though the loss cannot be identified with a
specific loan. The allowance for loan losses is reviewed quarterly and increases
or decreases will be made based on the results of these reviews.
As of September 30, 2004, two church loans with a carrying amount of $1,933,751
were considered impaired. As of September 30, 2003, two church loans with a
carrying amount of $627,875 were considered impaired. No specific impaired loan
loss allowance was recorded because the carrying amount of the loans are less
than the loan's collateral or the present value of the loan's expected future
cash flows.
As of September 30, 2004, allowance for loan losses as a percent of outstanding
loan principal by loan type:
Loan Loss Outstanding
Allowance Principal %
--------- ------------ -------
Family Housing Development Loans $ 425,000 $ 31,648,258 1.4%
Church Mortgage Loans -0- 9,481,638 0%
Senior Housing Mortgage Loans -0- 9,286,352 0%
Real Estate Joint Venture Investments -0- 60,511,666 0%
--------- ------------ -----
Total $ 425,000 $110,927,914 .4%
Marketing expenses. Total expenses for the marketing of investor certificates
for the three and nine months ended September 30, 2004 were $274,995 and
$735,709 compared to $161,370 and $448,595 for the same periods in 2003. The
increases are due to:
Three Months Nine Months
--------------------------------- ---------------------------------
2004 2003 Change 2004 2003 Change
--------- --------- --------- --------- --------- ---------
Debt issue cost amortization $ 223,454 $ 135,535 $ 87,919 $ 589,815 $ 338,859 $ 250,956
Management & Consulting 30,696 16,455 14,241 70,194 24,436 45,758
Printing 5,631 3,175 2,456 21,277 9,923 11,354
Other marketing costs 15,214 6,205 9,009 54,423 75,377 (20,954)
--------- --------- --------- --------- --------- ---------
Total $ 274,995 $ 161,370 $ 113,625 $ 735,709 $ 448,595 $ 287,114
5
Debt issue cost amortization expense increased due to Investor Certificates and
Mortgage Participations sold since June 30, 2003. This expense will continue to
increase as new Investor Certificates and Mortgage Participations are sold.
Consulting expense is up due to the hiring of a full-time marketing manager who
is designing and implementing new marketing strategies for our Investor
Certificates, new investments and general corporate programs. Printing costs are
up due to the printing of prospectuses and marketing brochures for our new
certificates, which we began to sell in the second quarter of 2004. For the
three months ended September 30, 2004, other marketing costs are up due to
increased promotions and travel to our various broker-dealers. For the nine
months ended September 30, 2004, other marketing costs are down because be spent
the following non-recurring costs in the second quarter of 2003: 1) $9,966 in
compliance and registration costs while registering our Series E Investor
Certificates; 2) $14,770 to consultants to examine the viability of our
investing in new loan programs; and 3) $5,000 to set-up and market the Mortgage
Participation Agreements.
Selling commissions paid to brokers for selling Investor Certificates and
Mortgage Participations and costs incurred to register Investor Certificates are
paid in cash and charged as an expense over the term of the related debt. The
unamortized balance is classified as an asset on the Balance Sheet as
"Unamortized debt issue costs". The balance was $2,621,638 and $1,853,470 as of
September 30, 2004 and 2003, respectively.
Operating and personnel expenses. Personnel expenses (salaries, payroll taxes,
and benefits) for the three months ended September 30 increased $44,071 or 20%
from $225,504 in 2003 to $269,575 in 2004. For the nine months ended September
30, personnel expenses increased $201,952 or 29% from $696,719 in 2003 to
$898,671 in 2004. The increase is due to additional employees hired to handle
the Company's growth in operations. Prior to July 1, 2003, the employees were
paid directly by the Company. On July 1, 2003, Cornerstone Capital Advisors
("CCA") hired all of our employees and has billed us according to the management
agreement that is now in place.
Starting in July 2003, the Company contracted with CCA to provide all
administrative and executive personnel services. From July 1, 2003 until July
31, 2004, the agreement obligated us to reimburse actual expenses incurred by
CCA. Also, CCA was eligible to receive incentive compensation of up to 10% of
actual expenses billed to us for the prior 12 months. Effective August 1, 2004,
the original agreement was modified so that we will pay CCA as follows:
o A monthly management fee equal to 10% of our revenues from all sources
other than loan fees, loan participation revenue, and revenue received from
CCA plus 30% of loan participation revenue.
o A loan origination fee equal to 30% of the total loan fees charged by the
Company to its borrowers. The fee is generally paid from loan proceeds and
reduces deferred loan fees that we will recognize over the life of the
loan.
Please see Note 3 of the "Notes to Financial Statements" for additional
information about our agreement with CCA and for amounts that we have paid to
CCA for the three and none month periods ended September 30, 2004 and 2003.
For the three and nine months ended September 30, 2004 and 2003, operating
expenses were as follows:
Three Months Nine Months
------------------------------------- -------------------------------------
2004 2003 Change 2004 2003 Change
--------- --------- --------- --------- --------- ---------
a) Trust service/paying agent fees $ 38,063 $ 49,610 ($ 11,547) $ 112,256 $ 119,291 ($ 7,035)
b) Consulting fees 45,871 66,390 (20,519) 101,417 143,623 (42,206)
c) Audit, accounting & tax services 8,517 40,278 (31,761) 37,304 88,589 (51,285)
d) Employee recruiting costs -0- -0- -0- -0- 46,335 (46,335)
e) Depreciation & amortization 18,558 15,704 2,854 50,840 40,079 10,761
f) Office expenses 11,850 16,450 (4,600) 55,435 50,410 5,025
g) Legal expenses 13,452 35,705 (22,253) 44,306 70,135 (25,829)
h) Appraisal costs 2,500 -0- 2,500 28,708 -0- 28,708
i) Insurance 9,207 18,175 (8,968) 31,206 40,342 (9,136)
j) Other operating expenses 50,266 44,839 5,427 126,860 144,733 (17,873)
--------- --------- --------- --------- --------- ---------
Total operating expenses $ 198,284 $ 287,151 ($ 88,867) $ 588,332 $ 743,537 ($155,205)
The changes are due to the following:
a) Trust service/paying agent fees - decreased for the three and nine months
due to a decrease in paying agent fees for our investor certificates.
b) Consulting fees - In 2003, we used consultants to set up the mortgage
participation agreements and to identify new business markets in the
African American community (churches, affordable senior housing and family
housing) which increased costs over 2004. In 2004, we have continued to use
consultants to identify new business markets (affordable housing is the
main area); however our overall use of outside consultants is down because
we now have in-house people to do the work that, in past years, we would
have used outside consultants to perform.
c) Audit, accounting & tax services - Decreased due to: 1) the hiring of a
full-time accountant in the middle of 2003 which has decreased our need for
outside accounting services; and 2) in 2003, we spent $8,155 in CPA fees to
set up Wellstone Communities, Inc, a formerly wholly-owned subsidiary.
6
d) Employee recruiting costs - decreased in 2004 because we are no longer
using outside recruiting firms to hire our employees.
e) Depreciation & amortization - The increases are due to the purchase of
additional computers, software and office furniture in 2004.
f) Office expenses - The decrease in the current quarter is due to the change
in our management contract with CCA. Prior to August, 2004, CMI was
responsible for all general office costs at our corporate offices. In
August 2004, the agreement was changed and as part of the agreement, CCA is
now responsible for the maintenance and ongoing operating costs of the
office. Please see Note 3 of the "Notes to Financial Statements" for
additional information about our management agreement with CCA.
g) Legal expenses - We have used outside attorneys less in 2004 than in 2003.
h) Appraisal costs - Increased due to new appraisals being commissioned on a
number of properties which serve as collateral on senior housing and church
loans.
i) Insurance - decreased in 2004 due to: 1) lower premiums on director and
officer insurance ($1,000); 2) elimination of Workers' Comp coverage
because CCA now pays this insurance as part of the management agreement
($2,000); and 3) elimination of directors and officers insurance for
Wellstone Communities, Inc due to the dissolution of this subsidiary
($6,000).
j) Other operating expenses - increased for the three months ended September
30, 2004 due to increased travel costs related to company business. For the
nine months ended September 30, 2004, other operating costs have decreased
due to economies of scale that we have benefited from as our operations
have increased.
Income tax provision (benefit). The income tax provision (benefit) for the three
and nine months ended September 30, 2004 was ($13,123) and ($1,560), compared to
$489,829 and $268,078 for the same periods ended September 30, 2003. The net
decrease in income taxes is due to a decrease in pre-tax income and an increase
in tax-exempt bond interest. The Company's effective tax provision (benefit)
rate for 2004 and 2003 is as follows:
2004 2003
---- ----
Three Months (36.2%) 34.6%
Nine Months (0.7%) 28.9%
A reconciliation of the Company's effective tax provision rate to the federal
statutory rate is included in the attached "Notes to Financial Statements" (Note
10).
Dividends. Dividends of $155,066 and $169,085 were declared on June 30, 2004 and
2003 and paid on July 15, 2004 and 2003, respectively.
Liquidity and Capital Resources
Cash flows from operations. Net cash provided by the Company's operations for
the nine months ended September 30, 2004 and 2003 was $291,751 and $1,404,989,
respectively. This decrease was due to a decrease in net income, deferred taxes,
and cash received from loan fees and loan interest, partially offset by an
increase in depreciation/amortization expense, an increase in accrued investor
certificate interest, and a decrease in loans in process.
Investor and mortgage participation interest payable increased $2,726,187 in the
first nine months of 2004 due to an increase in outstanding debt and because
approximately 25% of the Investor Certificate holders who purchased certificates
in 2003 and 2004 have elected to reinvest the interest due to them each year and
not receive the interest in cash until maturity.
Included in the 2004 and 2003 changes in accrued real estate loan and joint
venture interest and deferred loan fee amounts is $1,186,383 and $446,471 in
interest which was financed as part of loan principal. We receive monthly
interest payments on our loans except when the terms of certain loans allow
borrowers to finance interest payments while the collateralized property is
under development or construction. A summary (by loan type) of the amount of net
financed interest for the nine months ended September 30, 2004 and 2003 is as
follows:
2004 2003
---------- ----------
Family Housing Development $ 802,756 $ 89,000
Church Construction 38,464 12,398
Real Estate Joint Venture 345,163 345,073
---------- ----------
$1,186,383 $ 446,471
The amount for 2004 represents interest accrued and financed in 2004, net of
payments received in 2004 that were financed in previous years. 2003's amount
represents interest accrued and financed in 2003, net of payments received in
2003 that were financed in previous years.
The increase in the family housing net financed interest in 2004 as compared to
2003 is due to: 1) the Company receiving $453,938 in financed interest in 2003
that was originally financed in 2002 on a major project in Mableton, GA, 2)
7
increased loan balances on six projects which are now in the development phase
and are financing their monthly interest, and 3) the addition of four new loans
since September 30, 2003 which are in the development phase of construction.
Although the amount of financed interest from these projects will remain fairly
high (currently $85,000 to $90,000 per month), the amount of interest financed
should decline starting late in the fourth quarter of 2004 and in the first
quarter of 2005 because three to five of these projects should be going into
their sales phase and we will begin to receive interest payments in cash.
The majority of the Real Estate Joint Venture financed interest for 2004 is
related to a loan in McKinney, TX that is collateralized by raw land which is
being developed for senior housing. We have been financing the interest on this
loan since June, 2003. Our other Real Estate Joint Venture Investment loans are
collateralized by existing facilities that only needed to be remodeled.
Therefore, the period in which the interest is being financed on the McKinney
loan is much longer than the other Real Estate Joint Venture Investment loans.
Normally, we finance two to six months' of interest on senior housing loans. We
anticipate, due to the size of the McKinney project that we will finance
interest for another 12 to 24 months.
Cash flows from investing activities. For the nine months ended September 30,
2004, the Company used $24,044,386 in cash from investing activities which is an
increase of $7,341,032 from $16,703,354 for the nine months ended September 30,
2003. The increase was due to the following:
Increase in real estate loans and joint venture investments made $ 5,258,962
Decrease in real estate loan and joint venture investment
principal payments received 5,104,218
Decrease in bonds purchased, net of redemptions (2,441,250)
Decrease in fixed asset purchases, net of fixed asset sales (580,898)
-----------
$ 7,341,032
===========
The increase in real estate loans and joint venture investments made in 2004 is
due to the new registration statement becoming effective on March 26, 2004. We
did not have as much time in 2003 to originate new loans as we have had in 2004.
This trend should continue in the fourth quarter of 2004 as we invest the cash
that we have received from new investor certificates and stock issuances.
The decrease in real estate loan and joint venture investment principal payments
received is due to a large principal pay-off received in 2003 on a real estate
joint venture investment in Largo, FL.
The decrease in fixed asset purchases is due to the purchase an office
condominium in 2003 to house our corporate offices and to provide office space
for future growth.
Cash flows from financing activities. For the nine months ended September 30,
2004, the Company raised $31,178,614 from the sale of Investor Certificates and
Mortgage Participation Agreements. This represents an increase of $6,760,031
from new Investor Certificate and Mortgage Participation sales of $24,418,583
for the nine months ended September 30, 2003. In 2003, we had no registered
Investor Certificates for sale after May, 2003. We have been able to sell new
Investor Certificates since March 26, 2004 which has been the reason for the
increase over last year.
Investor Certificates redeemed for cash decreased from $3,449,495 for the nine
months ended September 30, 2003 to $3,336,245 for the nine months ended
September 30, 2004. In both 2003 and 2004, we redeemed early certain Investor
Certificates to reduce our average interest rate and to extend the length of
time that our certificates will be outstanding. In 2003, we called approximately
$2,000,000 in certificates related to the church bond fund. In August, 2004, we
called all 9% five year Investor Certificates with a maturity date of March,
2005. We gave each investor the option to receive cash or new Series E Investor
Certificates (8.25% interest rate) as payment for the certificates that were
being called. The total amount called and the amounts paid in cash and
reinvested in new certificates were as follows:
Principal Interest Total
---------- ---------- ----------
Amounts paid in cash (28%) $1,276,823 $ 253,918 $1,530,741
Amounts reinvested (72%) 3,258,145 647,779 3,905,924
---------- ---------- ----------
Total called/early redemptions $4,534,968 $ 901,697 $5,436,665
We have $12,102,147 in Investor Certificates coming due or redeemable upon
demand in the next 12 months. $9,747,163 of this amount is for graduated
certificates, which allow an investor to redeem their certificate each year on
the anniversary date of the purchase. Based on our historical experience, we
expect that less than 20% of the graduated certificates will be redeemed for
cash during the next 12 months. Also, $327,953 in five year bonds will mature in
March, 2005. Our historical experience indicates that over 75% of the maturities
will be reinvested into new Investor Certificates, but there is no guarantee
that this will happen. We will ensure that we have enough cash available to
handle these maturities.
Among the measures we take to mitigate any demands for cash are:
o Maintain a minimum cash balance, normally no less than $3,000,000.
8
o Have readily marketable loans that can be sold for par or a premium.
o Ask investors their intentions at least 30 days before their bonds mature.
o Have a bank willing to extend credit lines if needed.
o Spread maturity dates throughout the year.
o Limit each investor to not more than $500,000 maturing in any three-month
period.
We believe that cash on hand, cash generated by operations and expected
refinancing and pay-offs of existing loans, will be sufficient to meet our
financing and capital needs for the coming year. The amount and timing of our
future capital requirements will depend on factors such as the origination and
funding of new investments, any opportunities for acquisitions of related
businesses and the overall success of our marketing efforts for certificates,
shares and any other securities.
Item 3. Controls and Procedures
The principal executive officer and the principal financial officer of the small
business issuer, Cornerstone Ministries Investments, Inc., have, as of September
30, 2004, evaluated the small business issuer's disclosure controls and
procedures, as defined by Sections 13a-14(c) and 15d-14(c) of the Securities
Exchange Act of 1934. Based on their evaluation, they have concluded that those
disclosure controls and procedures are designed and implemented effectively to
ensure that information required to be disclosed by the small business issuer in
the reports that it files or submits under that Act is recorded, processed,
summarized and reported, within the time periods specified in the Commission's
rules and forms.
Part II. Other Information
Item 1. Legal Proceedings
Not Applicable
Item 2. Changes in Securities
Not Applicable
Item 3. Defaults upon Senior Securities
Not Applicable
Item 4. Submission of Matters to a Vote of Securities Holders
Not Applicable
Item 5. Other Information
Not Applicable
Item 6. Exhibits and Reports on Form 8-K
(a) (1) Exhibit 99.1, Certifications pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
(2) Exhibit 15, Letter on un-audited interim financial information.
(b) No reports on Form 8-K were filed during the quarter for which this report
is filed.
Signatures
In accordance with the requirements of the Securities and Exchange Act, the
registrant caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
Dated: November 10, 2004 Cornerstone Ministries Investments, Inc.
(Registrant)
By: /S/John T. Ottinger
--------------------------------------------
John T. Ottinger
Vice President and Chief Financial Officer
9